The higher the inflation rate, the bigger the benefit of waiting
Inflation has a significant bearing on when to start a CPP retirement pension. With inflation at its highest in 30 years, now is a good time to revisit the factors involved in CPP decision.
There are a couple of reasons for this.
First, CPP payments are indexed to the consumer price index (CPI), as measured over the 12-month period ending in October of the previous year. The changes take effect on Jan. 1 of each year. For 2020 through 2022, CPP payments increased by 1.9%, 1.0% and 2.7% respectively.
Second, CPP performs certain calculations based on the year’s maximum pensionable earnings (YMPE), which is indexed for wage inflation. The maximum retirement pension (before taking into account the new tier introduced in 2019) for a given year is calculated by averaging the YMPE for the year the pension starts and the four prior years, then taking 25% of this amount.
The amount increases each Jan. 1 by the percentage increase in the 12-month average of the average weekly earnings in the industrial aggregate (as published by Statistics Canada, as of June 30 of the preceding year). It is then rounded down to the nearest $100.
As we’ve written before (Read CPP articles here), CPP can start as early as age 60 or be deferred to age 70. For every month someone starts early before their 65th birthday, there is a 0.6% reduction in the benefit. And, for every month CPP is deferred after age 65 the benefit increases by 0.7%
At the extremes, starting at age 60 would result in a 36% (60 months x 0.6% per month) reduction and waiting until age 70 would result in a 42% (60 months x 0.7%) increase.
But there are two more things to ponder for your CPP decision:
- CPI adjustments and,
- Increases in CPP
Let’s look at an example:
- 62-year-old considering starting her CPP
- Current age 65 CPP is $1,000 for this person
- If started amount will be three years early, so benefit will be $784 ($1,000 less 36 x 0.6% for starting 36 months early)
- If she waits another year, the then age 65 CPP will be $1,000 + CPI + benefit increase
- Supposing CPI is 2% and the benefit increase is 3%, the new age 65 benefit will be $1,000 + $20 for CPI + $30 for the benefit increase = $1,050
- Now, if she decides to start at 63 her CPP will be $899 ($1,050 less 24 x 0.6% for starting 24 months early)
- A $114 per month increase for waiting one more year to start her CPP.
Let’s look at another example:
Cynthia is retired and wanted to start her pension as soon as possible. She turned 60 and began drawing on her CPP pension in January 2020 (she did not want to access her other assets yet). As a result, she received 64% of the maximum (due to the 36% discount; $1,175.83 x 64% = $752.53 per month). This amount is indexed and increases each Jan. 1.
Had she waited to January 2021, she would have received $857.07 per month (71.2% x $1,203.75 = $857.07). Instead, her starting pension of $752.53 was indexed by 1.0% to $760.06. Had she waited the 12 months, her pension would have been 12.76% larger. (She did, however, draw 12 months of pension at the lesser amount.)
If she’d begun drawing her CPP in January 2022, the monthly amount would have been $982.81 (78.4% of $1,253.59). Meanwhile, the pension she began in 2020 would have grown by an additional 2.7% to $780.58 due to indexing. Had she waited to age 62 to start drawing the pension, the amount would have been 30.6% larger than the pension she began receiving at age 60.
As seen from Table 2, the results are dramatic. Delaying the CPP until age 65 would have resulted in a monthly retirement pension that was 82.03% larger. At age 70, it would have been 199.65% larger — essentially triple.
It’s worth noting that we don’t know whether the Bank of Canada will be able to tame inflation. The higher the inflation rate, the bigger the benefit of waiting.
As the calculations show, Cynthia’s eagerness disadvantaged her. Assuming Cynthia had sufficient retirement assets to draw on until she began CPP, waiting would have been more beneficial.
There are, of course, situations in which waiting to start drawing the retirement pension may not be appropriate. Included here are when someone is receiving CPP survivor benefits, those facing the OAS clawback, and those in poor health.
Inflation does have an impact on your decision regarding your CPP decision. If you would like to chat about your CPP decision feel free to reach out to me for a free 15-minute zoom or phone call here: FREE 15 MINUTES
With Gratitude,
KBH.
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