OTTAWA—Canadian pension experts are praising a government proposal to temporarily relax pension funding rules, but more changes are needed to improve the regulatory environment for defined benefit plans in Canada, they say.

The move to relax pension funding rules at the federal level will alleviate some of the pressures on defined benefit plan sponsors, a move that observers hope the provinces--which have jurisdiction over pensions provided by companies within their borders--will emulate.

The proposal, though, does not address more important pension issues, namely the ownership of pension surpluses and the possibility of a federal pension guaranty fund similar to the Pension Benefit Guaranty Corp. in the United States, observers say.

The Canadian federal government has proposed revamping pension funding rules temporarily to give sponsors of the defined benefit plans it regulates more time and flexibility in funding pension deficits.

Under the proposal, the schedule for funding deficits would be extended from five years to 10 years on the condition that plan members are fully informed and that no more than one-third of current plan members or retirees object to the change. In addition, plan sponsors could extend the funding period to 10 years if the difference between the five-year and 10-year payments is secured by a letter of credit.

"It strikes a balance between recognizing that companies have rather large deficits to address while at the same time still protecting the interests of plan members," said Stephen Pibworth, legal consultant for Hewitt Associates Canada in Toronto. "I think there's going to be a lot of federally regulated pension plans that are going to take advantage of these temporary funding measures."

Plan sponsors praised the proposal to allow the use of letters of credit to meet funding requirements. "We think it's a positive step," said Scott Perkin, president of the Toronto-based Assn. of Canadian Pension Management, which represents plan sponsors in Canada.

Utilization of letters of credit, despite the costs involved, is likely to be the more popular option among plan sponsors because they may have difficulty obtaining the required level of member consent to extend the funding schedule, Mr. Pibworth said.

The funding relief measures will only be available to plan sponsors whose funding payments are up-to-date and only available for the first valuation report filed with the Office of the Superintendent of Financial Institutions--Canada's federal pension regulator--before 2008. OSFI has statutory jurisdiction over pension plans in major financial sectors, such as banking, insurance and transportation, and estimates that about 72% of the roughly 1,200 pension plans it regulates were underfunded last year.

While the federal government regulates only 10% of the pension plans in Canada, observers say they are hopeful that its decision to relax funding rules will encourage some of the provinces--which have jurisdiction over pension plans outside of the major financial sectors--to take similar actions. Quebec has made such changes, but Ontario--home to more than 2,800 defined benefit plans--has not. The move by the federal government may encourage Ontario to at least put this issue on its agenda, Mr. Perkin said.

The proposed funding changes came as a result of a consultation on pension legislation and regulation conducted by the Department of Finance Canada last year. The department's paper asked for opinions on several pension issues, including whether pension funding schedules should be relaxed and whether a federal pension guaranty fund would be viable in Canada.

While plan sponsors and consultants viewed the planned changes positively, they noted that the proposal does not address key issues that are more problematic for plan sponsors. "I think what this will do is it will provide some temporary relief," Mr. Perkin said. "We still believe there are other problems in the system that need to be resolved."

In particular, the issue of asymmetry of surplus/deficit ownership--in which plan sponsors are responsible for paying off deficits, but may not be entitled to plan surpluses--is widely seen by employers as a disincentive to adequately fund their plans. This issue was thrust into the spotlight by a controversial Supreme Court of Canada decision in the Monsanto pension case (BI, Aug. 9, 2004).

In that ruling, Canada's high court upheld a regulatory determination that the Ontario Pension Benefits Act requires the distribution of a proportional share of actuarial surplus when a defined benefit pension plan is partially wound up. A partial wind-up refers to the termination of part of a pension plan and the distribution of the assets of the pension fund related to that part of the plan.

The Monsanto decision "greatly exacerbates the asymmetry issue as defined benefit plans are further exposed to paying out surplus that results from responsible and conservative pension funding practices or a temporary fortuitous financial market development," said Vancouver, British Columbia-based TELUS Corp. in its filing to the Department of Finance during the consultation process. TELUS sponsors seven defined benefit plans with aggregate liabilities of about $5.4 billion Canadian ($4.85 billion).

The other major issue that the department sought opinions on was the possible creation of a pension guaranty fund at the federal level. Ontario has a fund that provides protection for Ontario workers under most defined benefit plans that is funded by plan sponsors through annual assessments. But several major bankruptcies have given the fund a deficit of $237 million Canadian ($212.8 million). A recently introduced bill in Quebec would create a similar fund in that province.

"ACPM is not opposed to the idea of a guaranty fund--we're just not convinced it works," Mr. Perkin said. "We're not convinced guaranty funds work because we don't think they're structured as true insurance schemes and funded accordingly."

"A pension guaranty fund could be a disincentive for some plan sponsors to act prudently, especially when the financial situation becomes precarious," said Montreal-based Bell Canada in its submission to the department. "Such a fund could result in an inflated cost for plan sponsors with a sound financial position." Bell Canada has a federally regulated plan with assets of about $10.7 billion Canadian ($9.61 billion).

None of these issues were addressed in the recent federal budget, which is where the proposal regarding pension funding rules was featured. "I think eventually they're going to have to deal with those bigger issues," said David Burke, retirement practice director for Watson Wyatt Canada in Montreal. Relaxing the funding rules "doesn't change the fundamental issues."