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Sears Canada has given us reason to be thankful for inferior pension plans

Apparently, Sears Canada can't interest you in kitchen appliances, golf pants, tube socks, luggage or any of the other miscellaneous items found in its stores.

Now, what about defined-contribution pension plans? The struggling retailer, now under court protection from its creditors, has done a great job lately of selling people on the attributes of this second-best type of pension plan.

The best pensions are defined-benefit plans, although the Sears Canada story suggests it's time for a rethink. If you have a DB pension, you need to find out how solid it is and adjust your retirement-savings level as required. If you've got a DC plan, let Sears Canada demonstrate a big advantage of this type of pension.

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A DB plan, ideally, offers preset payments for life based on your years of service and salary level. But as Sears Canada has shown, a DB pension can only deliver in full if your employer is financially healthy enough to fund the plan properly.

With a DC plan and similar group registered-retirement savings plans, you save for retirement with contributions from your employer. On leaving the work force, it's up to you to convert your savings into retirement income. DC plans expose you to stock-market crashes, investment fees, bad decision-making and more. Where they beat DB plans cleanly is in giving you property rights.

Keith Ambachtsheer, president of pension consultants KPA Advisory Services, says property rights in the pension world boil down to this: "Whatever you're being promised, is it really your property? Or, is it someone making you a promise that's uncertain."

A DB pension, even offered by a solid entity like a government or blue-chip company, can never really be your property and a DB plan from a shaky company like Sears Canada is even more tenuous. But a DC pension, with all its drawbacks, is truly your property.

Sears Canada now offers a defined-contribution plan, but it maintains a defined-benefit plan for retirees and long-serving employees. Mr. Ambachtsheer says corporations started offering defined-benefit pension plans in the 1950s, a time of great optimism about the long-term prospects for corporate profits and investment gains. In the 1990s, companies started to realize that DB pensions were a drag on both profitability and flexibility.

Quite a few companies today, Sears Canada among them, have DB pension plans that are underfunded. This means that if the company were to be wound down, there wouldn't be enough money in the pension to pay the full amount expected by current and future retirees.

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Sears Canada has been injecting what Mr. Ambachtsheer calls "make-up payments" into its DB pension on a monthly basis. But the company's restructuring plan calls for these payments to be made only until Sept. 30. With the Sears DB pension underfunded by roughly $267-million, this is a real concern for people who currently receive retirement benefits or expect to in the future.

The risk is that retirement benefits in the DB plan would have to be reduced from what employees have been expecting. Mr. Ambachtsheer says this is an uncommon occurrence in the DB pension world, but it has happened. Nortel Networks is one example.

Public-sector DB pensions are the safest of their kind because governments can raise taxes to meet their obligations. If you have a corporate plan, go to your HR department and ask for documentation on the plan's funding level. Mr. Ambachtsheer said DB plans are subject to a periodic actuarial analysis. "You need to be aware of the funded status of the plan and the financial strength of the corporation behind the plan," he said. "Those are factors people should be aware of."

Vigilance is required with defined-contribution pensions, but in a different way. You need to ensure you have a sensible mix of low-cost investments working for you, and that you're maxing out on matching benefits from your employer. On retirement, you must recalibrate your whole investing plan as you stop accumulating money and start spending it in the form of retirement income.

"The positive side of a DC plan is that people have clear property rights," Mr. Ambachtsheer said. "They own units in that plan – no one can take them away."

Video: Money Monitor: What to be wary of when borrowing in retirement (The Canadian Press)
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About the Author
Personal Finance Columnist

Rob Carrick has been writing about personal finance, business and economics for close to 20 years. He joined The Globe and Mail in late 1996 as an investment reporter and has been personal finance columnist since November 1998.Rob's personal finance columns appear in The Globe on Tuesday and Thursday, and his Portfolio Strategy column for investors appears on Saturday. More

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