The article “What Today’s Savers Can Learn From Today’s Seniors About Retirement Planning” was originally published on FInancial Post on May 23, 2018.
One lesson: Smaller pensions or none at all mean Canadians probably aren’t saving enough
Future retirees can learn a lesson from their elders by looking to current retirees in Canada and around the world. Research from Schroders in their recent Global Investor Study solicited feedback from international retirees from 30 countries. The results are insightful and help highlight areas to address in the pursuit of financial independence.
When asked if they wished they had saved more for retirement, only 14 per cent of the retired Canadian respondents said they wished they had saved “a lot” more. That is good news for Canadian seniors. 42 per cent felt they had saved enough and 44 per cent wished they had saved “a little” more.
Analyzing their sources of retirement income yields some interesting insights. Nearly one-quarter of their retirement income has come or will come from company pensions. There have been trends in Canada towards reducing employee pension coverage, shifts towards temporary and contract workers and an increase in self-employment. These all put more personal responsibility onto today’s workers to save proactively to be tomorrow’s happy retirees.
You would think conscientious Canadians would be saving more as pension coverage diminishes. Quite to the contrary, our savings rate has declined steadily from a peak of 19.9 per cent in 1981 to 4.2 per cent in the fourth quarter of 2017 according to Statistics Canada. For most of the past 10 years, the rate has stayed stubbornly below 5 per cent.
By comparison, the Schroders study found that the average proportion of annual income Canadians felt they should be saving for retirement was 13 per cent. The maximum annual RRSP limit is 18 per cent of earned income (subject to a dollar maximum).
Rising home prices and record debt levels are some of the reasons why Canadians may be falling short of their savings targets. Real estate and lifestyle have taken precedence over retirement, and now 18 per cent of Canadians say their top priority for their disposable income in 2018 is debt repayment, more than double the global average across 30 other countries.
Given high debt levels and rising interest rates, the shift towards debt repayment as a focus for Canadians is a good sign, but in the short-term, it means we are unlikely to see a significant increase in retirement savings. It also suggests some Canadians will be unable to fund retirement without tapping into their home equity.
Free market economics can be highly efficient when you are dealing with stock prices, exchange rates and other primarily rational equilibriums. I do think government intervention is more justified when it comes to ensuring a nation’s retirement security. This is particularly pertinent in Canada where we have a generally expensive, often inefficient private retirement savings market — the mutual fund industry — which, in my opinion, does an underwhelming job of helping Canadians save for retirement.
On that basis, I support the federal government’s enhancement of the Canada Pension Plan. Starting in 2019, workers will make higher contributions to the CPP that will lead to a higher retirement pension. Only those who work and contribute to the CPP for 2019 and future years will be affected — not current pension recipients or retirees.
By the time the CPP enhancement is fully phased in by 2025, the pension will replace one-third of the year’s maximum pensionable earnings (YMPE) instead of one-quarter currently. The YMPE limit used to calculate average work earnings and income replacement ratio will also rise by 14 per cent.
I wish I could have faith in Canadian savers to adequately save for retirement on their own. Recent trends away from retirement savings and towards consumption help reinforce the benefit of increasing government pension coverage. Besides, CPP coupled with Old Age Security (OAS) still provide only a modest amount of the average Canadian retirees’ income.
Statistics Canada data reinforces this shortfall. The current average CPP retirement pension is $8,303 per year. The maximum OAS pension is $7,075 annually. The 2016 Survey of Household Spending found average expenditures per household for those age 65 and older was $58,121 including income tax. If we adjust for inflation, that would be about $60,394 in 2018 dollars. A married couple earning the average CPP and maximum OAS would therefore cover about 51 per cent of their retirement needs with government pensions alone.
51 per cent is not half bad, but it is still just half of what a typical Canadian retiree is spending. In a utopian financial world, savers would take it upon themselves to make up the gap and the financial industry would do a good job helping them do it. I have doubts about both and that is why enhanced CPP is likely a good thing to ensure future retirees are at least as happy as the mostly financially independent retirees in the Schroder’s survey.
There is still a degree of responsibility for Canadians to save independently for retirement, as there should be, but I think it is wise for government to help limit the margin for error.
Jason Heath is a fee-only, advice-only Certified Financial Planner (CFP) at Objective Financial Partners Inc. in Toronto, Ontario. He does not sell any financial products whatsoever.