Canada: Alberta Solvency Reserve Accounts: An Answer To Trapped Capital?

Defined benefit plan sponsors in Alberta (and soon British Columbia) should carefully consider taking advantage of recent (and forthcoming) legislation in those provinces permitting them to establish solvency reserve accounts (SRAs) as an effective way of funding their plans and avoiding the much dreaded "trapped capital" concerns that have often undermined defined benefit (DB) plan security over the last several decades.

Sponsors have traditionally viewed themselves as being vulnerable to the risks associated with restrictive surplus withdrawal rules and accounting treatment if their DB pension plans are more than 100% funded on a wind up basis for any significant period. To better manage these surplus-related concerns, many sponsors prefer to run their plans at a slight deficit, or where allowed, to partially replace traditional plan funding with an expensive letter of credit security.

The irony is that the desire to avoid trapped capital risk may produce results which are completely at odds with one of the primary goals of pension legislation – the adequate protection of member benefits.

For years, Ontario and other jurisdictions have been urged to resolve the trapped capital problem with no solution yet in sight, other than market volatility and low interest rates keeping surplus at bay. In 2009, the Joint Expert Panel on Pension Standards (JEPPs), a collaborative effort of the Alberta and BC governments, produced an enlightened report recommending many useful reforms, including the establishment of SRAs. SRAs, once established, are intended to enable a sponsor to fully fund its pension plan without risking the imposition of surplus-related restrictions on the use or withdrawal of excess plan assets. This would, for example, eliminate the question of surplus ownership on plan wind up in favour of the employer with respect to the portion of such surplus attributable to the SRA.

Following the recommendation in the JEPPs report, both Alberta and BC have since introduced pension reform legislation which includes SRA provisions. The BC legislation and related regulations are not yet in force, however, the Alberta SRA rules are now available to sponsors effective September 1, 2014. Alberta Finance has released draft Interpretive Guideline #07 (for industry/stakeholder comment) to explain how SRAs can be established and maintained. We expect that a BC SRA will be subject to similar rules.

The main considerations in establishing an Alberta SRA are as follows:

• Per s. 54 of the Employment Pension Plans Act (EPPA), an SRA is a separate account within a pension plan fund that is established to hold solvency deficiency payments made under the DB component of a pension plan.
• Section 54(5) of the EPPA states that the withdrawal of surplus from an SRA is permitted despite any wording in a plan document, however, because of potential ambiguities in this wording (i.e., query whether a trust agreement is a "plan" document), the SRA should be established through a new and separate trust agreement under the plan which is filed with the regulator, as well as the Canada Revenue Agency.
• SRAs can be established for single employer plans, as well as multi-employer plans.
• Only solvency deficiency payments and related s. 90(3)(a)(ii) top ups may be deposited into an SRA. Previously made solvency deficiency payments cannot be transferred into an SRA, however, the face amount of existing letters of credit being used to secure pre-September 1, 2014 unfunded solvency liabilities may be deposited into an SRA in conjunction with eliminating letter of credit security in favour of actual funding.
• A withdrawal of surplus funds from an SRA in an ongoing plan is permitted, with Superintendent consent, when the solvency asset value exceeds 105% of the solvency liability value, as determined in the most recently filed plan valuation per the requirements of s. 65 of the EPPA regulations. (Section 65 also requires disclosure to members in their annual statements).
• If the plan is terminating, or in the case of a multi-employer plan, a participating employer is terminating its membership, then the employer may, with Superintendent consent and in accordance with s. 66 of the EPPA regulations, withdraw surplus funds in the SRA once all related benefits have been paid.

The SRA surplus withdrawal provisions referred to in the last two bullets require further analysis, particularly given the Superintendent consent requirements. The objective of establishing an SRA is to eliminate any uncertainty over an employer's ability to take money out of the account to the extent it is not needed for pension funding or security, based exclusively on the prescribed quantitative and benefit payment tests. Does Superintendent consent introduce a discretionary unknown that could restrict or defeat an SRA withdrawal application that has otherwise complied with the quantitative and benefit payment rules in s. 65 and 66 of the regulations? These sections deserve a closer look.

Section 65 of the regulations deals with ongoing plan withdrawals as follows:

• Section 65(2)(d) requires Superintendent consent that has not been revoked under s. 65(3);
• Section. 65(3) states that if "the Superintendent is of the opinion that it is appropriate to do so, the Superintendent may revoke his or her consent to a withdrawal of "actuarial excess" (surplus) and direct the administrator to cease" the withdrawal from the SRA.

Section 66 of the regulations deals with withdrawals from a terminated plan. It requires Superintendent consent and that the Superintendent be provided with certain information.

In both sections 65 and 66 the Superintendent's consent appears to be discretionary, subject we assume to the over-riding provisions of the EPPA (s. 54) to the effect that withdrawals can occur despite any wording in the plan text. Other than taking comfort from s. 54, however, an employer reading the regulations may be legitimately concerned over how the Superintendent's discretion could be exercised and whether any extraneous factors might creep into the process to cause a problem.

After reviewing this issue with the Alberta regulator, our view is that the current intention is to administer sections 65 and 66 as conferring a gatekeeper function on the Superintendent – that is, to treat the consent requirement as being in place to ensure administrator compliance with the prescribed actuarial and benefit payment requirements under the sections as opposed to conferring a broader discretionary power on the Superintendent. Hopefully this will eventually be clarified in the Guideline.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.