Wednesday, December 12, 2018

Bad Arguments Against CPP Expansion

The Canada Pension Plan (CPP) is set to start expanding in January 2019. Workers will begin contributing more of their pay to CPP, and those who contribute more will ultimately receive increased CPP benefits. There are sensible arguments for and against this change, but the most common argument I hear against it makes no sense at all.

I saw a version of this bad argument in an article by Charles Lammam at the Fraser Institute calling on Doug Ford to opt Ontario out of CPP expansion. Lammam calls CPP expansion “unnecessary” because “most Canadians adequately prepare for retirement.” He then goes on to quote statistics on the total dollar amounts Canadians have saved in different asset classes.

All this proves is that, on average, Canadians have enough savings for retirement. But averages are irrelevant in this discussion. Consider two sisters heading into retirement. One sister has twice as much money as she needs and the other has nothing. On average, they’re fine, but individually, one sister has a big problem. CPP expansion is aimed at those who can’t or won’t save on their own.

It’s tempting to ask why we should worry about those who refuse to help themselves by saving for retirement. There are numerous government programs that send tax money to low-income seniors. Three are the Guaranteed Income Supplement (GIS), the Age Amount Deduction, and the Senior Homeowners’ Property Tax Grant in Ontario. As a society, we’ve sensibly decided we don’t want to see seniors begging for food in our streets. An expanded CPP forces more Canadians to save for themselves rather than rely on free tax dollars in retirement.

So, why do we force all Canadians to contribute to CPP when it’s only a minority who won’t save on their own? If CPP were optional, too many of those who need it most would opt out. The only way CPP can serve its purpose well is if it’s mandatory for everyone.

Lammam complains that “Forcing Canadians to contribute more to the government-run pension will simply reduce the amount they save in private voluntary savings vehicles, resulting in little to no overall increase in total savings.” Good. We’re not expanding CPP to get everyone to save more. We just want everyone to save the bare minimum. It’s perfectly sensible for those who are saving well to reduce other savings somewhat and rely more on an expanded CPP.

It’s possible to have a sensible discussion about the merits of expanding CPP. But we should see arguments based on total savings of Canadians or average savings for what they are: a distraction from more meaningful discussion.

21 comments:

  1. There are ways to avoid the CPP but it's fairly complex. As much as I don't like the necessity, I think this makes sense. If you want to risk it on your own you really have to work at it.

    I haven't done this calculation in years but at one point I estimated that the CPP benefits were equal to an annual return around 4%. That's partly due to the benefits given to those who are old enough to have not made full contributions.

    It sounds like the expansion is more closely linked to the amount you actually contribute which may improve the results.

    I saw a note the other day saying that it will be managed separately from the main CPP investments which sounds kind of strange. It's a big enough asset pool already that I don't see the benefits of investing this separately.

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    1. @Richard: CPP returns vary based on the dropouts you use. Everyone gets to remove 17% of their lowest CPP payment months. You can get more dropouts for taking care of kids under 7. I recall a Fraser Institue calculation of CPP return that assumed you used no dropouts at all -- misleading IMO. I tend to think of CPP as 2/3 savings plan with a return that few can match, and 1/3 social program that we benefit from if we use dropouts.

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    2. I think I used a fairly realistic scenario for me. If I used childcare dropouts the lost income would likely be a lot more than the benefits gained. For others there may be a slightly larger advantage from that.

      Based on what we know about investor behavior this is a good option for most.

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    3. @Richard: Is that 4% return a real return? CPP payments rise with inflation.

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    4. It was a long time ago but I think I would have tried to work out the real return. That's still less than the long-run expected return for stocks.

      I might consider making CPP contributions again but then I would also be required to pay for EI benefits that I can never use. That seems like the bigger flaw.

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    5. @Richard: A 4% real return is a dream for most people. A balanced portfolio with high fees gives about 1% real over the long term. Toss in some DSCs or panic selling and this could easily be less than 0% real for many.

      CPP is a great system for the masses. It just doesn't happen to work out well for a small minority, possibly including Paul, you, and me.

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  2. Hi Michael,

    Not that I expect the Fraser Institute to care about the sector I belong to, but as a public sector employee with a gold plated defined benefit pension that I pay a fixed percentage into, I and thousands like me are being forced to save more than we normally would.

    There should be an option out clause. My retirement will be comfortable without the expanded CPP. Convince me how this isn't another tax that I will see little to no benefit from? I have 9 years to work to full pension at 55.

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    1. @Paul: If everyone were allowed to opt out, then your taxes would go up in the future when all the seniors who saved nothing through their working lives start soaking up tax dollars. This would make your retirement worse. One possibility is to allow just those who have significant pensions to opt out. However, then you'd have to commit to not taking the commuted value of your pension and overspending it before retirement or early in retirement. I'm not sure how that could be monitored.

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    2. LIRA policies seem to cover this exhaustively.

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    3. @Richard: LIRA rules are extensive, but not very restrictive. In Ontario, you can start drawing more than 6.5% per year at age 55. Combine this with having a financial advisor chewing up 2.5% per year and this will deplete quickly.

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    4. A tweaked version (call it a Locked In Pension Account since we like confusing names) should do it then. It might not be possible to entirely remove the chance that the industry would give high fee options... but maybe regulation could limit that as well. It seems doable. No idea whether politicians will actually want to do it.

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  3. @Michael: I understand the social welfare case behind the idea and I support that for people who aren't in my shoes and those like me.

    Those with excellent public sector DB pensions are being forced to contribute more than we would when it isn't necessary to ensuring we aren't scraping by in retirement. I'm going to have to watch the claw backs threshold closely as it is.

    Then add to that, I'm going to pay inflated rates for 9 years and get not much for it. I stand to be corrected.

    I would agree to not take the commuted value of my pension in exchange for a CPP+ exemption. But, as I think about it, there would have to be some wiggle room on that. Because my wife is in the same boat as I am pension wise. So while it is still a ways away we have given passing thought to exploring our options as we get closer to retirement to see if it makes sense for one of us to retire with a full DB pension and for the other to take the commuted value of their.

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  4. Fellow leech here (long time reader), my guess would be that CPP+ would be integrated into the Gold-Plated Government Pension, and the whole thing will end up being a wash.

    Remember that CPP is calculated INTO the Federal Government pensions. When you are 65 the federal pension is "lowered" assuming you are then collecting CPP as well.

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    1. @Alan: Yes, current CPP is integrated into most pension plans. Maybe CPP+ will get integrated as well.

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  5. Lots of arguments on either side but fundamentally it comes down to

    A) taxing more so that the government will promise to take more care of you later on vs
    B) Letting people decide for themselves when and how much to save - or not save at all.

    Given young Canadians are already overtaxed, that it is clearly possible for workers to take care of themselves and our overall competitiveness is suffering, tax hikes don’t seem all that helpful

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    1. @BHCh: The wild card with option B is whether taxpayers will bail out those who don't save. In Canada, we've consistently chosen to bail them out. So, the real choice is A) forced savings for everyone, or B) take from savers in the form of higher taxes and give it to those who didn't save. I like A better.

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    2. That’s true, but when everyone’s taxed on a promise of a better “pension”, it becomes a self-fulfilling prophecy. People stop saving. The burden of responsibility shifts from self to bureaucrats. It stops being a safety net and becomes government largesse.

      There are arguments for and against but fundamentally young Canadians are overtaxed and the incentive is strong for the more gifted and educated ones to go south. And that’s bad for pensioners too.

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  6. This whole issue is a philisophical one. Have the government continue to increase it's helicopter parent role or make people responsible for themselves. I understand that many people aren't very good money managers and planners for the future but continuing to put that responsbility on the government doesn't change people's skill set nor their mind set. Government's role is to give more responsibility and freedom to people, not take more and more of it away. Those that oppose the CPP change are generally people that are good with money. Those that are for it are those that are for the most part, not very good with money and want the handout.

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    1. @Carey: But are we really going to let some of our seniors starve? I don't think so. As the parent, if my choices are to either force the children to save money or later subsidize the ones who don't save, I'd rather force them to save.

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  7. Michael, totally agree with your perspective, better to help people save than have them rely on government assistance programs funded by tax dollars. If you don't have a need to have the government help you save, count your blessings. It isn't always mismanagement that results in poverty, some folks are handed a rough deal in life.

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    1. @Gin: There are definitely cases where people have troubles that are really "the inevitable masquerading as the unexpected." But there are some people who are dealt a seriously bad hand that they couldn't have fully planned for.

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