Canada Pension Plan enhancement — how will it affect me?

March 13, 2017

You may have heard that Canada's Ministers of Finance reached an agreement in principle last June to enhance the Canada Pension Plan (CPP). Since then, the federal government has passed legislation to enable the enhancements. Now, you may be wondering what the changes are and when you will be impacted. This article aims to answer some of the questions you may have.

What are the changes and when are they coming?

Currently, the CPP contribution rate is 4.95% each for employees and employers, and 9.9% for self-employed persons. This contribution rate applies to pensionable income above $3,500 up to a maximum income level of $55,300 (for 2017). This maximum pensionable income level is known as the "Year's Maximum Pensionable Earnings" or YMPE. Based on current rates, and for an individual retiring at age 65 in 2017, the maximum annual pension benefit is $13,370.

The goal of the upcoming CPP enhancement is to address the retirement income shortage risk for many Canadians by increasing the maximum annual pension benefit from approximately 25% of pre-retirement eligible income to 33%. In order to fund this benefit increase, there will be a two-step rise in contributions.

Firstly, the employee and employer contribution rates will each increase by 1% by 2023. This increase will be phased in gradually from 2019 to 2023 and will apply on earnings up to the YMPE. This increase is referred to as the "First Additional Contribution Rate".

Secondly, a separate additional contribution rate will apply to a set amount of earnings above the YMPE beginning in 2024. To implement this "Second Additional Contribution Rate", the recently passed legislation introduces a new "Upper Limit" on pensionable earnings which will be phased in over two years. This Upper Limit will be 7% higher than the YMPE amount in 2024, and 14% higher in 2025 and subsequent years. For example, by 2025, the YMPE is projected to be about $72,500. Therefore, the Upper Limit will be $82,700, or 114% of the YMPE amount. It is the difference between the YMPE and the Upper Limit (i.e. the incremental increase in maximum earnings) that will be subject to a separate contribution rate of 4% each for employees and employers, and 8% for self-employed persons.

The following tables summarize the phase-in of these changes. Note that the government has indicated that the rates and earnings estimates may be subject to change and will be confirmed after an actuarial assessment.

First Additional Contribution Rate (on income up to the YMPE)
Year For Employees (%) For Employers (%) For Self-Employed Persons (%)
2019 0.15 0.15 0.30
2020 0.30 0.30 0.60
2021 0.50 0.50 1.00
2022 0.75 0.75 1.50
2023 and subsequent years 1.00 1.00 2.00
Second Additional Contribution Rate (on income over the YMPE and up to the Upper Limit)
Year For Employees (%) For Employers (%) For Self-Employed Persons (%)
2024 and subsequent years 4.00 4.00 8.00

To address concerns about affordability, a tax deduction for employee or self-employed persons' contributions associated with the enhanced portion of the CPP will be provided to minimize the after-tax cost of the increased contributions. The tax credit on the base amount of CPP contributions will continue to be available. In addition, the Working Income Tax Benefit will be enhanced to offset the impact of higher contributions for low-income workers.

What does this mean for employees?

In an example provided by the government, an employee with earnings of $54,900 can expect additional annual contributions of about $75 in 2019, which will gradually increase to about $515 by the end of the phase-in period. In another example provided by the government, an employee with earnings of $82,700 can expect additional annual contributions to reach about $1,100 by 2025. Note that as previously mentioned, the additional contributions will be allowed as a tax deduction so that the after-tax cost of the increased contributions will be minimized. In addition, if an employee reduces their Registered Retirement Savings Plan (RRSP) contribution by $75 as a result of the CPP enhancement in 2019, the individual will not be worse off on an after-tax basis because the $75 increase in CPP contributions will be tax deductible in the same manner as an RRSP contribution.

From a pension benefits perspective, while employees nearing retirement may see little additional benefit, young workers, who will have many years to contribute to the enhanced CPP, will receive the greatest benefit upon retirement. The government indicated that once fully implemented, the maximum pension benefit will increase by about 50%.

What does this mean for employers and what can they do to prepare for the changes?

While the additional employer contributions will be tax deductible in the same manner as current CPP contributions, employers will need to determine how to fund the added cost. Employers should consider performing projections over the phase-in period to determine the funds that will be required as a result of the enhancement and how best to pay for the additional cost. If the employer currently offers retirement pension plans to its employees, one logical place to start may be to assess whether it makes sense to make adjustments to their current pension plans.

Another area that may benefit from advance planning is payroll. If this function is performed in-house, a review of internal systems may be beneficial in order to determine the updates that will be needed to effect the changes. Remember that beginning in 2019, the contribution rate will increase each year for the first five years, followed by a change to a two-tier rate that will apply starting in 2024.

As discussed in this article, CPP enhancements are coming and will impact employees, employers, and the self-employed. If you have questions regarding the changes, please contact your BDO advisor.

The information in this publication is current as of March 1, 2017.

This publication has been carefully prepared, but it has been written in general terms and should be seen as broad guidance only. The publication cannot be relied upon to cover specific situations and you should not act, or refrain from acting, upon the information contained therein without obtaining specific professional advice. Please contact BDO Canada LLP to discuss these matters in the context of your particular circumstances. BDO Canada LLP, its partners, employees and agents do not accept or assume any liability or duty of care for any loss arising from any action taken or not taken by anyone in reliance on the information in this publication or for any decision based on it.