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Collection: Hemera Item number: 99181194 Title: Businesspeople holding piggybanks. (Thinkstock)
Collection: Hemera Item number: 99181194 Title: Businesspeople holding piggybanks. (Thinkstock)

Globe editorial

Reforming Retirement (3): More RRSP, not more TFSA, please Add to ...

No generation of Canadian retirees has ever had it so good. And no, we aren’t trying to go after the tall poppies. Nobody should want to cut them down. Instead, Canadians should be figuring out how the next generation can grow as tall. Or taller.

Senior poverty used to be a widespread problem – in the mid-1970s, 37 per cent of seniors lived below the poverty line, according to Statistics Canada. By 2010, the OECD put Canada’s elderly poverty rate at 6.7 per cent; Statistics Canada pegs it at just 5.3 per cent. The Conference Board of Canada ranks this country third-best among major developed countries. In the United States, more than 20 per cent of the elderly are poor. Australia’s senior poverty rate is nearly 40 per cent.

Canada’s middle-class retirees have also never had it so good. They came of age during a period of rising wages, high investment returns and widespread company pension plans, many offering the lifetime income guarantee known as defined benefit. Relatively few retirees are at risk of slipping out of the middle class. And nobody should begrudge them their good fortune.

The challenge facing Canada has to do with the next round of retirees – those who will become seniors in the decades to come. Changes in demographics, government programs, expected rates of investment returns and corporate pension plans mean ensuring they have it as good as today’s golden agers, or even better, will be no easy thing. But it is possible.

Yesterday, we proposed one simple policy fix that would cost government little or nothing in the long run, but benefit seniors in significant ways. We looked at RRIFs – and proposed eliminating the rule forcing Canadians to withdraw 7.38 per cent of their savings once they hit age 71, a percentage that rises every year to 20 per cent at age 94.

Ottawa should give seniors the flexibility to decide when they want to turn their RRSP into a RRIF, and how much they want to withdraw each year. In the long run, the cost to government will be low or nil. Because sooner or later, every cent in a tax-free RRIF has to be withdrawn, in life or after death, thereby becoming taxable. Give seniors the freedom to decide whether they’d like that to happen sooner – or later.

Earlier in this series, we questioned the Conservative government’s 2011 election promises to double the annual tax-free savings account (TFSA) contribution rate. It currently sits at $5,500 per year for anyone over the age of 18. The TFSA is a relatively new tax shelter, and from the perspective of savers, it’s wonderful. But it threatens to create a huge pool of tax-exempt savings, putting pressure on future governments and future taxpayers. Two recent studies also suggest its main beneficiaries are wealthier Canadians.

Instead of increasing TFSA contribution limits, the Harper government should consider upping the maximum contribution limits to the retirement-income shelters that have long served Canadians: RRSPs and company pension plans.

In 2015, you can contribute up to 18 per cent of your earned income to an RRSP – but only to a maximum income of $138,500. The maximum annual contribution for someone earning that much is $24,930. Income above that cannot be tax-sheltered in an RRSP. Company pension plans are constrained by the same rule.

Until 2003, the maximum annual RRSP entitlement was just $13,500, with a comparable limit on company pensions. Earnings above $75,000 could not be tax-sheltered for retirement. A decade ago, Ottawa began to gradually raise the limit, and indexed it to inflation. In other words, Ottawa has raised the RRSP and pension ceiling before, and could do it again. It could, alternatively, increase the RRSP contribution percentage above 18 per cent. The main beneficiaries would be upper-income Canadians. But unlike a TFSA increase, upping RRSP and pension limits would not impose huge costs on future taxpayers.

That’s because, while RRSPs and pension plans offer a tax break up front, those savings will eventually be turned back into taxable income, when today’s worker becomes tomorrow’s retiree. If a woman in her 30s puts money into an RRSP or pension, her taxable income is reduced this year – but she’ll eventually pay income tax when she withdraws her funds, decades from now.

TFSAs do the exact opposite. Your contributions come from after-tax income. There’s no tax break up front, so it costs Ottawa and the provinces nothing today. But tomorrow’s withdrawals will be tax free – costing future governments quite a lot. TFSA expansion would allow many Canadians, especially wealthier Canadians, to build multi-million dollar, tax-free nest eggs.

The TFSA is a tax shelter that mortgages the future. RRSPs and pensions are the exact opposite. Canada needs more of the latter, not more of the former.

Tomorrow, we’ll look at a plan for improving the retirement system for the great bulk of middle-income Canadians – while lowering the burden on future taxpayers.

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