Introduction
In May of 2004, the Joint Forum of Market Regulators released the Guidelines for Capital Accumulation Plans.
These CAP Guidelines are not law and do not replace any legislative requirements. They do, however, reflect the expectations of regulators regarding the operation of capital accumulation plans such as registered pension plans (RPPs), deferred profit sharing plans (DPSPs) and group registered retirement savings plans (RRSPs). Regulators are expecting RPPs to operate in compliance with the CAP Guidelines by December 31, 2005. Sponsors of other capital accumulation plans are also working toward compliance as of this date.
The following memorandum is provided to assist clients of Johnson Schock Lowden Inc. (JSL) in understanding and complying with the CAP Guidelines. It reviews the suggestions/requirements of the CAP Guidelines in the context of a client that has contracted with a life insurance company to provide a full-service product for the operation of their capital accumulation plan.
Where numbers appear in brackets, they refer to sections of the CAP Guidelines.
Initial Set-up Governance
1) Define and document why the CAP is being established. (2.1.1)
This needn't be a rewrite of other plan documentation. For example, a CAP which is a registered pension plan might define its purpose as:
"The purpose of the CAP is to provide plan participants with an adequate retirement income in conjunction with government retirement income programs and personal retirement savings."
2) Ensure that the terms of the CAP are consistent with its defined purpose. (2.1.1)
Review the plan document to confirm that it is geared to meeting the plan's purpose. Document your findings. If your review is positive, the wording need not be elaborate:
"Management has reviewed the CAP plan document and has found that its terms are consistent with its stated purpose."
If your review is negative (that is, there are plan terms that inhibit achievement of the plan's stated purpose), document the terms that need to be changed and the process for making the necessary changes.
3) Define and document how any external service providers will be selected and used. (2.1.3)
List the credentials that you require of any service providers that will work with you on your CAP. Examples of service providers that you might use are a life insurance company licensed to sell capital accumulation plans, a retirement plan consultant (JSL) and a lawyer and/or an accountant for professional oversight as required.
Document these credentials and ensure that they are satisfied by the service providers that you retain.
Document the duties of all parties (including yourself as plan sponsor) that will work on the operation of your CAP.
4) Select the investment options to be made available under your CAP and document the factors that have been considered in the selection process. (2.2.1 and 2.2.2)
The CAP Guidelines outline a number of factors to be considered in the establishment of a suite of investment options for your CAP.
In simple terms, the suite of investments offered should be consistent with the purpose of the CAP. It must provide sufficient choice to enable all plan members to select appropriate investments for their circumstances but be sufficiently narrow that clear communications to plan members and appropriate monitoring by the plan sponsor are manageable.
Other factors that should be considered include fees, diversification, liquidity, investment strategy and past performance. If past performance of investment options played a role in making your decision, document the factors that you considered. For example:
"Only funds with above average returns and below average volatility, compared to peer funds, for the 5-year period ending December 31, 2004 were considered."
Whatever factors are used, be sure to document the process that you used. If the investments you select do not perform well, you may be asked to defend your decision to offer them under your CAP.
5) Establish the rules governing plan members' transfers among investment options. (2.2.3)
Plan members should have the ability to transfer funds among investment options at least quarterly.
After discussions with your financial institution (which may impose limits on the number of transfers it permits or surcharges on frequent transfers), you should determine and document your policy on transfers.
6) Establish the procedures to be followed when a plan member does not provide an investment selection. (2.2.4)
Invariably, funds will be received where no investment direction has been given by the plan member. The most common procedure is to establish a default option for such funds. If your CAP uses a default option, you should document the reasons the default option was chosen.
7) Define and document a documents policy. (2.3)
The long lifespan of a pension plan means that you could be defending yourself with respect to communications that took place many years in the past. This long lifespan makes the orderly retention of pension plan documents and communications very important.
Your documents policy should describe the types of documents that need to be retained; the retention period for each type of document; and the individuals who have access to each type of document.
8) Decide whether or not to provide independent financial advice regarding plan investment decisions. (3.4)
You should decide whether or not you want to provide, directly or by referral, access to independent financial advice regarding CAP investment matters.
Irrespective of your decision, you should document your reasoning.
9) If independent financial advisors are used, you need to define and document how independent financial advisors will be selected and used. (3.4.1)
List the credentials that you require of any independent financial advisor that will be given access to CAP plan members Document these credentials and ensure that they are satisfied by the financial advisors that you use directly or by referral.
Document your expectations of how the independent financial advisors will work with CAP plan members.
Communications Governance
10) Provide investment information to plan members. (3.2 and 4.2)
You need to provide plan members with enough information in plain languare to enable them to make an informed decision regarding the investment of their plan funds
The CAP Guidelines list a number of information items that might be used:
- a glossary of relevant investment industry terms
- a description of how the CAP's investment funds operate
- for each of the CAP's investment options:
- a description of the investment objectives
- a description of the investment approach/strategies
- the expected risk and return
- performance reports
Financial institutions providing full-service defined contribution products often provide performance information over the Internet and in hard-copy items such as annual fund reports or fund fact sheets. You should review the content of these information sources to ensure that they provide the suggested information. You should ensure that they are made available both at the initiation of your plan and, at least annually, on an ongoing basis.
In most cases, the investment information provided by the company operating your plan will satisfy this requirement.
As plan sponsor, you should review the items being used to provide investment information to your plan members; confirm its adequacy; and maintain samples to document the information process.
11) Provide investment decision-making tools. (3.3)
The CAP guidelines suggest that plan sponsors provide plan members with investment decision-making tools.
As above, the company operating your plan will usually satisfy this requirement.
As plan sponsor, you should review the items being provided to your plan members; confirm their adequacy; and maintain samples to document that such decision-making tools were available to plan members.
12) Provide plan members with information on:
- the purpose of the plan (4)
- the nature and features of the plan (4.1.1)
- the rights and responsibilities of plan members (4.1.2)
- the available investment options (4.2) including: detailed information on available investment options (4.2.1)
- the rules governing plan members' transfers among investment options (4.3)
- all fees, expenses and penalties relating to the plan which are borne by plan members (4.4)
- what additional plan-related information is available and how they can access it (4.5)
The plan member booklet provided by the company operating your plan is the most logical vehicle for providing this information.
Review your plan booklet to make sure that these information requirements are met. If they are not, a separate communication - call it a Plan Booklet Addendum - to provide the missing information may be used. Ensure that the missing information is incorporated in the next printing of your employee booklet.
13) Provide plan members with information on:
- the financial status of their accounts (at least annually) (5.1)
- the performance of the CAP's investment options (at least annually) (5.3)
- where plan member statements provide a personal rate of return, a description of the calculation method together with information about where plan members can get more detailed information (5.1)
The plan member statement provided by the company operating your plan is the most logical vehicle for providing the financial status of members' accounts.
Review the content of the plan member statement that is produced for your plan. Start by asking the company operating your plan to confirm that the content items suggested by the CAP Guidelines are provided. If the statement is deficient, you should provide the missing information directly.
The company operating your plan can supply a wide variety of investment review material providing the performance of your CAP's investment options.
Review the available investment review material on your plan's investment options and decide which items (if any) should be provided to plan members automatically and on what frequency such items should be provided. It may also be appropriate if such investment review material is available by plan member request only.
Either way, the content of the investment review material should be reviewed relative to the suggested by the CAP Guidelines:
- the name of each investment fund
- the benchmark for each investment fund
- returns for each investment fund and appropriate benchmark for:
- 1, 3, 5 and 10 year periods
- disclosure as to whether fund and benchmark returns are before or after investment management fees and fund expenses
- identification of the method used to calculate returns together with directions on where to find more detailed information on this method
- a statement that the past performance of a fund is not necessarily an indication of its future performance
Event Driven Governance
14) If a plan member terminates his/her participation in the plan, provide information to such plan member (7.2.1)
Review the information/documentation provided by the financial company operating your plan. Start by asking the financial institution operating your plan to confirm that their termination documentation and procedures satisfy the information requirements of the CAP Guidelines.
If the process is deficient, the plan sponsor should provide the missing information directly.
15) Provide advance notice to plan members when there are significant changes in investment options (5.2.2) including:
- adding an investment option (5.2.3)
- removing or replacing an investment option (5.2.4)
If the investment suite has been properly structured, ongoing changes should be minimal. Note, however, that a change in fees which may be initiated by the company operating your plan constitutes a significant change and must be communicated, in advance, to plan members.
If significant changes are made or are imposed on you, you should document the your reasons for making the change or the background information on the change being imposed on you and give plan members advance notice of the changes that are coming.
16) If the purpose of the CAP is modified (2.1.1), the plan sponsor must:
- ensure that the terms of the plan are consistent with the modified purpose of the plan
- document the decision to modify the purpose of the plan
- communicate the modification of the plan and its impact on plan members to the members before the modification is effected
If you decide to change course and modify the purpose of your plan, you need to revisit items 1 and 2 above.
As, in this event, you will have plan members with existing account balances, you must give plan members advance notice of the modification and its impact on them.
17) If the CAP is terminated, provide information to plan members regarding the termination. (7.1.1)
If you decide to terminate your plan, you must give plan members prompt notice of the termination; its impact on them; actions required of them; consequences of their failure to take these required actions; and the manner in which their account(s) will be dealt with.
As plan sponsor, you should ask the financial institution operating your plan to confirm that the termination of your plan will be/has been conducted in accordance with the terms of the plan document and with all statutory requirements.
If the plan termination process is deficient, as the plan sponsor, you should provide the missing information directly.
Ongoing Governance
18) Establish criteria and use such criteria to periodically review all aspects of plan operation including:
- purpose (2.1.1)
- suitability of plan for purpose (2.1.1)
- service providers (6.1 and 6.2)
- investment options (6.3)
- document management policy (6.4)
- decision-making tools provided to plan members (6.5)
Ongoing governance entails the reaffirmation of the items outlined under the heading Initial Set-up Governance.
Establish an annual (calendar year) review of the above-noted items. In most circumstances, the review and reaffirmation of these items will be very straightforward.
In the case of plan investment options, the review should be in the form of a review of both the quantitative performance of each investment option - that is, did they achieve their benchmark return? - And a qualitative assessment - were they true to their stated investment strategies and procedures? was their any turnover among key staff?
It is important to document the results of your quantitative and qualitative reviews.
Summary of Required Documentation
Much of the above advice includes a suggestion to document what you were doing and why you were doing it.
A document with the following sections would fulfill the requirements noted above. It is important that, where appropriate, the underlying rationale be outlined or a sample of the item being review be included:
- Statement of Purpose
- Confirmation that Plan Documentation and Operation are Consistent with Plan Purpose
- Position on Use of Independent Financial Advisors
- Required Credentials of CAP Service Providers
- Roles and Responsibilities of CAP Participants
- Structure of Investment Suite
- Funds Selected for Investment Suite
- Transfer Rules for Plan Members
- Default Investment Rules
- Documents Policy
- Review of Investment Information Available to Plan Members
- Review of Investment Decision-making Tools
- Review of Plan Booklet
- Review of Plan Member Statements
- Review of Investment Performance Information Available to Plan Members
- Disclosure of Personal Rate of Return Methodology
- Review of Plan Member Termination Process and Documentation
The annual review process should include a reaffirmation or restatement of each section. In addition, the annual review process should include a section entitled:
- Material Changes to the Plan