I get it. Canadians really do not like the idea of waiting until 70 to start collecting on their Canada Pension Plan.
In my last article, I showed that a couple, whom I called Carl and Hanna, were better off starting their CPP at 70 rather than 65 (both are 65 and on the verge of retirement). I showed they were better off even if Carl died young and Hanna lived a long time. It isn't as if they deprived themselves in their 60s, though. They simply drew a bigger income from their registered retirement income fund (RRIF) until they turned 70 and CPP started.
My example was met with healthy skepticism, if not downright disbelief. In this article, I will address the main objections that most Canadians seem to share. With all respect, let me state that the majority of objections are not valid. If I can sway a few readers, I will consider it a success.
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The first objection is just a question of fact. Some readers thought the increase in CPP pension at age 70 was 42 per cent (some even said 36 per cent) and not 50 per cent as I was claiming. In fact, the CPP pension increases by 8.4 per cent a year between 65 and 70 which adds up to 42 per cent, but that is not all. It also increases to reflect changes in the CPP earnings ceiling between 65 and 70 and that ceiling rises faster than inflation in most years. As a result, the pension at 70 is going to be very close to 50 per cent more than at 65.
The second objection is that the example was "engineered" to produce a certain result. There were three ways in which this engineering was deemed to be happening:
1. I had Carl dying at 68 and Hanna at 95. The point was to show what happens on early death but fair enough. Let's change the model to have Carl dying at 88 instead and Hanna will still die at 95.
2. I assumed that Carl would get 95 per cent of the maximum CPP pension while Hanna was entitled to 65 per cent. Few people get the maximum CPP, especially if they are middle-income earners (as in this case) with earnings around the CPP earnings ceiling. For the chart below, I changed my example so that Carl and Hanna are both entitled to 80 per cent of the maximum.
3. I used a worst-case investment scenario. The point of doing so was to stress-test the decumulation strategy under adverse conditions but let us see what happens if we assume a middle-of-the-road investment return instead (about 5 per cent). We will also reduce the RRIF assets to $300,000 since $400,000 is more than they need even if their strategy is suboptimal.
With the three changes mentioned above, the chart attached at the bottom shows that Carl and Hanna still have enough income to meet their income target each and every year until Hanna dies at 95. The chart assumes they wait until 70 to collect their CPP and that they draw more from their RRIF until then.
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So what would have happened with exactly the same parameters but with Carl and Hanna receiving their CPP at age 65? Their RRIF assets would have run out by age 84 and their total annual income after that would have been about $10,000 short of their target for the rest of their lives.
I've heard another objection that is a little baffling. Some people said they want to enjoy their money in their 60s so that is why they want to start CPP early. I'm all for enjoying your money while you're still young. It's just that there is no reason that the income in your 60s has to come from CPP. It can come from your savings instead and your reward is that you'll receive much more CPP pension later in life. Obviously you need enough savings to last until CPP starts at 70.
At the bottom of it, I believe deferring CPP is so unpopular because it forces people to withdraw more money from their savings early on to make up for the shortfall in income. The balance in their RRIF drops a lot faster as a result.
I recognize that this phenomenon is hard for us to accept since so much of our self-worth and our sense of financial security are tied to the amount of wealth that we have accumulated. Even though it goes against the grain, you just need to have faith that this deferral strategy will pay off in the long run.
Frederick Vettese is the Chief Actuary of Morneau Shepell and author of The Essential Retirement Guide: A Contrarian's Perspective.