Jaclyn Cecereu July 27, 2023 Personal Wealth CPP Explained The foundation of many Canadians’ retirement is the Canada Pension Plan (CPP). The CPP is designed to replace part of your income when you retire or become disabled. The plan is financed by contributions from employees, employers and self-employed individuals, and funds are professionally managed by the CPP Investment Board. CPP is a government mandated, contributory pension plan. Anyone who is older than 18, employed, and receiving a salary must pay into the Canada Pension Plan until age 65. The CPP provides contributors and their families with partial replacement of earnings in the case of retirement or disability, and a lump sum benefit in the event of death. Contributions to the Canada Pension Plan Employees and employers contribute equally on earnings that are between the Basic Exemption Amount of $3,500 and the Year’s Maximum Pensionable Earnings (YMPE) of $66,600 in 2023. This year, contributions on those earnings are 5.95% by employees matched by 5.95% by employers. If you are self-employed, you pay both the employee and employer portions for a 2023 contribution rate of 11.9%. This means the maximum employee CPP contribution this year is $3,754 (or $7,509 if you are self-employed). The government has been enhancing the CPP program since 2019 to allow retired or disabled Canadians to benefit from a higher income replacement rate. Starting in January 2024, an additional earnings limit will be introduced and known as the Year’s Additional Maximum Pensionable Earnings (YAMPE). Canadians with income above the YMPE will contribute an additional 4% of their income between the YMPE and the YAMPE to the CPP. These additional contributions up to the YAMPE will be matched by your employer and are also mandatory. For example, let’s assume that the hypothetical YMPE for 2024 will be $67,700 and the YAMPE will be $72,400. If your income is above $72,400 you will contribute 5.95% up to the YMPE, and an additional 4% on the incremental amount between the YMPE and the YAMPE: YearContribution up to YMPEContribution up to YAMPETotal Contribution 2024 5.95% on ($67,700 – $3,500) 4% on ($72,400 – $67,700) Employee: $4,008 Employer: $4,008 Self-employed: $8,016 CPP Retirement Benefits Since you pay into the CPP based on your employment income, your CPP retirement pension benefit is based on the proportion of your earnings that you have paid into the plan. The amount of your CPP retirement pension depends on various factors, including: the age you decide to start your pension how much and for how long you contributed to the CPP your average earnings throughout your working life You can get an estimate of your future monthly CPP retirement pension payments by signing in to your My Service Canada Account, and it is important to verify that your annual earnings information is captured on Service Canada correctly! In 2023, the maximum monthly payment you could receive if you start your CPP retirement pension at age 65 is $1,306.57. However the average payment is closer to 60% of the maximum, or $811.21 per month. These amounts are increased by inflation each year and paid to you until death. If your income is above the YMPE (or YAMPE starting in 2024) every year between the ages of 18 and 65, you will receive the maximum CPP benefit payment each month in retirement. If you earn less than the YMPE (or YAMPE starting in 2024), there are a few exceptions that would still allow you to receive the maximum CPP retirement benefit. Child Rearing Drop-out Provision The child rearing drop-out provision is intended to benefit the parent that stays home making little to no income while raising a child under the age of seven, and this is done by excluding low-income child rearing years from the CPP benefit calculation. The period of eligibility to claim this provision starts with the month following the birth of the child and ends with the month that the child turns seven. If you have more than one child, eligibility starts the month following the birth of the oldest child and ends the month that the youngest child turns seven. Importantly, this provision is not automatic! The parent must complete a separate form to claim the child rearing years when applying for their CPP retirement benefit. Disability Drop-Out and Drop-In Provisions If you were disabled according to the CPP legislation, the months you received a CPP disability pension are excluded from your contributory period. This will increase your CPP retirement pension entitlement and may help you qualify for other benefits. Starting in 2024, the enhanced CPP program will drop in additional credits for the time you were disabled from 2019 onward. These credits are equal to 70% of your average earnings in the 6 years before you became disabled which were covered by the CPP enhancement’s YAMPE. The drop in provision is intended to protect the value of your CPP retirement benefits from periods of low income while receiving the CPP disability pension. General Drop-out Provision The CPP benefit calculation will drop out 17% of the months in a person’s career where they earned the least. Depending on how long your contributory period is, and whether other drop-out provisions also apply to your situation, this provision allows up to 8 years of your lowest earning years to be removed from the CPP retirement benefit calculation. The calculations for the Child Rearing Drop-Out and the Disability Drop-out periods take place before the General Drop-Out is calculated. The 17% drop-out is only applied if, after applying the child rearing and disability dropouts, more than 120 months (or 10 years) of earnings remain. Assuming you did not take any time off to care for young children and did not become disabled according to CPP, you would need to contribute the maximum CPP amounts for 39 years to receive the maximum pension amount in retirement. Timing of CPP Payments The default age to start taking CPP is 65 however, you can take CPP as early as age 60 or choose to delay it up to age 70. It might be tempting to take CPP as soon as you are eligible at age 60, but there is good reason to pause before making that decision. If you choose to take your pension earlier than 65, the amount you are eligible to receive is reduced by 0.6% for each month you receive it before age 65, or 7.2% per year. Said differently, you receive a guaranteed return of 7.2% for each year you wait until age 65. This means you will get 36% less CPP if taken immediately at age 60! Still, taking CPP early can be an attractive option for those with a reduced life expectancy or for those who simply need the money right away. On the other hand, the incentive to defer CPP up to age 70 is strong. For every month that you delay taking CPP after age 65, your payment will increase by 0.7% per month, or 8.4% per year. Waiting until age 70 means you will receive 42% more CPP than if you took it at age 65. Said differently, you receive a guaranteed return of 8.4% for each year you delay until age 70. While it may seem counterintuitive, delaying CPP is your best protection against longevity risk. The increased CPP entitlement you receive throughout your lifetime will eventually offset the CPP payments you gave up between ages 65 and 70. Post-Retirement Benefit Some Canadians may choose to continue earning income and making CPP contributions while simultaneously receiving a CPP retirement pension. These additional contributions made to the CPP will earn a Post-Retirement Benefit (PRB) for each year of contribution. The PRB will be added to your monthly CPP retirement pension, even if you are already receiving the maximum CPP retirement amount. Contributions to the PRB are mandatory for individuals who are between the ages of 60 and 65, receiving the CPP retirement benefit, and still working. Contributions become optional at age 65, and this flexibility allows you to decide whether the PRB strategy is optimal for your circumstances. For example, are you better off collecting CPP at 65 and accruing the PRB until age 70, or rather deferring CPP altogether to age 70? Determining the best way forward requires careful analysis. Death Benefit The CPP death benefit is a one-time payment of $2,500 made to the estate or eligible individuals of a deceased CPP contributor. This payment is intended to help cover funeral expenses and other costs associated with the loss of a loved one. To qualify, the deceased must have made CPP contributions for at least one-third of their contributory period (minimum of 3 calendar years) or a total of 10 calendar years. Survivor, Disability and Children’s Benefits In addition to retirement benefits, the CPP also provides support for individuals facing disabilities and those who have lost a loved one. Survivor’s Pension The CPP survivor’s pension is a monthly payment available to the legal spouse or common-law partner of a deceased CPP contributor. The surviving spouse will continue to receive CPP payments up to a maximum limit. CPP Disability Benefits The CPP disability benefit is a monthly payment available to individuals under 65 with have a severe disability that is either long-term or indefinite in nature, and prohibitive in obtaining any type of gainful work. Eligibility criteria and application procedures are specific and require detailed consideration. Children’s Benefit The CPP children’s benefit is a monthly payment available to dependent children under age 25 whose parent is receiving a CPP disability benefit, or has died and is entitled to the CPP death benefit. The calculations for these benefits are complex and fall beyond the scope of this summary. The Key Takeaway The Canada Pension Plan is more than just a mandatory pension scheme. It is a robust system designed to provide a safety net for Canadians during their retirement years. With attributes including the retirement pension itself, drop-out provisions, and post-retirement contributions available to enhance the retirement pension, and support for individuals living with a disability, the CPP offers numerous ways for Canadians to benefit from a guaranteed source of income in retirement. Understanding the impacts of tailoring the CPP to your individual circumstances can have a meaningful impact on your retirement income. 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