Making sense of the CPP changes

Under the current Canada Pension Plan (CPP) rules, employees and employers are not required to pay CPP contributions for employees who are working while collecting CPP. However, effective Jan. 1, 2012, if an employee is under age 65 and continues to work while receiving CPP, both the employer and employee will be required to make CPP contributions. For working employees between the ages of 65 and 70, contribution by the employee becomes voluntary; however, should an employee opt to contribute to CPP, his or her employer will also have to make CPP contributions.

These and other changes to the CPP are being carried out in phases, beginning in 2011 and ending in 2016. Dave Ablett, director of tax and estate planning with Investors Group, discusses what the recent and coming changes mean for employees and employers.

Encouraged to delay Under the new CPP rules, employees who receive CPP before age 65 will see a reduction in benefits, whereas those who postpone receipt until after age 65—but no later than age 70—will see an increase in the benefit.

“It’s clearly an attempt to encourage individuals to postpone receipt of CPP benefits as soon as possible,” explains Ablett. “Currently, about 65% of all participants in CPP took those benefits before age 65. And only about 4% of those individuals actually postpone receiving CPP. People are not prevented from taking their benefits before age 65, but there will now be a higher penalty to do so.”

Under the old rules, the reduction rate was equal to half a percentage point for every month between the start of CPP benefits and age 65, which means someone who decides to receive CPP at 60 would have a reduction of 30%. Starting in 2012, that monthly reduction increases to 0.52%.

“So, for somebody who retires in 2012 at age 60, the reduction in their benefit will be 32.1%,” says Ablett. “They’re gradually phasing in these increase reductions so that by 2016, the full reduction for a 60-year-old will be 36%.”

However, the phase-in for postponed retirement premiums is much faster. Under the old rules, the premium increased by 0.5% for each month after age 65 (up to age 70) that contributors delayed receiving CPP. Under the new rules, the monthly increase was raised to 0.57% in 2011 and will go up to 0.64% in 2012 and 0.7% in 2013.

Elimination of work cessation test Currently, employees who are between the ages of 60 and 65 and want to receive CPP have to complete a work cessation test.

“To be eligible to receive CPP, either you have to stop working or, for two consecutive months, your earnings have to be less than the maximum monthly CPP benefit, which is $960 per month,” says Ablett. “But as of 2012, the work cessation test is being eliminated, so there doesn’t have to be any interruption in the person’s earnings in order to start receiving CPP.”

Low earnings dropout provision Currently, individuals who have a period of unemployment—perhaps they’ve gone back to school or been out of the workforce for a few years—are entitled to the “low earnings dropout” provision. This provision allows for the lowest 15% of earnings to be dropped out of the calculation for CPP.

Starting in 2012, the dropout period will be raised to 16%, and in 2014, it will be increased to 17%.

Accrual of additional benefits “The change that will be the most significant is that for the first time under the Canada Pension Plan, an individual who is receiving CPP retirement benefits will be able to accrue additional benefits,” says Ablett.

These additional benefits are post-retirement benefits, earned by those who are under age 65 and are continuing to work while receiving—and contributing to—CPP. These benefits rise with increases in the cost of living, even if the individual is already drawing the maximum pension from CPP.

“Where this might have some interest is for individuals who were out of the workforce or had low earnings for a long period of time or came to Canada relatively late in life,” says Ablett. “This will, in effect, enable them to supplement their CPP benefits by working longer.”

Choice and the crossover point People have always had to make the decision whether to take CPP at age 60 or postpone taking it until age 65. That choice still exists under the new rules, but what complicates matters is that if they continue to work, they will continue to contribute to CPP and earn additional benefits, says Ablett.

To help make the decision of when to start taking CPP, Ablett recommends employees consider the crossover, or break-even, point.

“That’s the date at which, if you started to take the larger payments later on, at what age would those cumulative benefits be equal to the lower benefits that started at an earlier date?”

For example, take somebody who is at age 60 and decides to stop working entirely. According to Investors Group’s research, under the current rules, if that individual decided to receive his or her CPP at 60 as opposed to 65, and if that individual does not reinvest the CPP money that he or she gets, the crossover point is calculated as being at age 75. “So, you would have to live to be at least 75 for the decision to delay CPP to 65 to be the better decision,” says Ablett.

“When you postpone CPP, you are taking a risk,” he continues. “And so, individuals in that situation should be considering their own health and life expectancy.”

Under the new provisions, given the higher penalty for taking the CPP benefit at age 60, the crossover point moves down, to age 73. “In effect, they’re saying there’s a higher penalty for receiving your money earlier,” says Ablett. “So, it’s now—relatively speaking—more attractive to postpone. But again, the [person] has to say, ‘What are the chances of me living to be at least age 73?’”

Investors Group also calculated the crossover for an individual who wants to receive CPP at age 60 or 65, but continues to work. “The crossover point in that situation under the new provisions is 75,” says Ablett. “So, if you live to be at least 75, the better decision would be to start receiving CPP at 65 as opposed to age 60.”

Visit the Service Canada website for a summary of changes to CPP.