Study warns of funding shortfalls for pensions

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North America's major pension plans have seen their cumulative funding shortfall balloon to more than $389-billion (U.S.), leaving many plans facing critical funding shortfalls, a new study shows.

A pension study by debt rating agency DBRS Ltd. shows the majority of 451 major Canadian and U.S. pension plans that were examined are entering the "danger zone" where their funding shortfall is so large it is not easily reversed. The shortfalls are the result of weak markets harming the investment portfolios of pension plans, as well as declining interest rates hurting returns and boosting the funding obligations for future retirees.

DBRS said 53.4 per cent of the pension plans it studied had assets below 80 per cent of their funding obligations at the end of 2011, which means their funding shortfall had passed the 20 per cent level. That compares to 45.7 per cent of pension plans with funding falling below 80 per cent in 2010.

While there is no official measure of adequate funding for a pension plan, DBRS said it considers 80 per cent to be a reasonable level of shortfall that companies can recover from fairly easily. Below that level, the gap is so large that it becomes more difficult to fund.

The growing shortfall is putting stress on employers, who are obligated to make contributions to their pension plans to return them to fully funded status, typically within five years.

DBRS said the 451 pension plans studied – including 65 Canadian plans – had a combined financing deficit of $389-billion at the end of 2011, up 32 per cent from $294-billion at the end of 2010.

"For companies to address this funding gap, employers will have to maintain high levels of contributions, as many plans have now entered the danger zone of funded status," said DBRS senior vice-president James Jung.

A DBRS report last year presented a possible scenario where pension plans could return to fully funded status by 2012 if investment returns improved and interest rates climbed. The firm said the actual results in 2011 "differed materially" due to low interest rates, and DBRS does not expect full funding to be achievable before 2014 at best.