Return on CPP Investment
September 11th, 2014Many of us, especially those of us with RSP’s, are accustomed to thinking about the return on our retirement investments. I find it helpful to apply the same “return on investment” thinking when it comes to evaluating different options for government retirement programs.
Another article in this newsletter discusses Post Retirement Benefits (PRB’s) which can be earned if you work past age 65 and continue to pay into the Canada Pension Plan.
In order to decide whether it’s a good idea to spend the extra money, I set out to calculate the return on investment on the extra contributions.
For my model I used an individual born December 15, 1948 and calculated the contributions they would make from age 65 to 69 and the extra inflation-adjusted, post-retirement benefits they would earn as a result.
When I compared the extra CPP contributions which they would make with the extra benefit which they would get above and beyond the normal CPP payment, here is what I found.
These results are for someone who works as an employee. The returns are lower for someone who is self-employed.
Clearly the rate of return is determined by how long you actually collect the benefits. I must admit I was surprised at how high the rates of return were.
There are several caveats regarding CPP:
- Contributions on employment earnings are a non-refundable tax credit.
- Contributions on self-employed earnings are tax deductible.
- CPP benefits are fully taxable. Hence the after tax rate of return would need to use assumptions about marginal rates of federal and provincial income tax. I chose not to complicate things by using before tax numbers.
Including the tax credit and tax deductions on contributions would reduce the cost on an after tax basis and increase the rates of return.
The after-tax CPP benefit would be determined by the individual’s marginal tax rate. Clearly the higher the tax rate the lower the CPP benefit would be after tax. This reduces the rates of return.
As usual, the answer to the question should I contribute to CPP after age 65 is very much determined by the specifics of your situation. Given the potential rates of return, it is certainly worth giving it some thought.
This analysis was developed with the assistance of Doug Runchey who has more than 30 years of experience working with the Canada Pension Plan (CPP) and Old Age Security (OAS) programs.
P.S. I am continuing to contribute to CPP and collecting the extra Post Retirement Benefit.
Tags: Canada Pension Plan, finance, Post Retirement Benefit, ROI
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