Pension buyouts cheaper for Canadian companies, Mercer says

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Canada has the lowest prices for corporate pension "buyouts" of four major comparable countries, according to a newly launched index to track annuity pricing.

Pension consulting firm Mercer said Tuesday it has begun tracking and comparing the costs companies face if they opt to shift the obligations for their employee pension plans by purchasing annuities from an insurance company.

Costs in Canada are lower than in the United States, Britain or Ireland, Mercer said. Canadian companies pay prices 5 per cent higher than their equivalent accounting pension liability to buy annuities to replace their pension obligations, while British companies pay 23 per cent more, Irish companies pay 17 per cent more and U.S. companies pay 8.5 per cent more.

The consulting firm has created the new index because more pension plans in all four countries are in a position to do pension buyouts as pension funding improves and companies do not have large deficits that have to be funded.

Hrvoje Lakota, head strategist in Mercer Canada's de-risking solutions group, said the funding improvement has created a bigger market in Canada for annuity purchases.

"For the first time in more than a decade, some plan sponsors are in an enviable position where they can discharge their pension obligations and take them off their books without having to make additional cash contributions," he said. "As a result, 2013 was a record year for the Canadian annuity market, and we expect to continue to see significant growth in the coming years."

Companies do annuity buyouts to cover their long-term pension obligations, which means an insurer essentially takes over the risk of funding the pensions. A similar practice occurs when a company goes bankrupt and must shut down its pension plan, but there has more recently been a growing international trend of companies voluntarily doing pension buyouts as a strategy to shift their pension risks off their books.

While buyouts are increasingly common in Britain and the United States, Canada has so far seen relatively fewer strategic deals, and no major ones involving large high-profile companies.

Mercer Canada retirement leader Paul Forestell said the new index will be updated monthly, which will allow companies to track pricing and choose an opportune time to do a pension buyout.

Pricing trends could also help companies compare whether it is more affordable to do other "derisking" strategies, he said, and could help multinational countries decide whether to buy annuities for their pension obligations in some countries but not others.

Mr. Forestell said he predicts Canada will see at least one major pension buyout in 2014 as more employers study the options.

He said most of the difference in annuity pricing between countries is due to the varying nature of pension plans in those countries and not to local pricing differences among insurance companies in each market.

British pensions are more expensive to annuitize, for example, because they offer full inflation indexing, which is an expensive benefit for an employer to offer. Private sector pension plans in Canada and the United States rarely offer indexation to their members.

Mercer said Canadian buyouts are slightly cheaper than U.S. buyouts because Canadian pension plans have adopted new higher mortality rates for their plan members based on growing lifespan data, while U.S. pension plans are using older lower mortality rates. That means insurers in the U.S. have to add an extra pricing cushion to account for longer life expectancies by pension plan members.