Tax savings on bigger CPP far off
TheStar.com – Business/PersonalFinance
Published On Wed Nov 10 2010. By James Daw, Personal Finance Columnist
Ontario’s idea of a modest increase in Canada Pension Plan benefits would help solve the Samaritan’s Dilemma.
It would lift workers on the road to retirement, without encouraging as many to depend on taxpayer handouts over the next half-century.
“We must build on the strengths of the CPP through a modest expansion of benefits,” Ontario Finance Minister Dwight Duncan writes in the introduction to a consultation paper on the retirement income system he released last week.
“The CPP is secure, efficient, portable and fiscally sustainable but there will be increasing pressure on it as the population ages.”
He and federal Finance Minister Jim Flaherty did not specify what they meant by modest when they each proposed such an expansion of the CPP at a meeting on Prince Edward Island in June.
But now, in advance of the next meeting of finance ministers Dec. 20, Duncan has outlined three possible variations of an enhanced CPP. None proposes to increase the percentage of average earnings replaced in retirement to more than 35 per cent.
The most ambitious of the three proposals would also increase the cap on the income subject to CPP contributions to about $70,800, or 1.5 times higher than the limit of $47,200 for 2010.
Calculations of CPP pensions are strangely complicated, however. The benefit is based on average career earnings, the maximum income contribution limit, the age of retirement, and the ability to exclude from the calculation of average earnings a certain number of years between age 18 and 65.
So, without explanation, the paper suggests that raising both the income cap and the percentage replacement rate could result in an effective income replacement rate of 38 per cent for a woman who earned an average of $47,200 a year, in 2010 dollars. This would seem to imply a maximum pension for the woman in the example of $18,000 instead of about $11,200 in 2010.
It would seem the maximum pension for someone with a much higher income would be about $22,000.
Duncan invites Ontario residents to respond to the proposal by answering a number of questions, such as: “Do you prefer an increase to the replacement rate, an increase in the earnings ceiling, or both?
But a lot is left unstated in the paper. For example, economist Jonathan Kesselman at Simon Fraser University in British Columbia, writes in another paper arguing for an expansion of the CPP that 35 per cent replacement is a critical threshold.
“If the CPP benefit rate were increased from its current 25 per cent of average insured earnings to even as little as 35 per cent, the Samaritan’s Dilemma would be eliminated,” he writes in his paper http://webcache.googleusercontent.com/search?q=cache:j_VvaPUXNeUJ:policyschool.ucalgary.ca/files/publicpolicy/Kesselman%2520CPP%2520online.pdf+kesselman+Big+CPP&cd=10&hl=en&ct=clnk&gl=caExpanding Canada Pension Plan Retirement Benefits: Assessing Big CPP Proposals.
He points out that requiring workers and their employers to contribute more to CPP would make for fewer low-income workers, and workers with income not so low, qualifying for the tax-free Guaranteed Income Supplement (GIS) to the Old Age Pension.
Both of these pensions are a significant cost item in the federal budget, and the cost is projected to soar as the Baby Boom generation starts to pass the age of 65.
GIS benefits are phased out as income, excluding Old Age Security, increases. But the federal government has opened itself up to paying benefits to higher income earners through the implementation of Tax-Free Savings Accounts.
Withdrawals from TFSAs are not taxable, and will not reduce eligibility for GIS.
So this reality may help to explain why Flaherty joined Duncan in trying to persuade other provinces to throw their support behind an expanded CPP.
There would likely be more support for an expanded CPP if today’s young workers could see some tax savings sooner. But like CPP pensions, potential tax savings will only grow gradually over the next few decades.
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