Longevity creates uncertainty for plan sponsors

Life expectancy is on the rise in Canada. According to Statistics Canada, the average life expectancy is 85.8 years for Canadians who reached the age of 65 between 2020 and 2022. By 2023, the average life expectancy of Canadians had risen to 85.9 years, compared with 79.9 years in 1971, according to data from the Institut de la statistique du Québec.

While this is good news in itself, it also puts a strain on the obligations of defined-benefit pension plans to their current and future retirees. Plan sponsors will need to be prudent in order to fulfil their commitment of paying employees a retirement pension for life.

In its January 2025 Insights newsletter, actuarial firm Eckler writes that sponsors will have to accept uncertainty in their assumptions about the longevity of pension plan members. 

Eckler is referring to Mortality Improvement Research, a Canadian Institute of Actuaries (CIA) study, published in April 2024. This is the report, which recommends a new scale for gauging long-term mortality improvement in Canada.

Called APCI by the CIA, the new scale brings higher longevity assumptions, which could have an impact on the liabilities of plans that use them, Eckler says. The CIA uses other older scales to compare its new improvement rates, including CPM-B (published in 2014) and MI-2017 (published in 2017).

Great uncertainty  

Future mortality improvement rates are highly uncertain, write the authors of the CIA study. They recommend that defined-benefit pension plan actuaries adjust their assumptions based on a long-term mortality improvement rate of 1.3%. 

“This means that in the long run mortality rates will fall by 1.3% a year, and consequently life expectancies will increase,” comments Eckler in its bulletin. The actuarial firm points out that the CIA set this rate by using models on historical Canadian population data, and projecting them into the future.

Using the past to predict the future is a difficult and uncertain exercise.- Eckler Insights Newsletter

In its study, the CIA mentions a range of variants to the basic assumption of 1.3%. The assumption could thus vary between 1.0% and 1.9%. Eckler considers the range to be reasonable, but proposes reducing the lower limit to 0.8%. According to Eckler, this takes into account the long-term mortality improvement rate used under the CPM-B scale (0.8%). The firm argues that this is the improvement assumption most commonly used by Canadian pension plans.

Eckler points out that a series of alternative assumptions to the 1.3% rate become plausible with the range defined by the CIA. “It also highlights how difficult it is to develop a mortality improvement assumption. Even with data from tens of millions of Canadians, using the past to predict the future is a difficult and uncertain exercise,” states Eckler.

Impact on plans 

The following table shows that choosing the highest long-term mortality improvement assumption in the range, i.e. 1.9%, will have a considerable impact. Especially in plans with a high proportion of participants aged 45 and under.

In this table, Eckler renames the Canadian Institute of Actuaries' ACPI model MI-CAN-2024, because it considers this acronym more intuitive. It also reduces the lower end of the range to 0.8%, allowing it to include the long-term rate of improvement used under the CPM-B scale. Eckler explains that this assumption is the one most commonly used by Canadian pension plans.

Eckler observes that adopting a mortality improvement rate of 1.9% leads to significant increases in expected life expectancy. This is the case even among participants aged 65, the firm adds. It also notes that the impact of different rates on life expectancy is much more pronounced among younger participants.

The choice of long-term mortality improvement rate will also have an impact on a plan's liabilities, i.e. its pension obligations to members. The impact will be more pronounced on less mature plans, Eckler points out. These are plans where the proportion of active members is higher than that of retired members.

Choosing an assumption will also have an impact on the benefits the plan expects to pay out in the future. Pension actuaries often use the example of a hypothetical plan to demonstrate this. The projection often covers a period of 100 years. Eckler has chosen a hypothetical plan in which around 45% of members are active, and retirement benefits increase by 2% per year.

In this example, projected cash flows over the next 100 years reach $6.3 billion under the most conservative assumption of 0.8%, compared with $7.4 billion under the extreme assumption of 1.9%. “If the 1.9% improvement rate was borne out in practice, the ‘extra’ billion dollars would need to be met by either future investment returns or additional cash contributions,” Eckler states.