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1986 Report of the Auditor General of Canada

Overview

12.1 The Department of Insurance is responsible for protecting the public against financial losses from the operations of federally registered or licensed financial institutions and pension plans. It regulates some 560 insurance companies, trust and loan companies, investment companies and co-operative credit societies with total assets of over $200 billion, and over 750 employer sponsored pension plans with assets of $28 billion (see Exhibit 12.1). The Department also provides actuarial services to the federal government, principally in the area of pension programs.

Exhibit not available

12.2 The Department is organized into three branches: Operations, Actuarial, and Finance and Administration. It has a staff complement of 226, of which 154 are located in Ottawa with the remainder in 5 regional offices. Toronto is the largest regional office with about 55 people (see Exhibit 12.2).

Exhibit not available

12.3 Of the total program expenditures of $19 million incurred by the Department during 1985-86, $7 million related to special expenses with respect to the liquidation of failed insurance companies. At present, 100 per cent of these special expenses and approximately 85 per cent of total departmental operating costs are recovered from the entities it regulates and from government organizations.

12.4 There have been a number of recent events that have affected the operations of the Department.

12.5 Failures of financial institutions. Since 1980, 16 companies with assets approximating $2 billion, which were under the regulation of the Department of Insurance, have failed. Moreover, in 1985 there were failures of two Canadian chartered banks, which were regulated by the Inspector General of Banks. This has resulted in several major and far-reaching reviews of the regulation of Canadian financial institutions at both the federal and provincial level.

12.6 The reports arising from these reviews have recommended significant changes in the legislative and administrative environment in which financial institutions operate. While their recommendations differ in some respects, they all express the opinion that the role of the federal regulators should be strengthened. Thus, implementation of certain of these recommendations could involve significant changes in the way in which the Department of Insurance is organized and operates.

12.7 Pension reform. The Department's Actuarial Branch has been heavily involved in the pension reform process over the past several years. This is because of its role as administrator of the Pension Benefits Standard Act (PBSA) and provider of actuarial services to all federal pension programs, both public and employer sponsored. Moreover, two new pieces of legislation will significantly increase the workload of the Branch. The first deals with amendments to the PBSA, which will require additional monitoring activity by the Department; the second will require more frequent and timely reporting of actuarial information on federal pension programs.

Audit Scope

12.8 Our audit focused on the Department's principal activities - the supervision of financial institutions and pension plans and the provision of actuarial services - and on the management processes that support them.

12.9 We reviewed the major aspects of the Department's supervision activities. These include incorporation, registration, licensing, analysis, field examinations, review of actuarial reserves, and control of assets. We also reviewed the procedures in place to monitor the liquidation of troubled companies and assessed the quality of information provided to Parliament in annual reports. Finally, we sought the views of senior industry representatives on their perspectives of the Department.

12.10 We also reviewed the recent work by internal audit in the Operations and the Finance and Administration Branches and took into account their findings in formulating our observations and recommendations.

Supervision of Financial Institutions

12.11 The monitoring of financial institutions is the Department's principal activity. Over 70 per cent of the Department's staff are devoted to this work. Exhibit 12.1 shows, by industry group, the total number of companies and assets supervised. The activity is organized into four divisions.

Exhibit not available

12.12 The Life Insurance, Property and Casualty, and Trust and Loan Divisions are responsible for supervising their respective industries. In these divisions, a headquarters staff of 50 carries out work related to incorporation and other corporate changes, registration, complaints and enquiries, financial analysis and review of actuarial reserves. The field examiners, located outside Ottawa in those regions where the headquarters of financial institutions are situated, are responsible for carrying out on-site reviews of the companies. Some 50 of the 67 examiners are located in the Toronto regional office, the remainder in the other regions. The Toronto operations are segregated into the three industry divisions, each headed by a Chief Examiner who reports to the division director in Ottawa. By and large, the three examination units work independently of each other, and there is limited exchange of staff. However, the three chiefs meet on a regular basis to review operational and administrative matters.

12.13 The fourth division, the Special Services Division, serves the others by compiling financial and statistical data for inclusion in annual reports to Parliament and by monitoring the eligibility and safekeeping of company assets.

12.14 In addition, a senior officer is responsible full-time for overseeing the liquidation of insolvent companies.

Recent Initiatives

12.15 The Department attributes the failures of trust and loan companies and property and casualty insurance companies to a combination of the following factors:

    - inadequate capital and surplus (equity) requirements;
    - self-dealing activities that were intended to benefit holding companies and shareholders at the expense of the financial institutions;
    - abandonment of sound underwriting practices in mortgage lending and real estate development, particularly in Western Canada where a significant drop in real estate values occurred during the recent recession;
    - intense competition in the property and casualty industry that resulted in premium pricing wars, lowering of traditional underwriting standards and other market-driven activities undertaken to maximize cash flows; and
    - poor management practices.
12.16 It should be noted that the Department had identified these problems at an early date and had taken action to deal with them. Some of its action helped to avoid company failures. For those failures that did occur since 1980, the government had advance warning.

12.17 Moreover, the Department recently took steps to strengthen the quality of its surveillance function. Some of the more important were:

    - applying stricter criteria for incorporation of new companies, requiring:
      - higher initial capitalization,
      - intensified scrutiny of business plans,
      - screening of the principals by obtaining character references and assessing experience in operating financial institutions;
    - introducing and continuing to improve and refine early-warning tests;
    - increasing the number of people involved in the examination process, including establishing specialty positions in the claims and reinsurance areas and two actuarial positions;
    - using real estate appraisers to examine values of property holdings; and
    - establishing stricter guidelines for field examinations, including closer monitoring of related party transactions.
12.18 In April 1986, the Government introduced draft legislation (Bill C-103) to strengthen regulatory powers over trust and loan companies. The proposed legislation would allow the Minister of Finance to prohibit any transfer in ownership of companies that is considered to be against the public interest, allow the Superintendent of Insurance to take earlier action when problem situations occur, and give the Superintendent power to revise the values placed on real estate. In June 1986, the Government introduced legislation (Bill C-123) similarly intended to strengthen regulatory control over insurance companies.

Assessing Financial Solvency

12.19 The actions taken by the Department because of the recent failures have resulted in making its supervisory function stronger. Improved procedures for reviewing applications, together with the increased equity requirements, should go a long way toward preventing the entry of potentially unviable new companies into the industries.

12.20 Introducing better early-warning tests, redirecting its analysis and examination work to give priority to problem companies, and adding reinsurance, actuarial and real estate appraisal expertise to its examination staff have helped the Department to improve its monitoring of financial risk areas. It is very aware of the factors and problems that led to the recent insolvencies and is carefully monitoring existing companies for similar signs.

12.21 These initiatives are a good start, but the Department needs to do much more to strengthen its process for determining and assessing financial risk. For instance:

    - At the time of our audit, the Department was carrying out increased surveillance activities in over 30 per cent of the financial institutions it regulates. However, the formal process for determining what constitutes a potentially risky company and for recommending to the Minister when a restricted licence should be issued, and for how long, had not been formalized and fully documented.
    - There is little documented evidence to indicate that risk areas (such as solvency deficiencies, reinsurance arrangements, asset/liability mismatches) were being adequately considered in planning field examinations or how well and to what extent risks were being assessed during the examination so that managers can fully evaluate whether all such areas were properly identified and reviewed.
    - There are areas in the examination function where the Department needs special expertise to help it gain a more in-depth knowledge of the industry. One area is the management and underwriting of risk by insurance companies, about which examiners have only limited knowledge.
    - Little time was being directed to reviewing anticipated industry trends and potential new areas of risk. As a result, the Department may not be able to deal adequately with new and changing situations in the community. As much as 50 to 100 per cent of senior management time for periods of up to several months was being directed to dealing with company failures and the fallout from them. Coping with this and other outside pressures has left managers in the industry divisions with little time to assess future risks, let alone deal with regular, ongoing supervisory activities. In another instance, the Special Services Division, which is responsible for monitoring eligibility of all investments held by financial institutions, devotes little time to reviewing and evaluating the impact of market changes on the financial position of supervised companies and whether changes are required in criteria for determining what constitutes an eligible investment.
12.22 In our opinion, unless the Department devotes more effort to anticipating and analysing future industry trends and putting in place a better process for documenting, reviewing and assessing areas of potential risk, it may be placing itself in a position where it will not be able to detect financial problems early enough to aid in avoiding them.

12.23 The Department of Insurance should improve its process for monitoring and assessing financial solvency of the companies it regulates. In particular, it should:

    - document and evaluate the process for determining what constitutes a potentially risky company and what action should be taken as a result;
    - require better documentation of risks considered and evaluated during field examinations so that management can be assured that all major risks were assessed;
    - identify known and potential risk areas and assess whether it has the expertise and knowledge to evaluate them adequately; and
    - ensure that more time is devoted to reviewing and assessing future industry trends.
Department's response: The Department recognizes the importance in an everchanging environment of continuing to improve its processes for monitoring and assessing financial solvency of the companies it regulates. Significant changes have been made in recent years in light of lessons learned from failures. However, during a period of significant work pressures, emphasis has been placed on implementing the changes as opposed to documenting fully the processes used. The Department believes that it has developed appropriate criteria for determining what constitutes a potentially risky company and that risk areas are being appropriately considered both in the planning and carrying out of examinations. However, the Department agrees that documentation of the processes followed should be improved and steps will be taken to see that this is done.

The Department recognizes that there are areas in the examination function where special expertise may be necessary. Some have already been identified and use has been and continues to be made of outside experts such as real estate appraisers and claims specialists. Efforts to identify known and potential risk areas where additional expertise may be required will be strengthened.

The Department has taken a number of important actions in response to anticipated industry trends and potential new areas of risk. However, it recognizes that more time could beneficially be spent on this area if more resources were available.

Co-ordination of Regulatory and External Audit Functions

12.24 We examined the process by which the Department co-ordinates its own regulatory functions, particularly the analysis and examination functions and how it co-ordinates its work with the external auditors of the regulated companies and with other regulatory bodies.

12.25 Co-ordination between analysis and field examination functions. The results of statement analyses should aid in determining the direction of the field examination.

12.26 Each division has assigned specific companies to specific analysts. Before and during examinations, the examiners are in contact with the analyst responsible for the company. This communication is both oral and written. Over the past two years, there has been an increase in the exchange of information between the analysts and examiners. However, there is room for further improvement in the co-ordination of these two functions.

12.27 This is partly due to the fact that guidelines and procedures are not fully documented and that staff are located in different cities. As a result, the staff in the two functions may not be fully aware of the extent of each other's surveillance activities in each company, and this sometimes leads to duplication of work. This is particularly true in ratio and loan analysis and financial statement review and calculation.

12.28 We believe there could be merit in the Department relocating its analysis function in closer proximity to the field examination function. Not only would this result in better co-ordination of the overall monitoring process, with possible economies in person-years, but it would place all individuals nearer to the headquarters of the companies they regulate and give them a greater awareness of the industry environment. It would also provide for faster resolution of matters arising from both the analytical reviews and field examinations.

12.29 Co-ordination with external auditors. Over the last two years, the Department has begun to establish closer contacts with the external auditors of regulated companies; the examiners meet with the auditors to discuss the scope of their examination and obtain copies of their reports. However, there is potential for placing even greater reliance on external audit work and better co-ordinating the extent of the field work.

12.30 We found that, although contacts were usually being made with the external auditors, the extent of reliance that had been placed on their work was generally not documented. In some instances, external auditors were contacted only after the examination was complete. Our review indicated that there was still considerable overlap between the work done by the examiners and that done by external auditors; for instance, security counts, re-performing bank and other reconciliations and checking the assembly of audited annual statements.

12.31 At the time of filing annual statements, external auditors are required to give an opinion only on the balance sheet, income statement and certain supporting exhibits which, in total, constitute about one-fifth of the total information filed. Requiring additional assurance from the auditors on some of the detailed financial schedules would assist the Department in reducing its detailed review and analysis and the scope of the field examinations. This would allow the examiners to focus more attention on assessing the financial solvency of the companies concerned and the quality of their management practices.

12.32 Existing legislation gives the Superintendent the right to direct the external auditors of certain insurance and trust and loan companies to expand the scope of the annual examination or to have a special audit of the company conducted. The legislation also provides that such expenses are to be paid by the company. The Department has exercised this right only once. Doing so, particularly in those companies where it is conducting extensive surveillance and examination activities, would not only help prevent the redirection of examination staff from their regular examinations of other companies, with a resulting reduction in planned scope, and provide opportunities for increased co-ordination with external auditors, but would also result in the companies subjected to extensive surveillance absorbing part or all of these additional costs.

12.33 To increase its efficiency, the Department of Insurance should:

    - improve the co-ordination and integration of the work of the analysts and field examiners;
    - consider relocating analysts to the regional offices;
    - continue to improve co-ordination of field work with external auditors;
    - place more reliance on the external auditors of regulated companies for the review and audit of historical financial information and redirect its field examinations to focus much more on risk areas; and
    - consider exercising more frequently its legislative right to have special and expanded audits conducted by external auditors.
Department's response: The Department agrees that co-ordination and integration of the work of the analysts and field examiners is extremely important. As a result of significant efforts made in recent years, the Department believes that the existing co-ordination and integration between the two functions is good and that any duplication of effort is not significant. However, the Department recognizes that the processes and responsibilities should be better documented to ensure that duplication is eliminated and that efforts should continue to improve the co-ordination and integration of the work of analysts and field examiners.

The Department will study whether the relocation of analysts to its regional offices would improve its efficiency and effectiveness.

The Department will continue to improve co-ordination of field work with external auditors and, in this connection, will review the areas where it may be possible to place more reliance on external auditors of regulated companies.

The Department will consider exercising more frequently its legislative right to have special and expanded audits conducted by external auditors. However, the Department believes that it is important to recognize that two of the most significant problem areas it has faced in recent years relate to possible overstatement of real estate values and understatement of claims reserves. The Department's approach has been to deal directly with experts in these fields. Frequent use has been made of real estate appraisers and claims reserves specialists. In a number of instances, company external auditors have not been supportive of the reserves that the Department believed to be necessary for real estate related investments.

Methodology and Work Tools
12.34 Standards and procedures for carrying out supervisory activities were informal in many areas and inadequate in some. Work tools were out-dated and inefficient. For instance:

    - Field examination standards, guidelines and procedures at the time of our audit required significant improvement. For instance, we found limited processes for resource allocation and budgeting, little evidence of planning and supervisory review, and poor documentation of work done. However, major initiatives were under way to complete policy and procedures manuals and to implement their use in the field examinations.
    - Procedures for the review and analysis of statements were not fully documented.
    - Limited use was being made of computer technology in many areas, with the result that opportunities for improved efficiency may be lost. For example, all analyses of company financial statements in the Trust and Loan Division were being done manually. In another instance, the records relating to over $17 billion in securities of British and foreign insurance companies deposited with the Receiver General for Canada were being maintained manually by the Special Services Division. During 1985, the Department processed 25,000 investment transactions and calculated in excess of 2,000 deposit positions.
    - The current organization of the examination function that was introduced in the late-1960s is inefficient, leading to problems in directing, reviewing and reporting on the results of examinations and in developing and advancing staff. For instance, in the Toronto office, all examination staff, regardless of level, report direct to the Chief Examiners. This span of control is excessive given that each Chief Examiner is responsible for ensuring that upwards of 100 examinations are carried out each year. We were informed that classification difficulties have contributed to the problem.
12.35 The small size of the Department, the frequent communication between senior management and all levels of staff and the collective knowledge and experience of the employees have alleviated these problems to some extent. But, given the complexity and nature of the industries it regulates and the rapidly changing environment, the Department needs to question the usefulness of the techniques and procedures it was using 20 years ago.

12.36 There are efforts now under way in various parts of the Department to introduce better guidelines and procedures, a major study to identify EDP needs has recently been completed, and the structure of the examination function is under review. However, these initiatives will need direction, co-ordination and support from senior management to ensure that they are implemented promptly.

Departmental comments: Senior management recognizes that standards and procedures can continue to be improved. As indicated above, initiatives are under way and senior management intends to provide the direction, co-ordination and support necessary to ensure that they are implemented promptly.

With respect to field examinations and review and analysis of statements, significant changes in the manner in which the Department carries out examinations and analysis work have been made in recent years. While the Department will continue its efforts to make further improvements, it believes that the quality of its examination and analysis work is satisfactory. However, again in a period of severe work pressures, emphasis has been placed on implementing the changes as opposed to documenting fully the processes used. The Department agrees that documentation of standards, guidelines and procedures needs to be improved and steps will be taken to see that this is done.

Liquidation of Companies

12.37 Under the provisions of the Canadian and British Insurance Companies Act, the Foreign Insurance Companies Act, the Trust Companies Act and the Loan Companies.Act, the Superintendent of Insurance must report to the Minister of Finance when he believes the assets of a company are not sufficient to protect the policy holders, depositors, debentureholders and other creditors of the company. The Minister can initiate procedures for winding up a Canadian company or a foreign company's operations in Canada. For Canadian companies, the Superintendent can take control of the company's assets on his own or as directed by the Minister.

12.38 At the time of our audit, the Superintendent was in the process of liquidating four Canadian, and the Canadian branches of two foreign, property and casualty insurance companies (see Exhibit 12.3). In each case, a national receivership firm had been appointed as the Superintendent's agent to carry out the liquidation under his direction. Total costs of liquidating these companies, comprising agent and legal fees and administrative expenses, are estimated to exceed $70 million. These costs are being recovered from the insurance industry. As of 31 March 1986, they amounted to some $17 million, of which $7 million was incurred during 1985-86.

Exhibit not available

12.39 The Department's guidelines for appointing agents require the submission of three to five proposals, and there are detailed selection criteria that include the experience of the agent's personnel, fee rates and industry concurrence. Since 1982, the Department has entered into formal contracts with agents that stipulate reporting responsibilities, staffing and rates for the agent and for the legal services to be provided during the liquidation. The agents are required to submit work plans, budgets and quarterly status reports. The departmental officer responsible for the process maintains frequent contact with the agents and with the Industry Advisory Committee throughout the liquidation period.

12.40 We have concluded that the present process for handling insurance company liquidations is generally satisfactory.

Supervision of Pension Plans

12.41 The Department of Insurance is responsible for administering the Pension Benefits Standards Act (PBSA) which regulates all federally registered employee pension plans, except for the federal government's public service pension plans. In essence, the Department is responsible for ensuring the financial solvency of these plans and making sure that requirements for legislative funding, investment and plan provisions are met.

12.42 The Department supervises some 750 plans covering 600,000 employees. These plans, with total assets of about $28 billion, range from very small ones with fewer than 10 members to plans with over 10,000 members. The types of employers range from sole proprietors and Indian bands to chartered banks and multinational corporations.

12.43 The Pension Benefits Division, under the direction of the Chief Actuary, is responsible for administering the Act. The Division provides actuarial advice to the Department of National Revenue - Taxation regarding the deductibility of certain employer contributions. It also supervises certain provincially registered pension plans under the terms of federal-provincial reciprocal agreements.

Pension Reform

12.44 The Department has been heavily involved in pension reform over the past several years. The Pension Benefits Division, in particular, has been involved in drafting Bill C-90, which made amendments to the PBSA, and in drafting extensive changes to the regulations. The division director estimates that he spends about half his time on pension reform issues, including discussions with other pension authorities on implementing uniform pension legislation across the country.

12.45 The new legislation will result in an additional workload for the Department. For the sort of major changes that are contemplated, one would expect to see an implementation plan that would include forecasts of workload requirements and staffing and training needs, estimated turnaround times for processing applications and annual renewals, and deadlines for making revisions to procedures manuals. We saw little evidence that any of this was being done. Without such a plan, the Department may not be in a position to cope in an efficient and effective way with the new workload.

12.46 The Department of Insurance should develop plans to deal with changes in the Pension Benefits Standards Act so that it can cope with the increased workload for the Department.

Department's response: The Department agrees that plans should be developed to deal with the recent major revision of the Pension Benefits Standards Act. Some plans have already been developed and others are in the process of being developed.

Registration

12.47 The Pension Benefits Standards Act sets out standards for registering employee pension plans that come under federal jurisdiction.

12.48 In our opinion, registration procedures are satisfactory. We found that the individuals involved in the registration process whom we interviewed were knowledgeable about the legislation and the plans they administer. The turnaround time for processing applications and renewals, reviewing actuarial calculations and dealing with queries is less than two weeks, and complaints are rarely received from plan sponsors.

Assessing Financial Solvency

12.49 The number of pension plans administered by the Division is growing rapidly. In the last calendar year, some 150 new plans were registered, bringing the total to over 750; during the same period, the total assets administered by the plans grew from $22 billion to $28 billion.

12.50 The Department has the same stated objective for monitoring pension plans as it has for supervising financial institutions - to ensure their financial solvency and the propriety of the organizations' management policies. However, the way in which the Department supervises pension plans is much less rigorous than it is for insurance and trust and loan companies. In the case of pension plans, the Department relies almost entirely on the representations of management. It carries out few field examinations and the only audited information required is an audited statement of assets every three years for non-insured pension plans.

12.51 The Department believes that pension plans are not exposed to the same risks as the financial institutions. For instance, only one plan has been wound up in a deficit position since the legislation (PBSA) was enacted 18 years ago. Problems from wind-ups are minimized because actuaries use conservative estimates in determining funding requirements. In addition, pension fund assets are often administered under trustee arrangements with financial institutions.

12.52 Still, we have seen no evidence of any formal process for assessing risk and vulnerability that indicates whether present supervisory practices are adequate. For example, we would have expected to see some evidence of consideration of those factors, such as self-dealing activities and changes in real estate values, that contributed to the recent insolvencies of financial institutions. Over the past several years, there have been a number of major wind-ups and mergers. There is a growing trend to withdraw surpluses from pension funds to provide cash funds for company operations.

12.53 In our opinion, the Pension Benefits Division is running the risk that its present supervisory procedures will not permit it to do an adequate job of monitoring the financial solvency of employee pension plans and the propriety of the employers' management policies. There are satisfactory procedures for monitoring compliance with legislative requirements, registering plans and reviewing actuarial reports. But the Division does little to obtain independent assurance; for instance that employee contributions have been paid into the fund, and that the company applies appropriate management practices in administering the plan for the benefit of its members.

12.54 Since the first field examination was carried out in 1971, there have been only 42 examinations of the some 750 plans; no plan has been audited more than once. On average, only three or four examinations have been done each year.

12.55 In selecting plans for examination, the Division tries to aim at large plans and those with suspected problems. Other than that, there are no guidelines for selection, no criteria for determining audit scope, limited examination procedures and no guidelines for reporting and following up observations. Recent examinations have been conducted by only two or three people, and the on-site visits have lasted only three or four days, irrespective of the size of the plan.

12.56 Procedures for reviewing pension plan assets are inadequate. Under the terms of the current legislation, pension plan sponsors are required to submit triennial statements of assets to the Department. These are reviewed to ensure that the assets meet the eligibility criteria specified in the Act. However, there are no written procedures to ensure the cross-checking of the statements against audited financial information to make sure they match. Nor are independent reviews carried out by the Department through field examinations or otherwise, to assess the underlying value of investments in real estate, mortgages and other such assets. Moreover, the present statement of assets does not provide any information on asset activity between the reporting dates, so there is no way to find out whether ineligible investments were made during the intervening period.

12.57 The Department of Insurance should undertake a thorough review of its present supervisory practices for pension plans. In particular, it should:

    - carry out a formal risk assessment and identify priority areas;
    - assess the adequacy of its present field examination standards;
    - review the adequacy of procedures for monitoring pension plan assets; and
    - evaluate whether the Department's present procedures clearly reflect its duties and responsibilities under the Act.
Department's response: In monitoring financial solvency, the Department and the corresponding supervisory agencies in the provinces having pension legislation have traditionally relied principally on the information provided in the annual information return, the triennial actuarial valuation required to be prepared by a qualified actuary, and the triennial audit of assets. It has been the Department's practice to conduct a few examinations every year, concentrating on plans where supervisory problems have been encountered.

Actuarial valuations are scrutinized particularly carefully to ensure that the Department is satisfied that the actuarial assumptions and methods are adequate and appropriate and are in accordance with Recommendations for the Valuation of Pension Plans established by the Canadian Institute of Actuaries (CIA). In the Department's opinion, current market values of assets are not as crucial to the solvency of pension plans as they are to financial institutions with demand or short term liabilities. In accordance with the CIA Recommendations for the Valuation of Pension Plans, the asset valuation method used by the actuary must be consistent with the economic assumptions used for the calculation of the related value of benefits and compliance with this requirement is carefully monitored.

The Pension Benefits Standards Act 1985, which received Royal Assent on June 27, 1986 and becomes effective January 1, 1987, together with the pertinent Regulations which have been released in draft form for discussion purposes, include a number of measures to try to further ensure financial solvency of pension plans. Pension plan administrators will have a statutory obligation to administer the pension fund to protect the benefits of plan members. All amounts deducted by an employer from members' remuneration that have not been remitted to the pension fund, as well as any amounts due from the employer, will be deemed to be held in trust and the plan administrator will be obliged in accordance with the Regulations to advise the Superintendent if any remittances of pension fund contributions are overdue more than 60 days. Information on plan assets can be required to be filed as frequently as the Superintendent of Insurance directs and audited financial statements, as opposed to the current audited lists of assets, will be required.

Notwithstanding the above comments, the Department recognizes the desirability of carrying out periodic reviews of its supervisory practices. Therefore, it intends to carry out the review, assessments, and evaluation recommended.

Reviews by Other Pension Bodies

12.58 Legislation provides for the federal government to enter into reciprocal pension arrangements with the provinces; it has done so with seven. The purpose of these agreements is to eliminate duplication of administrative procedures in supervising pension plans that are subject to the PBSA and also to one or more similar provincial acts. During 1984-85, 94 plans covering 146,000 employees were supervised by the provincial authorities on behalf of the Department of Insurance, and 25 provincially-registered plans covering 24,000 individuals were supervised by the Department.

12.59 The industry generally acknowledges that guidelines for monitoring compliance with legislative requirements are much stricter at the federal level. We noted that although the Department does receive a certificate of supervision from provincial authorities, it has no written guidelines for the provinces to follow in supervising pension plans on its behalf nor does it formally review the work they do in this connection. In view of the significant number of plans supervised outside the Department, it is important that formal arrangements be in place. Without such guidelines, the Department has no way of ensuring that the pension plans are well supervised.

12.60 Where pension plans are supervised by provincial authorities on behalf of the Department, or vice versa, the Department of Insurance should establish standards and guidelines to ensure that all pension plans receive an adequate and consistent level of supervision.

Department's response: The Department will raise this matter at the next meeting of the Canadian Pension Supervisory Authorities which has as its principal objective the uniformity among jurisdictions of pension legislation and regulation. Provincial authorities supervising pension plans on behalf of the Department will be provided with copies of pertinent procedures manuals and other work instruments. It is agreed that all pension plans falling within the jurisdiction of the Department should receive an adequate and consistent level of supervision.

Actuarial Services

12.61 Under the direction of the Chief Actuary, the Actuarial Branch provides actuarial services and advice to the federal government on a vast array of government programs. The bulk of these services relate to preparing actuarial calculations and statutory reports on the Canada Pension Plan and the government's employee pension plans.

12.62 The results of this actuarial work are significant in many pension policy deliberations. For example, projections of long-term cost commitments can have an effect on determining the level of contribution rates, determining pay scales and assessing the ongoing costs of social programs. Each year, actuarial projections of unfunded liabilities are reflected in the Public Accounts of Canada.

12.63 The enactment in March 1986 of Bill C-255 on Public Pension Reporting requires the Chief Actuary to conduct actuarial valuations of all government employee pension plans, including those for Judges and Members of Parliament, at least every three years. Reports must be tabled in Parliament within 18 months of the review date. Previously, although the Chief Actuary traditionally carried out these reviews, he was not designated by law to do all of them; moreover, not all actuarial reports were required to be tabled in Parliament, and there was no reporting deadline for any of them.

12.64 The legislation requires more frequent reporting in respect of the Canada Pension Plan. In addition, long-term cost projections for the Old Age Security program, which have never been carried out before, have to be calculated by the Chief Actuary and are subject to the same requirements as the pension programs.

Valuation Process

12.65 We reviewed the methodology used in the valuation of the largest employee pension plan, the Public Service Superannuation Account (31 December 1980). We also took into account the results of our review of the 8th Statutory Report of the Canada Pension Plan (31 December 1982), carried out as part of our 1985 audit of public pension management.

12.66 The results of both these reviews indicated work of a quality that meets high professional standards. The actuarial assumptions used were, on the whole, consistent and reasonable. The Chief Actuary is involved in setting all actuarial assumptions and in writing the final reports. In addition, the reports are comprehensive - for example, certain of the actuarial assumptions vary not only by the employee's age but also by length of service, periods since retirement, periods since widowhood, etc. Moreover, this degree of thoroughness has not suffered in spite of the constant demand for urgent and special work placed on the divisions.

Timeliness of Information

12.67 The dollar magnitude of federal retirement income programs (in excess of $20 billion in annual expenditures), together with their high visibility and significant impact on government expenditures, makes it important that actuarial projections of long-term costs and commitments of the programs are available when they can be used to best advantage. Moreover, not having current and timely information can result in incorrect information on actuarial surpluses or deficiencies. The enactment of Bill C-255 on Public Pension Reporting now makes timely reporting mandatory, requiring that actuarial reports be tabled no later than 18 months after the review date.

12.68 So far, the Actuarial Branch has been able to provide information on the Canada Pension Plan on time, despite the additional workload requirements. The most recent statutory report was tabled in Parliament 17 months after the valuation date. Time pressures created by special assignments during the same period have been dealt with by using rough estimates when precise numbers were not necessary. The Department believes that there will be adequate time to deal with the additional requirements for the valuation of the Old Age Security program and that the reporting deadlines will be met.

12.69 There is a problem with providing actuarial reports on employee pension plans on time, however. Exhibit 12.4 shows the significant delays in tabling information in Parliament. The principal reasons for this have been the demands on the Branch for other top-priority work, delays in defining requirements for and receiving data from the Department of Supply and Services (DSS), and delays by Ministers in tabling completed reports.

Exhibit not available

12.70 There are significant time pressures created by the constant stream of urgent work imposed by Cabinet, the Treasury Board and other government departments and agencies. These special priority assignments take up a considerable portion of available hours. Based on the Branch's time records of the Division responsible for working on employee pension plans, it is estimated that 25 to 35 per cent of its efforts were devoted to special projects from 1982 to 1985. In the second half of 1985, approximately 90 per cent of available time was spent on these types of assignments, causing even longer delays in performing normal work.

12.71 In the face of such interruptions, the actuarial staff have been forced to decide between performing a less professional job on the actuarial reports on public service pension plans and extending deadlines. They have generally chosen to extend deadlines.

12.72 To do the actuarial reports on public service pension plans, the Division requires computer data from the departments that administer the payroll systems. The Department of Supply and Services provides a significant part of the data.

12.73 For many years, there have been lengthy delays in finalizing this data. On average, it has taken 15 to 30 months after the review date to do this. In some instances, there have been delays (in one case, it was 14 months) by the Department of Insurance in providing DSS with final specifications for data requirements. In other instances, it has taken DSS up to a year, after the receipt of final specifications, to provide the raw data.

12.74 Moreover, the Division has had considerable difficulty reconciling the number of plan members from valuation to valuation. An example of this problem appears in the last completed valuation, as of 31 December 1980, of the Public Service Superannuation Account where there was a significant unidentified actuarial loss of $398 million that appeared to relate primarily to errors in the membership data.

12.75 The DSS data systems are being amended. To date, the Department of Insurance has not been consulted on the proposed changes. Moreover, we noted that there is no formal memorandum of understanding between the Departments as to the timing, kind and quality of the information required.

12.76 In our opinion, the Department needs to take aggressive action to deal with this situation.

12.77 To meet the new legislative reporting requirements, the Department of Insurance should:

    - consider alternative ways of meeting workload requirements, such as contracting work out, when special priority assignments are imposed on the Chief Actuary that are likely to lead to lengthy delays in producing ongoing actuarial reports; and
    - take immediate action, together with the Department of Supply and Services, to resolve the long-standing problem of late and inaccurate employee pension information and to reduce the likelihood of future occurrences.
Department's response: The Department will consider alternative ways of meeting workload requirements such as contracting work out.

With regard to the problem of data and inaccurate employee pension information, the Department will make every effort to ensure that, in accordance with its long standing policy, data specifications are provided well in advance of the end of any reporting period and stands ready to provide whatever assistance is required by the Department of Supply and Services to resolve any remaining problems.

Methodology and Work Tools

12.78 We also reviewed the processes and guidelines in place to carry out and review the valuations. In our opinion, the work processes and review procedures were generally satisfactory.

Reporting to Parliament

12.79 The Department of Insurance reports annually to Parliament on the administration of the legislation governing the financial institutions and pension plans it is responsible for regulating. The Department is also required to table periodic actuarial valuations of government pension plans. Finally, through the Estimates, it accounts to Parliament for its financial performance.

12.80 Estimates. We reviewed Part III of the Department's 1986-87 Estimates for adequacy of content and accuracy of disclosure to Parliament. In our opinion, the information contained in the Estimates generally meets the standards of disclosure developed by the Office of the Comptroller General.

12.81 Annual reports. Complying with legislation, the Department prepares annual reports containing information on the financial condition and affairs of supervised financial institutions. Through a computer data bank, it also makes information available to the public from annual financial statements filed by these companies.

12.82 Over the past six years, the Department has taken action to reduce the volume of data in the reports, computerized the process of assembling the financial information and advanced the tabling date. Current plans call for an even earlier completion of this year's annual reports.

12.83 Despite these efforts, the reports are still voluminous. The 1984 annual report on Life Insurance Companies and Fraternal Benefit Societies ran to over 400 pages. Most of these pages are devoted to summary financial information on each company. Although the legislation requires the reporting of this information to the Minister, and subsequently to Parliament, this kind of detailed reporting may no longer be appropriate.

12.84 Much of the same information is usually available to the public about six months before the printed information is tabled in Parliament in the computer data bank referred to earlier.

12.85 On the one hand, information about financial institutions is extensive; on the other, information in the annual report on administering pension plans is very limited. The value of both kinds of reports is questionable.

12.86 The Department of Insurance should assess how useful the present annual reports are to Members of Parliament and consider alternative, more effective ways of providing the information.

Department's response: The Department agrees that it would be desirable to carry out another assessment of the usefulness of the present annual reports not only to Members of Parliament but also to members of the public and to the industries concerned who ultimately pay the related costs. Appropriate steps will be taken.

12.87 Actuarial reports. The Public Pension Reporting Act (Bill C-255) will require tabling actuarial reports in Parliament on all major federal pension plans. The purpose of the legislation is to improve the reporting and timeliness of information to Members of Parliament about pension costs.

12.88 As they are now drafted, the actuarial reports are written in such a manner that they are clearly understood by members of the actuarial profession. But, generally, persons other than those with actuarial knowledge have difficulties understanding the financial implications of what is being said. In view of the significance of the cost projections contained in these reports and the policy implications involved, there is a need for the Department to consider presenting summary information in a way that clearly sets out for Members of Parliament and other readers the implications of what is being reported. Using charts and graphs would be helpful in this regard.

12.89 The Department of Insurance should make it easier for Members of Parliament and other readers to understand the implications of the information contained in its actuarial reports.

Department's response: The Department will continue in its attempts to make it easier for Members of Parliament and other readers to understand the implications of the information contained in its actuarial reports.

Planning and Evaluation

Planning

12.90 Given the Department's important role in regulating Canadian financial institutions and protecting the public against financial loss, strategic planning is essential for the effective management of its operations. It is important that the Department be able to consider future risks and anticipate industry trends, conditions and requirements and to develop strategies and plans for dealing with them. A strategic overview was prepared in March 1980. The Department was exempted by Treasury Board from having to produce a subsequent overview and, as a result, it has not been updated since then.

12.91 The Department's formal planning processes are limited. There is a Director of Legislative Planning who is responsible for preparing new legislation. The Superintendent is a member of a Senior Advisory Committee that is currently looking at the reorganization of the federal regulatory bodies involved in supervising financial institutions. The small size of the Department and the close and continuous contact between the Superintendent and the senior staff contribute to the planning process, but in an informal way.

12.92 Departmental officials acknowledge the need for better planning. They believe that the many outside pressures over the last few years - company failures, pension reform and pending major changes in existing legislation - have prevented them from devoting enough time to this area. For instance, dealing with each company failure over the past several years has taken as much as 50 to 100 per cent of the time of the Superintendent and the directors of the affected industry divisions for periods of up to several months.

12.93 In our opinion, a better strategic planning process, suited to the Department's needs and incorporating the results of evaluation studies, would help them to anticipate and cope with some of these pressures.

12.94 In addition, the use of performance measurement and other techniques and integration of human resource planning would do much to improve the usefulness of the existing plans.

12.95 The Department of Insurance should improve its existing planning processes by:

    - preparing and regularly updating a strategic plan;
    - integrating human resource planning with operational planning; and
    - making better use of performance measurement and other planning techniques.
Department's response: The Department acknowledges that existing planning processes should be improved. A strategic plan will be prepared and further steps will be taken to integrate human resources planning with operational planning. Some work has been done on performance measurement but some outside assistance may be necessary to complete this endeavour.

Program Evaluation

12.96 The Department has not completed an evaluation of any of its activities.

12.97 In January 1984, the Department developed a plan to evaluate its Supervision of Companies activity. The first part of the study, which was a series of case studies of institutions experiencing financial difficulties, was completed in June 1985. The remaining parts of the evaluation, dealing with an internal review of its supervisory methods and procedures and comparisons with other jurisdictions, have been deferred until resources become available.

12.98 In June 1985, the Department revised its plan relating to the Supervision of Companies activity and developed a plan to cover its other activities. Because of the number of companies continuing to experience financial difficulties, the officer responsible for conducting the study was assigned to duties considered to be more pressing, and he was not replaced.

12.99 The revised evaluation plan has never been formally approved by senior management.

12.100 No evaluation studies or assessments have been yet undertaken of the Department's other major activities, Supervision of Pension Plans and Actuarial Services, although the draft evaluation plan provided for completion of a review of these activities by 1988 and 1987 respectively.

12.101 Despite the delays in carrying out the evaluation studies and the present lack of resources devoted to this function, senior management seems to be committed to the importance of this activity. The Superintendent has said he intends to fill the position of the previous incumbent. He is also considering the possibility of using outside resources to conduct the evaluations.

12.102 The Department of Insurance should approve and implement its evaluation plan and ensure regular evaluations of the effectiveness of all departmental programs.

Department's response: Through re-allocation of internal resources, a position at a senior officer level has been established to assume responsibility for the implementation of an evaluation plan. Staffing of the position is in progress.

Cost Recovery

12.103 Total program expenses incurred by the Department amounted to $19 million in 1985-86. In accordance with legislation, expenditures incurred by the Department for the supervision of financial institutions are recovered from the institutions. Also, costs of rehabilitating and liquidating companies are fully recovered from the industry. The cost of work done on behalf of the Canada Deposit Insurance Corporation (CDIC) and the provinces, as well as for the Canada Pension Plan, are recovered from those organizations, too. Fees paid by pension plans supervised under the PBSA cover 70 per cent of departmental administration costs. So the Department recovers 85 per cent of its regular expenses and 100 per cent of liquidation and rehabilitation costs.

12.104 Supervision and liquidation costs are billed after the end of the fiscal year. Actuarial services and work done on behalf of CDIC are billed quarterly, based on estimated costs, with a final adjustment to actual. Pension plan fees are remitted at the time of filing annual returns.

12.105 In our opinion, the cost identification and allocation process is accurate and conforms with the legislation and the agreements entered into with the provinces and other agencies. There have been a number of recent management initiatives to improve cost-recovery procedures, but we believe that further improvements would result in savings to the federal government.

12.106 Traditionally, it has been the practice of the Department to bill supervision and liquidation costs to the industry only after the close of the fiscal year. This can take up to eight months after the year end.

12.107 The present practice results in loss of interest to the Consolidated Revenue Fund. Using Government Treasury Bill rates (average 90 day rates), we estimate that by not billing regular supervision and special assessment (liquidation) costs as incurred, there was a loss in foregone interest to the federal government of over $1 million in each of the last two fiscal years.

12.108 The Department should consider billing these costs as incurred. This probably will require a change in legislation.

12.109 The Department of Insurance should adopt the practice of billing all recoverable costs as they are incurred.

Department's response: The Department of Justice has confirmed that an amendment to the Department of Insurance Act will be necessary to authorize the billing of regular supervision and special assessment costs on a basis more frequent than annual and this will be kept in mind as work on the revision of legislation related to the supervision of financial institutions proceeds. In the meantime, procedures for preparing the assessments have been revised and the eight month period referred to in the report has been reduced to four.