Pension Buyback Scenarios – How Does Buying Back Impact Your Plan?

Photo by Freepik

You’re not alone if you’ve considered the pros and cons of buying back pensionable service in your defined benefit pension plan. You may be able to buy back service for years you were on parental leave, ill, taking a sabbatical, etc. Your pension plan will confirm how much you can buy back.

The reason most people buy back service is if it will entitle you to a larger pension in retirement, and particularly if it helps you qualify for an unreduced (or less-reduced) pension more quickly.

DISCLAIMER: All information in this article about pension plan calculations is sourced from publicly available information – I do not guarantee the accuracy of this information, and this does not constitute advice about your pension. You should always confirm this information with your financial planner and pension plan. Bridge pension calculations are excluded for simplicity.

Buying back your pension is a nuanced decision. For those without any unused RRSP contribution room, this may require a transfer to the plan from your existing RRSPs and in some cases may even require withdrawing from your RRSPs.

You’ll want to consider the benefits you’d expect to receive from buying back:

• Increase to base pension benefit.
• Reduction to early retirement penalty.
• Delegation of the management of retirement assets.
• Ensuring income for your surviving spouse.

As well as the drawbacks:

• Loss of some flexibility.
• Potential decrease to spouse’s survivor income.
• Potential decrease to estate value with early death.
• The “return” on the money is capped.

Some pensions come with cost-of-living adjustments, and some don’t.

The simplest way to begin the assessment process is to understand how a pension is calculated, and how the pension may be reduced for early retirement. Each pension may be drastically different, and the calculation and potential benefit depends heavily on which plan you’re a member of.

To illustrate this, we’ll look at 3 different plans.

3 Pension Plans

These plans were picked at random.

Local Authorities Pension Plan (LAPP) in Alberta

As early as age 55, you can retire with an unreduced pension if your Age + Service Years equals 85. At 55, you need 30 years of pensionable service to qualify for an unreduced pension. At 60, you only need 25 years of pensionable service. (1) This is called an 85-factor.

Municipal Pension Plan (MPP) in BC

There are different rules for public safety workers vs. other employee classes. General employees have some very complex calculations right now, so I’ll exclude them. Public safety workers like firefighters in Group 2 qualify for an unreduced pension at either age 55, or if Age + Service Years equals 80 (80-factor).

University Pension Plan Ontario (UPP)

Some tranches of employees can get an unreduced pension if you reach age 60 and have 20 years of pensionable service. This is an 80-factor calculation. (3)

While you can retire at age 55, 80-factor does not apply. The reduction factor is based on age alone in that case, rather than age + service years. Normal retirement age is 65. (4)

The Reduction Factor

Each plan’s reduction factor calculation varies:

LAPP – reduced by 3% by the number of years it would take to reach either 85 factor or age 65.(5)

MPP – for public safety workers (Group 2), the reduction factor is usually 3% for each year you’re below age 55 or below 80-factor.(6)

UPP – Reduced by 5% for each year you are either below age 65 or below 80-factor and at least age 60.(3)

This reduction factor is calculated based on the base pension benefit, so we’ll need to know that too.

Pension Calculations

Not all pensions calculate the pension based on “highest consecutive salaries”, but it’s common. All 3 of these plans use consecutive salary calculations. Usually, the last years of the career are when earnings are highest.