When designing Ontario’s new pension plan, look to Australia
As the Ontario government moves ahead with plans for a new mandatory provincial pension program in January 2017, early signs suggest the program will be largely modelled after the Canada Pension Plan. Ontarians, however, would benefit from a broader debate that looks beyond their borders—and beyond the CPP model—to see what other countries are doing on government-mandated pensions.
For example, Australia’s system of mandatory individual retirement saving accounts, with its greater choice and flexibility, deserves a close look.
In Australia, the mandatory employment-based pension approach more closely resembles Canada’s RRSPs. Australian employers are required to contribute 9.5 per cent of an eligible employee’s ordinary earnings to individual retirement accounts.
The Australian model has several distinct advantages over the CPP model.
For starters, the Australian accounts have limited rules around asset allocation and investment strategy, offering considerable flexibility to account holders. Individuals can choose an investment strategy based on their preferences and circumstances.
The Australian plan is also flexible enough to allow withdrawals from the accounts prior to retirement for medical emergencies or during times of financial hardship.
Crucially, any balance in the accounts can be fully transferred in a lump sum to a dependent tax-free upon death.
And all contributions and earnings in the Australian accounts accrue directly to the individual.
These important benefits are unavailable in the collective CPP model.
There are other significant differences between the collective CPP model and Australia’s individual retirement saving accounts. Most notably, Australia’s scheme is a defined contribution plan, meaning the level of retirement benefits depends on how investments perform.
Defined benefit plans like the CPP—where beneficiaries receive a specified monthly benefit—are subject to a different set of risks. For example, under-funding of the plan or changes in the rules by government could lead to increased contribution rates or reduced benefit payments—something that has happened in the recent past.
Moreover, the CPP model concentrates investment risk in a single public-sector asset manager, unlike Australia’s individual retirement saving accounts, which spread the risk among multiple private sector fund managers.
If the provincial government is determined to create a new government-mandated pension plan in Ontario, the Australian model of privately held individual retirement accounts is worthy of serious consideration. But it is far from clear that any new forced savings program is needed at all.
The push is based on the faulty assumption that most Ontarians are not adequately prepared for retirement. In reality, the existing retirement income system serves the vast majority well when we properly account for all resources available to Ontarians to support them in retirement.
In addition to government programs such as the CPP and Old Age Security, Ontarians routinely rely on pension income from RRSPs and RPPs, which are critical features of Canada’s so-called “three pillar” retirement income system. Apart from those, a full accounting of the resources available to retirees must include savings in TFSAs, home equity (70 per cent of Canadians own a home), land, businesses, cash deposits, stocks, bonds and other investments. Retirees also rely on the support of family and friends.
Among the current cohort of retirees, the problem of retirement income inadequacy mainly affects single seniors living alone with minimal work history. As a work-based program, the Ontario Retirement Pension Plan does nothing to help this group.
And there’s the added reality that ORPP won’t increase overall retirement savings to the extent expected if Ontarians, in response to increased forced savings, simply save less voluntarily. Without an overall boost in retirement savings, the end result is a reshuffling, with more money going to forced savings and less to voluntary savings.
The risk, then, is that Ontarians will lose out on the flexibility of voluntary vehicles like RRSPs and TFSAs.
If the Ontario government insists on launching a mandatory provincial pension program, despite being unnecessary, Queen’s Park could learn from Australia about how to design a system distinguished by choice and flexibility for Ontarians and their families.