Re-Defining Defined Contribution Plans

February 2018

Executive Summary

With a growing number of Canadian employees facing a retirement funding shortfall, some plan sponsors have worked to enhance defined contribution schemes by adopting an “institutionalized” approach to plan construction.

Some 7 in 10 Canadian employees who belonged to a registered pension plan were enrolled in a defined benefit (DB) plan, one that guarantees workers a pre-determined payout at retirement irrespective of market fluctuations, often covered entirely by the employer. While Canada remains well ahead of the U.S. in terms of DB coverage (by comparison only five per cent of U.S. employers offer new hires traditional DBs, according to Willis Towers Watson), in recent years these plans have gradually ceded ground to defined contribution (DC) plans, which are funded by payroll deductions and require workers to monitor their own investment choices.

Thought to be less expensive and easier to administer as compared to DB plans, DCs nonetheless present some challenges. For one, DC plans traditionally tread lightly in the alpha-generating alternatives space; furthermore, final payout sums are unknown and can vary based on one’s total contributions and investment performance. Additionally, employees with guaranteed, paid-in-full DB coverage may be reluctant to switch to employers offering DC plan benefits only.

Many believe that putting more of the pension burden on the employee could lead to a dramatic increase in the number of individuals with insufficient retirement funding, a trend that is likely to continue particularly as DC plan usage becomes more widespread. Employees themselves appear willing to take action: data from Willis Towers Watson found that nearly two-thirds would favour a larger payroll deduction in return for a fully funded retirement. Accordingly, sponsors that can provide viable retirement plan alternatives may have an edge in terms of attracting and retaining employees over the long haul.

Enhancing Defined Contribution Plans

With a growing number of Canadian Baby Boomers and Gen X’ers preparing to leave the workforce, as well as Millennials considering their retirement more closely, some plan sponsors have considered an “institutionalized DC” approach to help better equip their members for retirement. This has included infusing DCs with DB-like attributes, such as offering lower-cost alternatives such as separately managed accounts in place of conventional mutual funds.

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