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Let pension plans borrow

Pension regulators, not tax legislation, should govern pension plan borrowing.

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How permissive should borrowing rules be for registered pension plans? The Pension and Benefits Law Section of the Canadian Bar Association, in a letter to Finance Canada, says it is in favour of a more permissive regime under paragraph 8502(i) of the Income Tax Regulations, or ITR.

However the Section wonders whether the regulation of borrowing by pension plans should fall under the ambit of a taxing statute. “In our view, the supervision of pension plan asset management, including borrowing, belongs more properly under the auspices of Canadian pension regulation.”

It is precisely the role of a pension regulator to monitor the administration and investment of the plan, taking into account the need to generate returns while minimizing risk. “Any guidelines on borrowing and the supervision of its use in accordance with prudential principles are best left to pension regulators. Accordingly, Finance Canada should consider removing borrowing rules from the ITR altogether.”

Should Finance Canada decide to maintain its regulation of borrowing rules, the Section offers a number of suggestions, the most salient of which are listed below.

Apply borrowing rules to DC plans only

There is already a well-established and consistently applied definition of the term “borrow money,” as determined by the Supreme Court of Canada in Minister of National Revenue v. McCool [1950], and that definition has been well understood historically by pension plans.

The Section says that if there must be borrowing rules in tax legislation, it should be calibrated according to the legislative intent. And although it is not specifically stated in ITR 8502(i), it is reasonable to infer from Finance Canada’s statements on the rules for pooled registered pension plans that these restrictions only apply to defined contribution plans.

Exemption for large plans

In the event the borrowing rule is not repealed in its entirety or limited solely to defined contribution plans, the CBA Section writes, there should be an exemption from the borrowing rule for certain large plans that have at least 50,000 members and $10 billion in assets under management.

As plans grow, governance and risk management become more sophisticated and “blunt instruments” such as the borrowing rule are less necessary.

For registered pension plans that are not exempt, the Section proposes to make an exception to the general borrowing prohibition “where the aggregate of all amounts of borrowed money does not exceed 20% of the fair market value of plan assets, calculated at the date of the latest borrowing.” Such a test would be fair, clear and easy to implement, it says.