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The Old Age Security program currently pays benefits of $540 a month to qualifying Canadians age 65 and older. In addition, the Guaranteed Income Supplement pays up to $732 per month more, for those who have lower income.Getty Images/iStockphoto

Kevin Milligan is Associate Professor of Economics at the University of British Columbia

The federal carried through on the Prime Minister's months-ago in Davos by proposing important changes to the Old Age Security program. What do these changes to OAS mean, are they really necessary, and who will bear the burden?

The Old Age Security program pays benefits of $540 a month to qualifying Canadians age 65 and older. In addition, the Guaranteed Income Supplement pays up to $732 per month more, for those who have lower income. In total, the government will spend about $41-billion on these pension programs – and that bill is growing at more than $2-billion a year.

On Thursday, Finance Minister Jim Flaherty two big changes to OAS. The first is to extend the age of eligibility for benefits from age 65 to 67. This won't take effect until 2023 and is being phased-in over six years, so anyone currently older than 54 will see no change. It is interesting to note that the United States legislated similar in the 1980s – but they are phasing in their eligibility age increase over a period of 25 years, from 2002 to 2027.

The second change to OAS didn't capture as many headlines, but it introduces an innovative option that deserves some attention. As of July 2013, new OAS recipients will have the option to defer their benefits for up to five years. For each year of delay, the benefits will be increased by 7.2 per cent over the base benefits. This bonus for delayed claiming means a monthly cheque that had been $540 a month would become $579 with one year of delayed claiming. The UK has a adjustment to its State Pension. If people who delay benefits choose to work more, they gain from more time to save for retirement and the government gains from extra income tax revenue on any extra years of work.

A lot of debate has centred around the necessity of changing OAS. I've already argued in Economy Lab that the government's position that OAS is "unsustainable" is . Instead, the big increases in our life expectancy provide a for reconsidering the line we draw between work and retirement. With ever-increasing life spans, the total lifetime payout of OAS benefits will continue to get bigger if we hold the benefit age forever locked at age 65. In this light, paying a fair, equal lifetime pension to each generation requires reconsideration of the pension age.

After the new OAS eligibility age has been implemented in 2029, Canadians will no longer receive OAS benefits at ages 65 and 66. Who will bear the burden of this shortfall in income? There are three groups at play.

First, provinces are responsible for social assistance benefits for the lowest income Canadians before age 65. With a change in the OAS eligibility age, some of the burden will now fall on provincial budgets already challenged by long-run health cost inflation.

Second, most employer-provided pension plans already allow for retirement well before age 65. Often, with the aim of keeping benefits constant throughout retirement these plans feature a 'top up' for benefits for the ages up to 65 when OAS begins, or a 'carve out' of lower benefits after the age when OAS benefits begin. Employer-provided plans will have to be renegotiated and reset to account for the new entitlement age. This will require some combination of higher contributions and lower benefits.

Third, individuals themselves can respond. For some who are able and willing, they will work a year or two more. For others, they may save more in preparation for the higher need of self-provision of retirement income. Importantly, some will have the capacity neither to work nor to save, and will suffer two years of low income before hitting their age of entitlement at age 67. Creative policy makers could fashion a fix for these Canadians – and we have 11 years before the 2023 beginning of the new eligibility age for a constructive debate on how to do so.

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