Accounting for guaranteed buy-in annuity contracts by pension plans subject to the Supplemental Pension Plans Act
Pension plans use annuity contracts offered by insurers to reduce their exposure to risks related to pension benefits. Accounting for this investment vehicle seems to be poorly understood and has raised many questions in the last year.
What is a guaranteed annuity contract?
One type of guaranteed annuity contract is a buy-in annuity purchase, under which the pension plan administrator is required to ensure that the benefits covered by the contract are paid to the annuitants even when the insurer fails to make the payments provided for under the terms of the contract. Under the Supplemental Pension Plans Act (SPP Act), the link between the pension plan and the retirees cannot be severed when the pension fund acquires group annuities from an insurer. Should the employer declare bankruptcy, the annuities purchased from an insurer could be reduced since the link is not severed. Sections 15 and 33 of the SPP Act provide that guaranteed annuity contracts are an integral part of the pension plan to the extent that the recipient of the pension benefits continues to be a plan member.
There is another type of contract where the annuitant is no longer a plan member or beneficiary and the plan administrator will not have to intervene in the event of default by the insurer. These contracts are buy-out annuity purchases. Generally, these contracts are not part of the plan assets since the link between the plan and the annuitants is severed. However, it is important to be cautious and refer to the contract and the legislation respecting pension plans because at first glance, some contracts may appear to be buy-out purchases but some risks remain. Bill n°57, An Act to amend the Supplemental Pension Plans Act mainly with respect to the funding of defined benefit pension plans, which was passed on November 26, 2015, introduced the possibility of purchasing buy-out annuity contracts for plans subject to the SPP Act, but the related regulation has yet to be published.
The following paragraphs address buy-in annuity contracts only.
What do the accounting standards say?
Section 4600, Part IV of the CPA Canada Handbook, which contains the standards that apply in preparing pension plan financial statements, defines investment assets and specifies that “insurance contracts related to the plan's pension obligation of which the plan is the beneficiary” are included in these investments.
What is the appropriate accounting treatment for buy-in annuity contracts?
Guaranteed buy-in annuity contracts must be recognized as investments in the pension plan’s statement of financial position. This applies to financial statements prepared in accordance with Section 4600, i.e. by reporting the pension obligations as a liability. This also applies in cases where the statement of net assets is presented in accordance with Retraite Québec’s alternative accounting framework, which excludes pension obligations in financial reports.
As with any investment, these contracts must be measured at fair value. Fair value measurement is more complex since there is no active market for this type of investment. Reference should be made to IFRS 13, Fair value measurement, and to the definition of Level 3 inputs. The valuation is normally performed in collaboration with the actuary in charge of the pension plan valuation.
In financial statements where the plan presents retirement obligations, the obligation corresponding to the annuity purchase must be measured in accordance with the accounting policy applied by the plan. With respect to the plan’s going concern and the insurer’s solvency, once the contract has been signed, the asset value often equals the obligation, but exceptions may apply.
Preparing the annual information return (AIR) for Retraite Québec
Reporting guaranteed buy-in annuity contracts on the statement of financial position is required under accounting standards. This accounting treatment does not conflict with Section 161 of the SPP Act, which requires that a plan’s financial report be audited (unless part of the exceptions) by an accountant and the AIR guide specifies that the financial report must be prepared in accordance with accounting standards for pension plans or the alternative Retraite Québec framework, which is the same as the accounting standards for pension plans where assets are concerned.
The Order’s Sector-specific working group on pension plans