Should I take CPP at 60 and Invest the Payments?
Occasionally I read about people who regard themselves as fairly sophisticated investors entering into a strategy of beginning to receive the Canada Pension Plan (CPP) at age 60 while continuing to be employed. There may be multiple reasons for making this choice.
The most ill-informed reason is out of fear that the CPP will become insolvent. This is a highly unlikely outcome and as a rationale, I suspect that the informed investor is well aware of the unwarranted nature of this concern.
A second rationale may be health. While able to keep working for now, there is a concern that they may not live past their mid-70s or so, in which case it makes sense to take CPP early. Investing may be less for themselves than for their spouse, who they assume will survive them to live a long life.
A third reason may be that they feel their investment strategy can more than overcome the decrease in CPP payments. Remember that for each month before age 65 that you begin CPP you lose 0.6% of the value you would receive at age 65, which works out to a 36% decrease over five years.
A fourth reason may be the limitations on CPP payments. A married couple who have maximized their CPP contributions over their working careers will not be able to provide any residual amount to the surviving spouse. Theoretically, you can pass on up to 60% of your pension to your survivor but only up to the maximum entitlement for an individual that year. That means that if the surviving spouse is already receiving the maximum CPP, no portion of the deceased’s CPP would be available to the survivor.
There may be other reasons, but perhaps these will do as possible justifications for making this decision.
Scenario 1. Retire at 65; CPP at 65
Let’s assume you earn the average income for a Canadian. According to Statistics Canada, in 2020, that figure was $56,800. Let’s assume that figure is now about $63,000. The maximum CPP in 2023 for someone who turns 65 in 2023 is $1,306.57 per month. However, the average recipient receives $717.15 per month as of October 2022, the latest date for which the data is available.
At age 65, you have $500,000 saved in your Registered Retirement Savings Plan (RRSP). You have it invested in a 60% equity/40% fixed income portfolio earning an average return of 4.75%. Because you retired at age 65 and have no other sources of income, you converted your RRSP into a Registered Retirement Income Fund (RRIF) at the end of 2022 and also applied for Old Age Security (OAS). How much should you be receiving in annual terms?
For income tax, I used the revised basic tax calculator for Ontario at taxtips.ca. I will ignore inflation for this exercise. The only differences are age, the steady growth of the investments in the account, and the increase in OAS for those aged 75 and older. At age 95, because of the increasing percentage that is required to be withdrawn according to the RRIF rules, retirement income is as follows:
Scenario 2. Retire at 65; CPP at 60 – Invest CPP Payments in TFSA to age 65
Let’s suppose that you decide that the third reason, noted above, makes sense. You think that investing your CPP payments yourself will help you do better. You plan to keep working to age 65, however, so you will also be improving your CPP payments by adding the post-retirement benefit (PRB). I have calculated an estimate of the PRB based on an article written by Doug Runchey that was published on the retirehappy.ca website. Since you are still working, you don’t need the CPP payments you are getting, which work out to $5,508 per year before the PRB is applied. However, by the time you have five years of PRBs, you’ve bumped up your annual CPP to $7,089. These additional payments are contributed to a Tax-Free Savings Account (TFSA) that is invested in the same 60/40 portfolio with a long-term return of 4.75%. The TFSA reaches an accumulated level of nearly $35,000 by the time you reach age 65. Spread out to age 100, tax-free withdrawals from your TFSA work out to about $2,029 per year.
At age 65, your income is:
At age 95, your income is:
The result of Scenario 2 is that, based on these terms, you can do slightly better by taking CPP at age 60, keeping on working until age 65, and investing all of your CPP income in a TFSA until you retire. At age 65, you receive an extra $810 per year. At age 95, you receive an extra $893 in the year.
Scenario 3. Retire at 65; CPP at 70
On the assumption that once you have reached age 60, you have even odds of making it to your late 80s, financial planners tend to encourage clients to wait until age 70 to begin taking CPP, if it’s financially feasible. You get a 42% gain over what you would receive at age 65 which is guaranteed by the government and is inflation protected. In exchange, you have to spend more from your RRIF to provide an equivalent income for the five years that you wait past 65.
For this scenario, I assume that you do not delay taking OAS and that you seek to receive the same amount of after-tax income, $32,517, at age 65 that you would if you had followed Scenario 2.
The outcome is as follows:
Without any sources of income from CPP or TFSA, you need to withdraw an additional $9,627 from your RRIF to achieve the same amount of after-tax income. On average, over the five years of retirement when you are not receiving CPP, you need to increase your withdrawals by $7,711 above the annual minimum to achieve the same level of income.
However, when CPP does kick in, the 42% increase in payments results in a new annual figure of $12,220. This is $3,614 more per year than if you had taken CPP at age 65, and $5,131 more than if you had taken CPP at 60 and added the accumulated PRBs.
The outcome at age 95 is:
An observation to note is that because you have used more of your RRIF in the early retirement years, it makes up a smaller proportion of your retirement income at age 95, providing you with approximately $3,173 less than otherwise. Combined with the lack of tax-free income found in Scenario 2, your after-tax income is slightly lower at $45,853 vs. $46,435, a difference of $582. It is higher, however, by $311 than the first scenario at $45,853 vs. $45,542.
Summary of Results
The results suggest that Scenario 2 may provide a better overall result, especially if you can get consistent investment returns, which may not be realistic. It also depends on the discipline to invest all of your CPP payments from age 60 to 65 in a TFSA, which, again, may not be realistic.
Your circumstances and inclinations will make a difference in the potential outcomes. As interesting as I personally found these outcomes, this blog post is not the template for your retirement plans. If you are contemplating retirement, you may want to contact a financial planner for a comprehensive retirement plan, including running through some scenarios to see whether there is a significant difference in your outcomes.
This is the 182nd blog post for Russ Writes, first published on 2023-01-30.
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Disclaimer: This blog post is intended for general information and discussion purposes only. It should not be relied upon for investment, insurance, tax, or legal decisions.