The article “RRIF Risks Remain Even After Government Updates Rules” was originally published on The Financial Post on July 2, 2015.
Outdated RRIF rules were changed in the recent federal budget, but there are still a number of real RRIF risks for retirees. A new pension policy paper from the C.D. Howe Institute suggests that the government hasn’t done enough, and that Canadians may still need to take matters into their own hands.
Interest rates have dropped steadily in the past 20 years, making it harder for RRIFs to keep up with the old required withdrawal amounts. The yields on safe investments like GICs and government bonds are not even keeping up with inflation, meaning real returns – investment returns less the annual increase in the cost of living – are actually negative right now.
“Running the projections with zero real returns suggests that most seniors still face a material risk of outliving their tax-deferred savings,” says the C.D. Howe in an e-brief titled Drawing Down Our Savings. “If more regular adjustments to keep the withdrawals aligned with returns and longevity are impractical, eliminating minimum withdrawals entirely may be the best way to help retirees enjoy the lifelong security they are striving to achieve.”
RRSPs must be converted to RRIFs by the holder’s age 71, at which point mandatory withdrawals begin. In 1992, the initial mandatory withdrawal was set at 7.38 per cent of total holdings, a number that remained unchanged until this year. The recent federal budget decreased the initial withdrawal rate to 5.28 per cent for 2015 and future years. At age 80, withdrawals have dropped from 8.75 per cent to 6.82 per cent.
Comparable retirement savings plans to Canadian RRSPs like U.S. Individual Retirement Accounts (IRAs) and U.K. Self-Invested Pension Plans (SIPPs) have similar tax incentives, tax deferral and eventual withdrawal requirements. But with life expectancies rising and interest rates falling, conservative investors continue to get squeezed.
“Life annuities are available, as are term-certain annuities to age 90 for regular RRSP savers, and many experts argue that more people should buy them (when they start to draw on their RRSPs),” say the authors of the report. This makes sense in theory because it makes retirement planning easier and reduces the risk of outliving one’s money. But in practice, interest rates are so artificially low that there’s an offsetting risk in today’s annuity market of locking in an unreasonably paltry annuity interest rate for life.
That should be putting Canadian investment fees under the microscope even more than they are already. As interest rates have declined, investment fees have not exactly fallen proportionately and are taking a bigger chunk of retirees’ investment returns — particularly for those in smaller, at-risk investors in high-fee mutual funds.
The concept of voluntary CPP contributions has been floated in recent years and has come to the forefront again based on recent comments by Finance Minister Joe Oliver. It’s an interesting option because it helps mitigate three retirement problems – longevity risk, budgeting and investment fees.
For many low income and middle class Canadians, modest voluntary contributions to the CPP may be enough to cover a good proportion, or maybe even all, of their retirement needs — if they’re inclined to increase contributions during their working years. Compared to the average balanced mutual fund annual fee in this country of 2.2 per cent (Morningstar, 2013), the CPP’s effective annual fees of 0.3 per cent (year ending March 31, 2015) are attractive. Beyond the low fees, the CPP has generated net returns of 8 per cent in the past 10 years through March 31, 2015, versus 4.8 per cent for the average Canadian global equity balanced mutual fund (Morningstar).
For those with enough money to seek out quality professional advice or enough know-how to invest in a low-cost investment portfolio on their own, voluntary CPP allows them the opportunity to opt out and take an independent approach with their retirement savings. Those who invest through their RRSPs will find the new RRIF rules beneficial.
Nonetheless, the C.D. Howe has highlighted potential gaps in the key retirement policy contained in the federal budget. As a retirement planner, I’m very interested to see what potential retirement measures are included in the campaign platforms for the upcoming federal election. And given that we’re all either current or future retirees, you should be interested too.
Jason Heath is a fee-only Certified Financial Planner (CFP) and income tax professional for Objective Financial Partners Inc. in Toronto, Ontario.