Sadly, there has been a lot of news lately about workers losing a lot of their pension savings when their employers pursue bankruptcy. For example, here are stories about Nortel and GM workers pensions. I have received numerous comments over the months expressing surprise and shock that pensions are not somehow protected against this eventuality. Therefore, I have sought out a pension and bankruptcy expert to help explain how this area of the law works.
Simon Archer works at the law of firm of Koskie, Minsky in Toronto, one of the country’s leading firms in pensions and benefits law and bankruptcy law. I asked him to explain how the law deals with pensions during bankruptcy proceedings. His response was so through and interesting, that I have elected to break it into two parts. Here is Part One, which explores the law. Part Two, tomorrow, will explore some of the interesting policy issues being debated in this fascinating and complicated area of law.
Here’s Part One of Simon’s Guest Blog:
It seems that we are entering a period of significant restructuring in the Canadian economy, in part brought about by the turmoil in the credit markets and in part the “working through” of long term trends in traditional manufacturing sectors. These changes will involve several insolvenies of private companies, the most high profile of which are financial institutions in the U.S. and “old economy” firms like GM or Abitibi.
Employees are vulnerable during these restructurings for a whole host of reasons. among the risks and dangers they face, employees and retirees may lose their pensions. Although there are some protections in our pension system, they are and will be tested by the restructuring that characterizes this recession.
To begin with, occupational pension plans — those plans sponsored by employers or both employers and employees — have had a difficult year. These plans come in essentially two flavours: defined contribution plans, which are like RRSPs, and defined benefit plans, in which employers guarantee a monthly payment on retirement.
Defined contribution plans, which account for about 20% of all pension plans, lost perhaps 30% of their value last year, with little prospect of recovering those losses in the short term. Just like RRSPs, in these plans, employees are exposed to the vagaries of the capital markets, and most pariticularly interest rates and asset prices. Both are currently working against DC plans and RRSPs.
Because far fewer people have DC plans and because they are much less complicated, this post will focus on defined benefit plan issues.
Defined benefit plans are funded by money set aside by the employer. Any deficiency in that pool of money must be made up by the employer. Just as DC plans took a hit last year, so did pools of money set aside to fund DB plans. This means employers must increase their payments to the DB plan to make up for losses.
If an employer becomes insolvent, and enters restructuring proceedings, the fate of these plans depends upon the type of proceeding and the funded status of the plan.
The first issue is the form of proceeding: if an employer is insolvent and will be liquidated and wound up, then the pension plan will likely be terminated and wound up. In a defined benefit plan, an employee is entitled to the benefits they have accrued to date. If that plan is under-funded, then the employee will receive a reduced amount. How much it is reduced depends on two things: the degree to which the plan was under-funded, and second, if you are lucky enough to live in Ontario, the amount that each employee can receive in benefit insurance from the Pension Benefit Guarantee Fund. This fund, which is industry-funded but government managed, guarantees up to $1,000 worth of pension benefits per employee per month. That level was set in 1982 and has not risen since, but it is better than nothing.
So, in short, if the plan is terminated and wound up while under-funded, as many are today, and the company is insolvent, then employees and retirees will get less than they were promised. For example, Nortel is currently in insolvency proceedings, and according to the monitor, its plans are funded at somewhere between 69% and 86%. If the plans were wound up today, and all other things being equal, the employees and retirees would receive between 69% and 86% of their full promised benefits.
As an aside, the PBGF is a somewhat controversial beast. Only Ontario provides this kind of protection for private pension arrangements, which are in theory self-insured, but which have in the past used government loans to keep plans afloat. The McGuinty government has passed legislation to make it very clear that it will not back the PBGF and has no obligation to — it will only consider bailouts on a case by case basis. However, both the U.K. and the U.S. also employ this kind of pension insurance fund, and they appear to be an indispensable part of a private pension system. Several commentators have suggested the creation of a national pension benefit insurance scheme like the PBGF. [Here is a paper by York’s Mario Jemetti reviewing some of these issues, and here is another paper that considers the PBGF by Fiona Stewart from a comparative perspective (the Ontario model is discussed starting on p. 21]
If a company goes into restructuring with a view to emerging as a viable going concern — as with most restructurings under the Companies’ Creditors Restructuring Act — then the fate of the pension plan is less certain. In that situation, the company may just decide to terminate the plan, in which case it will be wound up as discussed above. On the other hand, employees and retirees may be asked to “contribute” to the restructuring through concessions on the pension plan or on the contributions to the pension plan. For example, the last time Air Canada went insolvent, employees and retirees agreed to permit Air Canada to defer the payments it would normally have to make to ensure there was sufficient money set aside to fund the pensions. This deferral was intended to give Air Canada time to generate a stable cash flow and slowly improve the funding of the pension plan. Parenthetically, the new investors did very well in Air Canada, but the pension plans remain significantly under-funded.
A second major factor influences a pension plan in the CCAA – the collective agreement, if there is one. Collective agreements enjoy a special status in a CCAA proceeding. Unlike most other contracts, they may not be unilaterally altered by the company or the monitor in a CCAA proceeding. The Supreme Court came to this view in a case called TCT Logistics, and it has been recently applied in the Abitibi proceedings in Quebec. Recent amendments to the CCAA (not yet in force) enshrine this principle, and ensure that a collective agreement may not be unilaterally terminated, but that a court may order the parties to enter negotiations to amend it. [Here is our firms’ description of the TCT Logistics case]
This is relevant because, to the extent that a pension plan is incorporated into a collective agreement — in the lawyers’ argot, “Weberized” — it may also not be altered unilaterally by the employer. If, on the other hand, it is not Weberized or there is no collective agreement, then the employer or the monitor may unilaterally alter the plan.
If there was no collective agreement, it is possible an employer or monitor would seek to alter the plan, but not terminate it. Such a situation would lead to a major undecided issue in pension and insolvency law — the jurisdiction of the court versus the jurisdiction of the pension regulator. This question has been assiduously avoided by all parties in these proceedings. Most pension statutes prohibit the reduction of “accrued benefits” — benefits accrued to date, unless a plan is wound up and the employer is insolvent. Could an insolvency court order the reduction of “accrued benefits” where the employer is hoping to emerge as a going concern? Does it have the jurisdiction to do so, when usually only the regulator administering the statute would have such jurisdiction, and have, in the past, opposed such actions outside of insolvency? We may find out this round of restructuring.
In the situation in which a pension plan is wound up and the employer is actually solvent, there are some other considerations. There is an obligation under the Ontario Pension Benefits Act to fully fund a pension plan when it is wound up (Section 75). All jurisdictions in Canada require this, excepting Saskatchewan and the federal jurisdiction, for reasons no-one clearly articulates. In fact, the federal Pension Benefits Standards Act appears to require this “terminal funding”, but the matter is debated.
Again, if you are lucky enough to live in Ontario or Nova Scotia, employees may also be eligible for “grow ins” upon termination of the plan. These are statutory rights that provide that, when plans provide early retirement benefits, and long-service employees have sufficient seniority, those benefits must be provided to employees when the plan is wound up. In Ontario, the threshold is age plus years of service that combine to 55. This only applies, remember, to plans that already have early retirement benefits.
Great overview. Check back tomorrow for Part 2 of Simon’s Guest Blog on pensions and bankruptcies.