ARCHIVED - Expenditure Review of Federal Public Sector - Volume One - The Analytical Report and Recommendation

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14. Specific Compensation Issues Relating to Pensions and Other Benefits

Pensions

Chapter 7 in this volume demonstrated that the various federal public sector pension plans are among the best in the country in terms of both their security and the value they provide to plan members. The features that offer retirement without penalty as early as age 55 with 30 years of service, or in some cases at an earlier age or with less service, are particularly attractive, especially when combined with full protection against inflation.

In principle, it is sound public policy to offer a generous pension regime for public servants. Freed from the worry of providing for a dignified retirement, long-serving public servants have little temptation to take advantage of their position to enrich themselves through abuse of their positions. This aspect of sound governance is seldom discussed in public, but we need only observe practices in countries where public sector compensation is inadequate, to see the costs incurred in economic inefficiency and mutual mistrust, where public servants cannot be relied on to act with integrity.

However, those who benefit from such a regime should share the costs fairly with the society they serve. As we illustrate in Volume Two, the proportion of current service pension costs borne by the employees in the principal federal Public Service Pension Plan fell from more than 40% through most of the 1990s, to only 26% in 2002–03. Members of the other federal public service plans pay a still lesser proportion. It has now become essential to raise employee pension contributions in order to restore greater equity between taxpayers as a whole and public servants in the funding of the latter's pension benefits. This process should continue until employees contribute at least 40% of current service pension costs.

The best formula for regaining a reasonable balance is debatable. In 2002-03, contribution rates were 4% of salary below $41,100 (in 2005), a level known as the Year's Maximum Pensionable Earnings (YMPE), and 7.5% above that level. Because the largest part of the public service salary mass falls below $41,100 (about two thirds of what is paid to public servants),^[207] most of the increased contribution will need to be financed in this area.

The Treasury Board President announced in July 2005 the Treasury Board's decision to phase in contribution increases over several years until the rates reach 6.4% below the YMPE, and 8.4% above that level. Since employees also contribute 4.95% of salary to the Canada/Quebec Pension Plans^[208], the total pension contribution below the YMPE will amount to 11.35%. Clearly one could juggle these figures, as well as the speed at which the new rates are implemented. The bottom line, however, is that the recent Treasury Board decision is a reasonable approach to preserving a generous but appropriate pension plan by ensuring public servants pay an equitable share of the costs.

In Volume Two we show that, for various reasons, members of other federal public sector pension plans (i.e. members of the Canadian Forces, regular and civilian members of the RCMP, federally appointed judges, and parliamentarians) pay a lesser proportion of current service pension costs than public servants. The Treasury Board decision implements what is likely the best course in regard to these plans, by raising member contributions in line with the increases adopted for the main plan. This will not bring member contributions in these plans to the 40% level but at least it will preserve the existing relativity among the plans.

Beyond the basic issue of fair financing, however, there have been several other matters for debate in federal public sector pension policy. The most prominent relates to the way that the Public Service Pension Plan is integrated with the Canada and Quebec Pension Plans. There is an important change in how the Public Service Pension entitlement is calculated at age 65, which is the expected age at which retirees begin to collect their CPP or QPP pensions. At that point, the Pension Plan pays only 1.3% per year of eligible service, times the average of the best five years' salary, on that portion of the average that is below the income level covered by the CPP/QPP (YMPE). The benefit rate is 2% per year of service above the CPP/QPP income threshold, and for a retiree's whole eligible salary before the age of 65.

Until recently, the gradual phasing in of the CPP/QPP meant that this change at age 65 actually benefited most public service pensioners. But under current rules, by 2008 most public service retirees would find that the combination of their CPP or QPP pension and their Public Service Pension below the YMPE do not add up to 2% per year of service times the average of their best five years' salaries. Because this issue only affects the proportion of pensionable income below the YMPE (again, this is $41,100 in 2005), those with lower incomes would feel the impact more acutely.

Whether or not this problem was fully anticipated when the CPP/QPP plans were established in the 1960s, there was little urgency to addressing the matter until recently. Although detailed descriptions of the Public Service Pension Plan have explained what happens at age 65, the general understanding among public servants has been that the Plan pays 2% per year of service. So as this becomes untrue below the YMPE, especially for those with relatively lower incomes, dismay will no doubt emerge. Adjusting the public service plan so that most or all of the gap is eliminated would increase the liability by about $1.3 billion, and the annual cost by about $60 million. The Treasury Board President announced in late 2005, on behalf of his colleagues, the Ministers of Public Safety and National Defence, the sensible decision to propose that Parliament amend the Plan to deal with this emerging issue as close as possible to the time that the employee contribution rates are increased towards the level needed to cover 40% of current service costs.

The second topic is the broad matter of the contemporary suitability of the existing design of the Public Service Pension Plan. As we described in Volume Two, there have been numerous adjustments over the years to the Public Service Superannuation Act (and the other related statutes covering the Canadian Forces, the RCMP, parliamentarians and federally appointed judges). Despite these changes, however, there remain such issues as age of retirement, flexibility in survivor benefits, career movement and equality of financing and benefits.

Age of retirement

Should the Plan continue to encourage long-service employees to retire as early as age 55? With the general aging of the population, experienced and healthy older employees may become increasingly desirable assets. It appears that long-service employees can maximize their expected lifetime value from the Public Service Pension Plan if they retire as soon as they can do so without a penalty. So persuading such employees to continue contributing would likely require some policy changes favouring additional service that would be attractive to them.

Would it make sense to permit additional accumulation of pension entitlements beyond the existing 70% level? Should we raise the minimum age for retiring with an unreduced pension? Could we devise a system whereby employees eligible for a pension could work part of the year and receive a combined pension and salary equivalent to their salary at the time of becoming entitled to an unreduced pension?

Flexibility in survivor benefits

Should there be more flexibility in survivor benefits? The existing rules in theory provide less than the 60% of member benefits required by most pension benefits legislation, yet in some cases survivor benefits exceed the 66 2/3rds^[209] maximum level permitted under the Income Tax Act. As the family continues to evolve and be redefined in Canadian society, is it time to rethink a regime that was designed when most families relied on a single––usually male––breadwinner?

Career movement into and out of the Public Service

Is the Public Service Pension Plan sufficiently adapted to facilitating career movement into and out of the public service over many years? The Public Service Pension Plan is now exceptionally portable in the sense that after two years, those leaving the public service can transfer their entitlement to many external plans, or take out a cash amount equal to the actuarial value of their accumulated entitlement. However, because the Public Service Pension Plan is relatively generous, bringing entitlements earned elsewhere into the federal plan can prove daunting. Without subsidizing recruits, are there ways to mesh the federal plan more favourably with entitlements earned externally? Could those who leave with the intention of returning continue to participate in the federal plan, taking responsibility to pay both the employee and the employer shares of current service costs while they work outside the public service?^[210]

Equality of financing and benefits

Is the balance of Plan financing and benefits equitable for different groups of employees? Arguably, the Plan is not fair to single members who cannot designate a survivor, to employees who depart the public service early in their career or join the public service in their middle years, or for middle-income employees who pay a proportionately greater share of Plan costs than either low- or high-income employees. Fairness is, of course, in the eye of the beholder, but there has not been a serious review of this matter for many years.

Pension Plan governance

Finally, we would highlight pension plan governance. In the late 1990s, the government and the public service unions came close to agreeing on a plan for joint management of the Plan. This foundered on the issue of whether employees are entitled to some share of the actuarial surplus that had accumulated in the Superannuation Account over the years. Disagreement on this matter provoked litigation on the part of the unions, and rejection of the idea of joint management. However, many major public sector pension plans in Canada are governed jointly by the employer and representatives of the employees. In principle, when the current surplus litigation is concluded, we should renew our effort to establish some form of shared governance, provided this includes a commensurate sharing of responsibility for pension policy and financing.

For employees and their unions, the reason to share in governing their pension plan is evident: for most employees, especially those with long service, their pension is their most valuable asset, frequently exceeding the value of their home as they approach the age of retirement. Participating in safeguarding this asset ought therefore to be an employee priority.

For the employer, the reason to share in governance is to bring employees and their unions to participate in the responsibility to finance soundly the agreed benefits. Joint governance usually implies that both the employer and the employee will share in both surpluses and deficits. Overall, the employer can expect employees who are full partners in the financial well being of their pensions will take both an active and a responsible interest in the evolution of pension policy and financing.

We note that the Public Service Pension Plan (PSPP) is unlike most pension plans in Canada, in that it is governed by its own statute and is not subject to pension standards legislation of general application. This appears to have resulted from the fact that the PSPP predated such legislation, as well as the significant size of the liability for paying future public service pensions in the overall financial position of the federal government.

We observe as well that the joint pension governance model in the Canadian public and private sectors has come under some strain in recent years as investment returns have been unusually volatile. The Ontario Teachers Plan, for example, faces the prospect of raising contributions or scaling back benefits, having over-committed on benefits relative to how its portfolio has performed. The Ontario Municipal Employees Retirement System (OMERS) is also going through some difficulties, with the Canadian Union of Public Employees suing the plan over alleged bad management of the investment portfolio. Clearly joint governance is easier when managing surpluses rather than deficits. Any shared governance for the federal Public Service Pension Plan will need to be carefully designed to weather both bad times and good.

Other public service benefits

In this section we deal first with the broad areas of life and disability insurance, and health and dental plans including sick leave, and then briefly with other leave and overtime.

Life and disability insurance, health and dental plans

As we have described in Chapter 8, the federal public service plans relating to life and disability insurance, and to health and dental protection are middle-of-the-road in comparison with such plans in the private sector.^[211] The various plans have come into existence and evolved largely in isolation from one another, with little evidence of a systematic employer philosophy or policy animating the current suite of programs. The cost of these plans and related taxes across the various federal public sector domains examined in this Report has risen from about $1 billion through the early and mid 1990s to around $1.5 billion^[212] by 2002–03. Although this amounts to only about 6% of total compensation expenditures in the latter year, $1.5 billion is still a substantial sum. This area of compensation deserves attention both from an expenditure management perspective, and because employees, retirees, and their dependants rely on these programs to meet many important needs.

Volume Two summarizes each of the existing plans and how they are financed, and traces their evolution since 1990. Among the important general themes from this examination, the following points deserve emphasis.

Little change in benefits or choice

Since 1990, there have been few changes in eligible benefits. In fact, some paramedical health services have become harder to access. Compared with many private sector plans offered by large, unionized employers, the public service plans are quite restrictive in their coverage. As well, employees have very little choice about what benefits they can access.

Emergence of the Pensioners' Dental Service Plan

This Plan, introduced in 2001, was the one major exception to the pattern noted in the previous point.

Employer financing

The various plans are entirely or mainly financed by the employer.

Confusion in relation to collective bargaining and governance

Although these plans are generally not discussed in concluding occupational group collective agreements, changes to most of these plans are worked out with the unions together through the National Joint Council and included in the relevant agreements.

In recent years, joint union-management agreements have set up organizations such as the Public Service Health Care Trust to govern the programs. While these groups have helped to make the management of the affected programs more transparent, they have also muddied the issue of how costs are to be contained and apportioned.

Time for Rethinking

The current system works reasonably well in serving the needs of employees, retirees and their dependants. Complaints are generally minimal. Nevertheless, we should not continue to accept uncritically the existing rigidity in benefits, confusion in governance, and substantial increase in costs in recent years that have characterized the suite of plans we now have.

This area is ripe for a fundamental rethink of goals and means:

• As a socially and fiscally responsible employer, what is the federal government aiming to accomplish through its various insurance, health and dental plans?
• In view of the radical changes in the Canadian family in recent years, as well as the need to attract talented citizens to join the public service at all ages for periods of varying length, would not a more flexible approach serve everyone better?
• What is the right way to include employee union representatives in the design and governance of these plans, such that they share accountability for fiscal prudence with the employer?
• With up-to-date answers to these questions in hand, what is the best way to deliver the results, such that administrative overheads and interest charges are minimized?

Probably the most important innovation would be to introduce real choices for employees in the benefits they receive. If this were successful, the need to rethink our programs would in effect be done by individual employees as they made their choices. Still, designing the choice options would require thoughtful policy analysis, informed by in-depth canvassing of employees and their union or professional representatives. Previous attempts to move in this direction have foundered on fear of administrative complexity, concerns about costs, employee and union resistance, and the inherent caution of government officials. Moving successfully to introduce meaningful flexibility would likely require two things: first, determination of an annual total amount to be paid by the employer for each employee for such benefits; and second, design of a set of manageable choices that could be offered at reasonable cost.

The most controversial part of moving towards flexibility would be determining what amount the employer would pay per employee each year. Earlier in our recommendations, we argued that the scope of collective bargaining should be expanded to include as many components of total compensation as possible. In this way, the trade-offs among desirable goals would be transparent to all, including employees and taxpayers. It would be useful for the government to initially set a uniform annual allowance per employee available exclusively for the purchase of benefits. That amount should not aim at reducing current costs, but should credibly capture the value of existing benefit expenditures. In the transition, the cost to the employer could be expected to rise to preserve an overall equivalence for employees to existing benefits. We would likely need to offer separate amounts for single individuals and those with families. Whatever the initial amounts, they should be increased from year to year according to an appropriate index. Unions could then seek a greater or lesser amount through collective bargaining. Employees wanting coverage beyond what could be purchased through their benefits allowance could pay for the difference from their own pocket, at what would––we expect–be favourable group rates.

An important fear on the cost side is that we would lose the economies of scale that we now enjoy by purchasing insurance, such as in the case of disability,^[213] or administrative services, in the case of the health and dental plans, for very large groups with standard entitlements. Such concerns could be reduced by negotiating packages corresponding to the expressed preferences of various groups of employees. We could consider consolidating the existing plans into one major contract to make it attractive for the private sector to trim its costs to win the business.

A variation that would potentially combine economies of scale with a meaningful set of benefit choices for employees would preserve a common base set of core benefits with options for additional coverage in areas of individual interest. Such an approach could reduce the cost burdens relating to what is called adverse selection, whereby only those at high risk would choose certain benefits with the result that the cost could prove prohibitive.

Reforming Sick Leave and Disability Insurance

The whole area of disability insurance in particular is mired in overlapping entitlements and administrative complexity. Depending on the circumstances, a disabled employee could find him or herself having to navigate among sick leave entitlements, one of the public service disability plans, Workers' Compensation in the province, the Public Service Pension Plan, and the Canada or Quebec Pension Plans. An interesting option with regard to disability insurance would be to merge it with both the Pension Plan and the existing sick leave regime. In essence, sick leave with regular pay would be granted for short periods of perhaps up to three days with a manager's approval, subject to an annual non-bankable maximum of perhaps eight to ten days; short-term disability with regular pay from a short-term disability plan for moderate periods of perhaps up to ninety days with a doctor's authorization; and for longer periods, there would be long-term disability at 70% of salary as now, with medical confirmation. A variation on the short-term disability proposal would be to pay 100% of salary for the first 30 days, then say 90% for the second 30 days, and 80% for the final 30 days, before becoming eligible for long-term disability which pays 70% of salary.

Introducing a short-term disability plan would encourage appropriate disability management to commence much earlier than at present, where those on long-term sick leave are not eligible for such assistance. Early intervention is important to both rehabilitation and improving the chances of a return to work.

A corollary of this proposal would be to abolish the banking of unused sick leave. The existing practice of accumulating such entitlements leaves healthy long-service employees with a sense of missing out on something when they retire with a substantial unused bank. This leads to periodic proposals to cash out such leave, even though the public service already enjoys relatively generous severance pay entitlements––up to 30 weeks' pay for most unionized employees, 28 weeks for those not in unions, normally. For some, there is no doubt a temptation to seek out a sympathetic doctor as the date of eligibility to retire approaches.

For employees with few years of service, the replacement of the sick leave banking system with a short-term disability insurance program would provide greatly improved protection in the case of serious illness. This is consistent with the need to encourage skilled employees to enter the Public Service for various lengths of time over the course of a career. Illness correlates partly with age but disability can strike at any stage of life. An insurance-type approach is logically more aligned with the problem addressed.

In reviewing these issues, it would also be wise to consider the optimal balance in managing the risk associated with such benefits between purchasing insurance from external underwriters, and assuming the risk directly.

At the same time, steps could be taken to align the disability regimes affecting various parts of the federal public sector. At present, for example, the disability plans for the Canadian Forces and the RCMP regular and civilian members provide 75% rather than 70% of salary for long-term disability. On the other hand, the Canadian Forces plan provides lower inflation protection than other federal plans. Unless we can identify a compelling policy rationale for different salary replacement or inflation protection rates, it makes sense to maintain one standard of protection across the federal public sector.

Supplementary Death Benefit

A final substantive topic for consideration in the insurance area is the Supplementary Death Benefit (SDB) under the Public Service Superannuation Act. The public description of the SDB describes the plan as "a form of decreasing term life insurance protection designed to cover you and your beneficiary during the years you are building up your pension." Yet the existing SDB provides two times salary until age 65, when the coverage declines until age 75. If the stated purpose is valid, it would perhaps be better to provide coverage of as high as five, or even ten times salary for the first few years of service, with coverage reducing gradually to perhaps one times salary at age 65, and then further reductions as at present.

The financing of this benefit is unusual in three respects: first, since 1955, over 80% of the cost of benefits has been paid by the employees; second, the balance in the account^[214] has grown from year to year, rising from $616 million in 1990–91 to $1.897 billion in 2002–03. Finally, this is probably the only group insurance plan in Canada that is embedded in legislation, which makes it very difficult to manage as circumstances change.

It would be sensible to verify the actuarial projections for this account to determine more precisely what we can expect to happen over the next few decades. This would be essential if the benefits were to be redesigned to align better with SDB's stated purpose. If some part of the accumulated accounting balance is not likely to be required to pay benefits over a reasonable planning timeframe, we could consider allocating the unneeded funds to another employee benefit. Consideration should also be given to removing it from the Superannuation Act, and putting it on the same policy footing as other public service benefits.

Plan Governance

Before leaving this area, we need to touch on how these plans are overseen. Governance of public service benefits should correspond to how responsibility for financing them is allocated. At present, we appear to have variations on joint union-employer management without joint accountability for the financial consequences of decisions taken. If we move to a system of negotiated per-employee benefit allowances as part of collective bargaining, it would be appropriate to establish formal joint union-management governance of the plans that would be negotiated for employees to purchase, either with their allowance or their own funds. As long as the plans remain essentially the employer's financial responsibility, however, we should limit the role of plan boards to resolving appeals by consensus, or referring cases without significant financial implications to third-party arbitration. The employer should only make decisions that would significantly raise the ongoing cost of a plan after consulting the plan board.

We also need to be clear about the role of employer representatives on plan boards, whether those we currently have or truly joint management boards. At present, it may not always be clear to persons named to represent the employer that they must set aside their interest as a plan beneficiary in helping shape decisions affecting the plan. Employer nominees should receive thorough training^[215] from the Treasury Board Secretariat before taking up their duties. In fact, it would be sensible to name some employer representatives that are not themselves plan beneficiaries. Board members are responsible to apply their best judgement on how to interpret the employer's policy positions. This would no doubt lead to active and necessary debates among employer representatives. However, such representatives need always to guard against being unduly influenced by their interest as plan members.

Many will argue that fundamental rethinking and redesign in the areas of insurance, health and dental benefits is too controversial, too difficult, too complex; in short, not worth trying. This implies continuing indefinitely with a hodgepodge of benefits that have emerged in an uncoordinated manner over decades, that do not necessarily suit the current needs of employees, and that are growing in cost to the employer, with little incentive to match best practices of other employers. The time has come to take a hard look at what benefits federal public servants and their dependents need looking to the future, how best to finance such benefits, and how to ensure that employees, through their unions, share with their employer in the responsibility and accountability for the design and financing of these benefits.

Leave and overtime

Volume Two shows how leave entitlements and overtime policies have developed since the early 1990s. We also describe how total usage evolved, as well as usage of both sick leave and family-related leave for occupational groups that have been particularly frequent or infrequent users of such leave on average.

At the most general level, we observe that leave usage has remained fairly constant since 1990–91, at about 40 days per year for all types of leave. For 2002–03, there appeared to be an increase to about 41 days, which is consistent with the addition of two personal leave days in most union contracts beginning in 2001.

We have a concern, however, that there may be a tendency among some groups, particularly Executives, not to use fully their annual leave.^[216] By collective agreement or by policy, employees have the option––with their supervisor's approval––to cash out their leave instead of taking it in time off work. However, the policy intent of leave is clearly to promote employee physical and psychological health and resilience. In effect, paid time not worked is an employer investment in employee well being. Failing to use the available leave, whether to convert it to a cash payment or to store it up for later use, risks defeating that purpose. Public service managers should strongly encourage their employees to use their leave entitlement. A culture that treats people as continually indispensable is unhealthy and risks becoming self-defeating.

Along a similar line, there appears to be a cultural expectation in some public service groups and organizations that overtime should not be claimed for payment, or should be claimed only in token amounts. It is striking in Volume Two that overtime is almost unique among elements of total compensation in the core public service in having remained essentially unchanged between 1991–92 and 2002–03.^[217] This pattern contrasts, for example, with the Royal Canadian Mounted Police, where a very similar number of members over the years increased their usage of overtime from $66.4 million in 1990–91 to $99.1 million in 2002–03.^[218]

The 2002 Public Service Employee Survey indicates in Question 7 that 63% of employees felt that they "can claim overtime compensation (in money or in leave) for the overtime hours that they work." However, later in Question 15, 16% of employees reported that "they were rarely or never compensated for overtime worked." Public service managers must not discourage or refuse legitimate overtime claims.

Pensioners' benefits

Public service pensioners, in addition to receiving their pensions under the Public Service Superannuation Act, participate in life insurance, health and dental plans that are partly financed by the employer. For the plans that are not externally insured, the actuarial liability of future benefits for public servants after retirement is substantial. Since it started to be tracked and recorded on an accrual basis in the Public Accounts of Canada, this amount grew from $6.5 billion in 2000–01 to $7.2 billion in 2002–03.^[219] There has been no considered overall assessment in recent years of how much is appropriate for the federal employer to contribute to the cost of such pensioner benefits, in relation both to the level of current employee compensation, and to practices by major employers in the Canadian private and broader public sectors. Such an assessment is overdue.

Our recommendations in this Chapter, then, are as follows:

With this, we have completed the set of recommendations relating to a wide variety of specific substantive compensation issues. We now turn to possibilities for updating of the legislative framework governing compensation management in the federal public service. Following this, we will conclude the Recommendations Section with a few thoughts on follow up and implementation of our recommendations.

 

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