Episode 4 – Pandemic Pension

Episode 4 - Pandemic Pension by Astra Financial

The biggest Pandemic Pension question I’m getting asked right now is should I stay in a defined benefit pension or take a commuted value? What are the pros and cons to each? I know people hate this answer but it’s different for everyone.

There is no one-size-fits-all answer here.

There’s lots to consider about how long you want to be working, what you want retired life to look like, your age….and about a hundred other things. That’s why it’ so important to have a solid understanding of the pension you do have, what your goals are and then work with a financial planner to make sure you’re on the right track.

Take a listen to my latest podcast to learn more about how you can make sure your pension works for you:

Show Notes: 

Hello, and welcome back to another round of Heart of Your Money talks. I’m so glad you’re joining us. The title of this episode is Pandemic Pensions. Think of today as your Pension 101. These are some tricky times for people near retirement.

Right now is making a lot of people reevaluate their finances and pensions. Especially during a time of uncertainty, more people are wanting a better handle on what type of pensions they do have.

I think that in a time of unknowns and feeling out of control, one way we can take back some certainty is by educating ourselves and arming ourselves with information.

So, this is one way to maybe feel a little more secure by knowing about your type of pension. After a lifetime of working, this is going to be one of your biggest assets, so let’s pay attention to it.

The saying, “What you pay attention to grows”. Are you thinking about retiring? Were you forced into early retirement during COVID or is your pension plan being restructured right now? Are you thinking about changing jobs and don’t know if you should take the commuted value of your pension or the defined benefit type pension?

Some of you are asking what the heck is a commuted value. These are things people are coming to me right now with. COVID has sparked job changes, and we have a popular large company here in our city that is changing its pension plan options and asking people to choose between the defined contribution pension plan and the other version, the defined benefit pension.

I know it can be like speaking another language, but stay with me. I’m going to interpret some of the differences for you. Let’s talk about these pensions.

I love this stuff. Yes. I am a bit of a pension nerd, so I want to start with the defined contribution pension plan. This is the type of pension plan that you will see a certain percent come off your paycheck and your employer will match it.

For example, you contribute 3% and your employer will contribute 3%. The amount goes into an investment that is registered just like in RSP. You’ll have a few choices of the type of investment, and you’ll see this pension fluctuate with the markets. Think of the matching amount from your employer as free money.

You would be missing out on this if you didn’t join the pension program at your work, it’s like burning up free money. Some people, especially younger people just starting out might want to skip joining the pension plan because they don’t want to see the amount come off their paychecks. So, here’s a great story that I want to share with you – and it is true.

I’m going to change the names and call these clients, Jim and Steve. They both worked for the same company. They started around the same time at their company in the same year. 

Now, Jim chose to not join the pension plan he needed and wanted every penny from his paycheck. Now Steve did join the company pension program and the pension was a contribution plan that meant he put in 3% of his paycheck and bought into the company stock.

His employer then matched it and bought 3% stock for him as well. I think you might know where this story is going. That company was bought out by a larger firm and the company stock went crazy. It totally jumped in. It increased when Steve left his job, his pension was worth over a million dollars.

Now then there’s Jim. Because he didn’t put into the pension. He didn’t have anything. There was nothing, even though it was 10 years later, Jim never chose to join the pension program even after all those years. So, tell all the young people out there to join the pension plan.

With a contribution plan like this, you can switch employers, you can leave the company, you can take the amount out of the pension and take it with you. You can transfer it into a new pension. There’s so many options out there. It’s flexible. And so, it does not make sense to turn it down.

Now, the other type of pension plan is the defined benefit pension.

This is the type to come off your paycheck and it goes towards a pension plan that uses a formula based on your years of working, age and how much you make to determine what you’ll be paid every month in retirement. This plan, the defined benefit pension, is like a life annuity and it promises to pay you no matter how the market is.

It is a guaranteed payment for the rest of your life. Each month, you will receive a certain amount. It feels secure.

It alleviates the market risk. This though is a dying breed of pensions. There are less and less out there because they’re expensive to maintain. And with the market turbulence, they take a lot of monitoring.

Over the last few years, you will have seen more and more come off your paycheck towards this type of pension.

For example, I have clients that now pay half and half with the employer towards this pension type. More and more is coming off and even my husband’s pension is a federal pension. 

I remember 20 or so years ago when he started, I think it was maybe around 7%, 8%, 10% he would contribute, and then the employer would pick up the rest.

Fast forward to today. He’s putting in 50/50, he’s putting in. It’s more than $10,000 and his employer is putting in more than $10,000 a year. So, you can see that the paychecks are actually a little bit less, even with slight pay increases because they’re putting more into the pension.

The bonus though, is that it pays guaranteed money each month when you retire. Now some pensions are changing, and employers are letting people pick which type of pension they want. 

So, the biggest question I’m getting asked right now is should I stay in this defined benefit pension or take the commuted value?

The commuted value is the cash value. A portion of it stays in a registered bucket and the other portion of it is taxable cash. So, what should you do? Which pension should you take? What is the right answer? 

It would be different for each of you. I know you hate that answer. It comes down to a math and tax answer.

How long have you been working? What amount would be taxed? How old are you?

There are way more questions. So, my number one answer to you is to find a certified financial planner to do the comparisons, the pros and cons of each. And then not to just tell you which one you should take, but then to show you the numbers, you want to see the math.

That is the only way you can make an informed decision. Look at the comparisons, look at the numbers, look at the math and that math should include tax in there. Then you can make a decision.

What pension do I like best? I get asked this all the time. If someone else is going to take on the risk and promises to pay me a certain amount each month, I really like that.

So that’s the defined benefit pension, but you have to add to your own savings over your lifetime with that, because it is a set amount each month – it’s fixed, which is something to think about if you need a lump sum for a car purchase in retirement, or you have a large repair or an expensive once-in-a-lifetime holiday.

You cannot call the defined benefit pension plan and say, “Hey, I need an extra 30,000. Can you give me an advance?”

You also can’t decide to take more in one year and then in a different year, take less. So, the best number one solution is to have a defined benefit pension and then your own nest egg of retirement savings and return tax-free savings, or non-registered.

A bit of everything is the best. The other part in this equation that plays into the pros and cons of each is that there’s another type of a life annuity that you’re going to receive. And that’s the CPP Canada Pension Plan and old age security.

They’re also indexed to increase with inflation. We’ll have to talk about that on a different episode because they deserve their own space, but I wanted you to put that in the back of your brain. It’s another type of defined benefit pension.

When I was putting together this podcast, I quickly Googled the history of pensions.

I know I said I was a pension nerd. Did you know the concept of pensions started with soldiers back in the American Revolution? Back then, if you survived as a soldier, Congress would pay back some income for life. This idea can even be traced back to the time of the Roman soldiers.

So, then I was more interested in the modern type of pensions and those didn’t start until the 1900s and only by the banks and railroads in the States. It took until the 1940s and fifties for defined benefit pension plans to become popular.

So, I had a light bulb moment.

This version of our pension plans is actually really new in the last 75 years and contribution pension plans – the one where it’s matching – has only been around since the seventies. This is new. So, I think we’re going to see more and more pensions move to this contribution type, this new version of a pension.

When I think back to my grandparents, Grandpa had a job that he worked at for maybe 30 or 35 years.

It paid him a pension and Grandma never worked. It was a pension for life. That was that old school thought. And so, this contribution pension plan is going to be scary for some of the older generations, but it can be well-managed, and it just means we have to take care of our own financial house.

I actually think it’s the move and where pensions are going. It’s too expensive to administer a defined benefit pension plan. That’s that set income for life, and it has a market risk that the pension plan takes on not you. So, this means with the evolution of pensions, it’s even more important to take care of your own savings and have a well-thought-out plan for retirement.

So, what type of pension do you have? Your pension plan will have statements they send out to you in the mail. So, for example, we have a popular pension here, the Public Employees Pension Plan. They send out statements in April and October. Your other one’s a defined benefit pension statement, and that might only also come once a year.

You might have online access. So, make sure you take a look and check to see what type of pension you have. Then you can play around with the scenarios of how much longer you want to work. How much will your pension grow by knowing where the pension stand will be one of the backbones of your retirement planning.

This is your mission. If you so choose today, take a look at your pension statement and know what type of pension you have. I really hope you do have a pension. If you’re with an employer. I think it’s super important. If you have one, take a look at the statement. Is there an estimation of what amount you will have per month?

If you stay working until a certain date, what does your pension statement look like? Read it through.

That’s it. I’m going to let you soak that all in for now until next week. So, don’t forget if you need, you can check our website, Astrofinancial.ca for podcasts. There’s also a notes section.

If you click through or send me an email with any questions or comments, I’d love to hear from you. Until next time, I’m Zena.