All Canadian workers pay into the Canada Pension Plan, or the Quebec Pension Plan if residents of the province of Quebec. However, few have a clear picture of how much they'll receive in CPP benefits once they retire, and fewer still understand how the benefit amount is determined. Here we’ll provide details on how your individual CPP benefits are calculated, and what you can do to maximize your benefit payment.
60, 65 or 70? When to start your CPP benefits
The first thing you need to understand is that your CPP monthly payment depends not only on your yearly contributions, but also when you elect to begin receiving benefits. Canadians can apply for CPP any time after turning 60, but starting payments before you reach 65 comes at a cost. For every month prior to your 65th birthday that you receive benefits, the amount you collect will be reduced by 0.60%. This means that if you opt to begin your pension benefits when you turn 60, the monthly amount for which you are eligible will be reduced by a total of 36% (60 months multiplied by 0.6%), compared to what you would have received by waiting until you’re 65. While this is a significant reduction, you will receive the benefit – albeit at a reduced rate – for a longer period of time. So for some retirees, drawing CPP early makes sense.
You can also elect to delay taking your CPP benefits until you turn 70. For every month after you turn 65 that you don’t start your benefits, your benefit amount will increase by 0.7%. So by waiting the extra five years until you are 70, your CPP benefit will be 42% more than if you had started at 65. If you plan to live a long, active life and don’t require the extra cash until you are older, this may be an option to consider.
It would be so much easier to determine the optimal time to start drawing CPP if we only knew how long we'll live after retiring, wouldn’t it? But there’s more involved in determining your CPP benefit than just the age when you begin to receive CPP benefits. For example, your yearly contribution history must also be considered.
Before we look at CPP contributions, let’s try a little quiz. How much is the current maximum monthly CPP benefit? Give up? It’s just under $1,100 a month. $1,092.50 as of January 2016, to be exact. But keep in mind this amount is fully taxable as income. Without other sources of retirement income such as a pension, annuity or a Registered Income Fund (RIF), you certainly won’t be living in luxury, but an extra thousand a month can still come in handy. Unfortunately, few of us can expect the full CPP payout. In fact, the average CPP benefit in 2015 was just a smidge over $550 per month, or barely half of the total maximum benefit amount.
How your benefit is calculated
To understand why the average CPP payout is so far from the maximum, we need to look more closely at how your CPP entitlement is calculated. You are eligible to contribute to CPP for a total of 47 years from the age of 18 to 65. In order to receive the full benefit, you must contribute the maximum amount each year for the vast majority of these years. The current CPP contribution rate is 4.95% of your salary, and is split between you and your employer, to a maximum yearly CPP contribution of $2,544.30.
With the information from your CPP statement of earnings, you can use this Government of Canada retirement income calculator to get a rough idea of your future CPP entitlement.
In order to reach the maximum contribution amount, you currently need a yearly salary of $54,900 per year. If your annual salary is less than $54,900, this will result in a partial contribution for the year, resulting in a reduction in your final benefit amount. However you do get a bit of a break, as eight of your lowest earning years between 18 and 65 are dropped from the calculation, and this should help boost your final payout. This means that if you reported little or no income from the age of 18 to 22 while attending University, for instance, you can exempt those years from your CPP determination.
Reviewing your contribution history
You can review your entire CPP contribution history on your most recent CPP statement of contributions. Here you will see how much you have contributed each year. For those years where you contributed the maximum amount, the letter “M” appears next to the year. If you contributed less than the maximum, the actual contribution amount will be indicated. In order to receive the maximum CPP benefit once you turn 65, you need a total of 39 or more years of maximum contributions. This is a rather ambitious requirement for many Canadians, and explains why the majority of those receiving CPP benefits fail to earn the maximum payment.
One exception to the requirements listed above is the so-called child-rearing provision, that excludes periods where you may have stopped working or worked reduced hours in order to raise your children. You can find specific information on this provision and other CPP-related information on the Government of Canada website.
For more information relating to this, please see our other blog post where we examine the implications of opting to start your CPP benefits before reaching 65.