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One major announcement from last week's federal budget is that normal retirement age for new public servants will be raised from 60 to 65.

Tammy Schirle is an Associate Professor of Economics at Wilfrid Laurier University

The 2012 Federal Budget is looking to reform the pensions of MPs and public servants. One major announcement is that normal retirement age (NRA) for new public servants will be raised from 60 to 65. What does this new budget really mean for their retirement?

I returned to some research I did in 2008 documenting the retirement incentives found in the Federal Public Service Pension Plan (PSPP). At that time, public servants could retire with an unreduced pension at age 60 or once they reach 55 with 30 years of service. Public servants with less than 25 years of service would have their retirement pension benefit reduced for each year of age under 60. Those with more than 25 years of service have their pension reduced for each year under 30 years service.

Increasing the NRA then only affects the public servants with lower years of service when they enter retirement. In the example charted below, I calculated the discounted present value of PSPP pension benefits that a public servant could receive, depending on what age they choose to retire. The dollar amount represents the benefits received over their lifetime, while accounting for things like life expectancy or the weight people tend to place on future income. I consider a person who is 55, with 15 or 25 years of service, earning $60,000 per year.

<h5 style='border-top: #000 1px solid; border-bottom: #000 1px dotted; font:14px Georgia,serif; font-weight: normal; width: 460px; padding: 5px 0; margin: 20px 0 0'>Discounted present value of PSPP benefits, by age of retirement</h5><iframe src="" scrolling='no' frameborder='no' width='460' height='300' style='border-bottom: 1px dotted #000; margin: 20px 0 0' ></iframe>

With an NRA at age 60, both 15- and 25-year service employees have a clear incentive to enter retirement at age 60. Earlier retirement results in a reduced monthly pension. Later retirements are discouraged because delayed pension initiation is not rewarded with higher monthly benefits.

With the NRA raised to age 65, the 25 year service employee still has the incentive to enter retirement at age 60 – his reduced pension at 55 is based on the fact that he has less than 30 years service, not his age.

The higher NRA hits the 15 year service employee, by further reducing any monthly pension benefits for retirement at ages 55-59 and by introducing a reduction in benefits received at retirement at age 60-64. The lifetime pension benefits – and the incentive to retire – will clearly peak at age 65.

There are other provisions in these pension plans that will likely be negotiated alongside the change in NRA. Are the new public servants expected to make the same contributions as old, or is their higher NRA to be accounted for?

Current public servants retiring before 65 have a top-up benefit intended to substitute for the OAS they will initiate at 65. Now that OAS eligibility is being raised to age 67, will this provision change?

Changing the NRA has many implications beyond individual's pension benefits. Note that the current budget is also looking to reduce the public service by refusing to replace retirees. In the future, this tactic will be much more difficult without the incentives to leave. In the absence of retirement incentives or mandatory retirement, expensive employee buy-outs are often the only way to reduce the size of the public sector.

I am very interested to see how the MPs pensions will be adjusted – this was a vague statement in the Budget. MP pensions are out of control (discussed in depth here). The pension's service costs are estimated to be 51% of MPs pensionable earnings, though the MPs contribute less than one fifth of the cost. The Budget proposes to adjust public service employees' contributions so that they contribute 50% of the cost. At a minimum, the MPs should be facing the same adjustment to their contribution rates.

Author's note:

I have been receiving some flak for relating the Federal Public Service Pension Plan's top-up for retirement before age 65 to Old Age Security. Those who read the research know I am very aware of the fact that this pension provision is actually referred to as CPP integration and the top-up formula relates directly to CPP benefits. But if this is really just CPP integration, why aren't public servants expected to initiate CPP benefits at age 60 like everyone else? Why receive the top-up benefit until age 65?

I've asked this question many times. The most rational answer I have found looks at this from a historical perspective. Until the mid-1980s, CPP did not allow for early retirement benefits. At that time, the CPP integration provision made perfect sense. After CPP early retirement benefits were introduced, we could rationalize the policy with the fact that early retirees would not be eligible for OAS until age 65.

Regardless of how we label this pension provision, I think the same concerns remain. If you think it's truly about CPP, do you think they should integrate the pension plan with CPP early retirement age?