Expanding CPP easier said than done

By Robert Brown

A version of this commentary appeared in the Winnipeg Free Press, Huffington Post and the New Brunswick Telegraph-Journal

Had I suggested just 15 years ago that we should expand the Canada Pension Plan to provide larger benefits on a broader range of wages, I would have been laughed out of town.

Prior to 1998, the CPP was seen as leaning against death’s door. Young Canadians were told to expect no benefits from the CPP when they retired.

But because of the significant reforms of 1998, CPP is now healthy for as far as the eye cannot see (the same is not true for the QPP, but that’s another story). It is so healthy, in fact, that many observers are suggesting it should be expanded to provide larger benefits.

This could be done in two ways (or a combination thereof). Currently Canadians contribute 9.9 per cent of wages (split between the worker and the employer) to the CPP. In 2001, the rate applied to wages over $3,500 and up to $48,300 — the “year’s maximum pensionable earnings.”

Benefits accrue at the rate of 25 per cent of the adjusted (indexed to the average wage) average of recorded employment earnings over roughly a 40-year period of time.

So, one way to expand the CPP would be to raise the 25 per cent benefit rate. Another would be to raise the year’s maximum pensionable earnings (the YMPE). Or both.

Sounds pretty straightforward. But it isn’t.

Prior to 1996, the contributions Canadians made to the CPP were not large enough to cover the benefits being accrued. In fact, out of today’s 9.9 per cent contribution rate, a full four per cent goes to covering past legacy costs (the previous unfunded liability).

Thus, it would be possible, if we started a fully funded CPP today, to do so at a contribution rate of about 5.9 per cent.

If, however, we wish to expand the 25 per cent benefit rate only for retirement benefits, and we do not increase any of the ancillary benefits (orphan’s, disability, death, etc.) we could fund a new benefit tier with a contribution rate of no more than five per cent of benefit accruals.

This sounds good at first glance, but, in fact, it creates a series of complications. For example, let’s say we wish to move from a 25 per cent benefit rate to 50 per cent. This would require a 14.9 per cent contribution up to the YMPE. Double the benefits for 50 per cent more cost. Sounds good.

But think about poorer workers. Having paid a 14.9 per cent contribution rate over 40 years, they will now receive a 50 per cent CPP benefit when they retire.  But this is immediately deducted from their guaranteed income supplement at a clawback rate of 50 per cent and, depending on their province of residency, they could lose another 50 per cent from their provincial benefits (e.g., Ontario Gains) for a total 100 per cent clawback.

That means a 50 per cent increase in contributions but no net gain in disposable income from government sources. How many workers would vote for that?

To avoid the impact of the GIS clawback, we could exempt a portion of employment earnings (say up to $30,000 a year) from contributions and benefit accrual. Or, maybe we should leave the benefit ratio at 25 per cent but increase the YMPE.

Again, the value of the ancillary benefits is important to this analysis. If, as assumed above, we don’t increase ancillary benefits at all, and accepting the current CPP funding formula, then the required contributions would be 9.9 per cent up to the YMPE and five per cent above it.

Again, what politician would want to try to win votes with a new system in which poorer workers have a 9.9 per cent contribution rate for their first tier benefits and higher-income workers only pay five per cent for their second tier of benefits?

A hard sell.

Finally, under any proposal that uses an expanded CPP, the new benefits will not be fully available for 40 years. Until then, only a fraction would accrue.

At the end of the day, it takes at least seven provinces with at least two-thirds of the Canadian population to amend the CPP. This includes Quebec. This is not an easy task, as can be seen today.

To date, the provinces have not seen a proposal for an increased CPP that meets with their approval.

Once one understands the issues more fully, one can see why.

Rob Brown was Professor of Actuarial Science at the University of Waterloo for 39 years and a past President of the Canadian Institute of Actuaries.  He is also an expert advisor with EvidenceNetwork.ca.

June 2011


This Commentary is from Commentaries, Aging Population & Its Potential Impact.

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