December 20, 2011 – In May of 2009, the federal government announced a number of changes to the CPP meant to enhance the sustainability of the fund and add to individual retirement security and longevity. At a time when an increasing number of Canadians can’t afford to retire and worry about out-living their savings, these changes add an important element of long-term security. Over the years, CARP has recommended these changes to allow people to structure their retirement gradually especially if they needed to draw on their CPP and continue working.
Two Changes for 2012
1. Elimination of the Work Cessation Test
Prior to 2012, if you took your CPP retirement pension before age 65, but wanted to keep working, you had to either stop working or significantly reduce your earnings for at least two consecutive months, as required by the CPP “work cessation test.” After a two-month period with employment earnings not exceeding the CPP maximum retirement pension , you could return to work and start earning more, which presented challenges to employees in workplaces that don’t guarantee flexibility or work-leave. Most employers, after all, would not readily facilitate a two-month leave to allow an employee to collect CPP and then return to work.
For people who chose to collect CPP before 65 but intended to continue working, the work cessation test was an unnecessary and burdensome exercise that forced workers to choose between disrupting their workplace, or taking a significant reduction in pay for a period of two months, both at a financial cost that presumably they could ill afford since they had felt the need to take the early pension in the first place.
Beginning in January 2012, the work cessation test is eliminated. If you’re 60 to 64 years’ old, you will be able to take your CPP retirement pension without having to stop working or reduce your earnings. This change reflects the different ways Canadians retire. Retirement is a process that often occurs in stages, rather than a one-time event. By eliminating the work cessation test, Canadians will be able to transition to retirement gradually and more easily.
2. Introduction of the Post-Retirement Benefit
Until the recent CPP changes, once you began to draw your CPP, you could no longer contribute to it and increase your CPP retirement pension even if you continued working. Starting in 2012, if you are receiving a CPP retirement pension and choose to work, you can continue to make CPP contributions that will increase your CPP pension through the Post-Retirement Benefit (PRB). This means that the newly-created PRB will be financed through the contributions to the CPP fund made while contributors are receiving their CPP pensions. If you are under age 65, contributions will be mandatory for you and your employer. If you are 65 to 69 years’ old, contributions will be voluntary, but your employer will have to contribute if you choose to. People 60 to 69 years of age who make these contributions in any given year will begin to see an increase to their pension payments in the following year.
This change is consistent with the different ways and reasons people retire. Before, if you chose to – or had to – retire before 65, there was no way to make up the permanent reductions in your CPP benefit for taking early retirement. Now, you can retire early, choose to work, and continue to build additional, life-long, inflation–indexed, CPP pension benefits.
The Service Canada website has a calculator [see below] that allows you to measure potential PRB given your age and income and when you intend to stop working.
For example, if you are 63 in 2012, already collect your CPP retirement pension, intend to work until 65, and earn in 2012 more than $50,100 (the maximum amount on which to base the CPP in 2012), you will receive each year for the rest of your life, starting in 2013, an additional indexed monthly retirement benefit of $296 ($24.67 per month).
It is worth noting that any such additional CPP retirement pension is added to your existing CPP benefit, meaning that your new total benefit could exceed the normal maximum benefit allowable by the CPP.
Much has been made about how long it would take for the increase in pension to “pay back” the new additional contributions. Some say it is 15.6 years, i.e. the maximum CPP combined contribution of $4,613.50 for 2012 divided by the maximum additional pension of $296 for 2012. However, this calculation does not take into account the value of each future annual indexation increase, which reduces the number of years from 15.6 to 12.3 assuming a 2% annual indexation rate. In looking at such measures, one must consider that the CPP retirement benefit lasts after the death of the pensioner if upon death he/she leaves an eligible surviving spouse to whom a lifetime indexed 50% surviving spouse pension then becomes payable. In other words, the price charged for the additional CPP benefits is fair, especially considering that:
· it was determined using the favourable long term actuarial assumption of the plan, effectively a 4% real rate of return on investments;
· the underlying additional benefits are fully guaranteedfor life;
· This is the only inflation–indexed annuity available on the market.
The raft of CPP changes also adjusted the level of pension reduction for early [pre-65] pensions and of the increase for late [post- 65] pensions. Taking effect in 2011, early pensions are now reduced by up to 36% and late pensions carry an increase of up to 42%. The previous levels of decrease and increase were 30% at both age 60 and age 70.
The changes were introduced without much public discussion or warning, so it is not surprising that it came as unwelcome news to people who had planned to take an early pension under the old rules, anticipating that they could get five extra years of a reduced CPP pension without having to make any additional contributions, to now discover that they will have to make CPP contributions for those years, albeit with an increase to their annual pension benefits. This would be particularly annoying for the self-employed who pay both the employers’ and employees’ contributions.
Individuals who took the reduced pension before 2009 when the CPP changes were announced and will still be under 65 in 2012 when the required contributions take effect might be disappointed by the onus put on them to contribute to CPP at least until age 65 if they have employment earnings, even if, as indicated above, these additional contributions provide an advantageous level of additional lifetime guaranteed retirement benefits. These people would have taken the 30% [versus today’s 36%] discount on their pension for the last three years and will have to pay the new contributions for a maximum of 2 years until they reach 65. They have a fair argument that they should be grandfathered since they made their choice under the old rules. Anyone choosing to take a reduced pension after 2009 would be covered under the new rules and would be able to weigh the options with all the information.
In total, the changes serve the stated purpose of improving the long-term financial sustainability of the CPP while helping people who keep working after drawing their CPP pension to contribute and build up further their pension benefits.