CIFPS 4CIFPS 4thth Annual National Annual National Conference - 2006Conference - 2006

VancouverVancouver

May 28 – May 31May 28 – May 31

Individual Pension Plans (IPPs)

Robert G. CampSalim Hajee

INW Financial

AGENDAAGENDA

• What is an IPP?

• History of IPPs

• What are the rules regarding IPPs?

• Why would one want an IPP?

• Why would one NOT want an IPP?

What is an IPP?

• Registered Pension Plan (employee/employer relationship)

• Defined Benefit, not Defined Contribution (RRSP is DC)

• Ancillary Benefits can be added

• Who Determines How Much can be Paid into an IPP?

What is an IPP?Registered Pension Plan

(employee/employer relationship)

• Only employees can be members of a Registered Pension Plan

• Partners and Proprietors are not Eligible

• Registered with both Canada Revenue Agency and the Provincial Authority

• Some Provincial Authorities have chosen to ignore IPPs

What is an IPP?Registered Pension Plan

(employee/employer relationship) Cont’d

•Federal Registration gives deductibility to Plan Contributions

•Employer contribution NOT a taxable benefit to the Employee

•Provincial Rules may force extra reporting and employer commitment

What is an IPP?Defined Benefit, not Defined Contribution

(RRSP is DC)• Pension Promise is based on Employee Earnings, not on

Contributions to the Plan

• In an RRSP, Pension will arise from Contributions and Investment Earnings on the Fund

• If Investments tank in an IPP, who has responsibility to "make it whole"?

• If Investments do well in an IPP, who gets the "surplus"?

• If Investments tank in an RRSP, who has responsibility to "make it whole"?

• If Investments do well in an RRSP, who gets the "surplus"?

What is an IPP?Ancillary Benefits can be added

• Post-retirement indexing to CRA limits

• Improved Spousal Protection

• Early Retirement Provisions

• Improved Pre-Retirement Death Benefits

What is an IPP?Who Determines How Much can be Paid

into an IPP?

• An Actuary (FCIA)

• Filings with CRA and Provincial Authority must be made

History of IPPs

• Prior to October, 1968

• Information Circulars 71-4 and 72-13Rx

• 1980 Significant Shareholder Plans

• The Sedgwick IPP Marketing Scheme

• Regulation 8515 (Designated Pension Plans)

History of IPPsPrior to October, 1968

•Basically, there were no special rules

•If Arnold Chater accepted a Plan for Registration, it was okay

•His guideline appeared to be a pension should not exceed 70% of pre-retirement pay

•October 1, 1968 saw the definition of a "Significant Shareholder" and restrictions thereon

•The "primarily for" restriction

History of IPPsInformation Circulars 71-4 and 72-13Rx

•Codified the federal taxation rules for Registered Pension Plans

•Defined Pensionable Service, Earnings, Maximum Pensions, Form of Pension, Retirement Age

•IC 72-13R8 still applies for a Pension Plan crediting service prior to 1991

History of IPPs1980 Significant Shareholder Plans

•Someone forgot Mr. Chater's "blue book"

•Door opened for about six months and hundreds of plans were established for Significant Shareholders

•Door closed December 31, 1980 and restrictions on Plan "improvements" were applied punitively

History of IPPsThe Sedgwick IPP Marketing Scheme

•Highly paid executives and commissioned people - possibly through foregoing of bonus

•The "flip-flop" of RRSP and AVC

•Maximize contributions through "conservative" actuarial assumptions and maximum ancillaries

•Extension of IPPs to Partners who were Former Employees

History of IPPsRegulation 8515 (Designated Pension

Plans)

•Applies to Plans with small numbers of participants who are highly compensated

•Connected Person rules different from those for "regular" employees

•Sets out the actuarial assumptions that are acceptable to CRA for Designated Plans …

History of IPPsRegulation 8515 (Designated Pension

Plans) Cont’d

• Mortality Table80% of 1983 Group Annuity

Mortality Table

• Discount Rate 7.5% per annum

• Retirement Age Age 65

• Form of Pension 2/3 JLS guaranteed 5 years

• Post-retirement indexing 5.5% per annum

What are the rules regarding IPPs?

• What is a Connected Person? Specified Individual? Designated Plan?

• Highest Average Earnings versus Updated Earnings

• Maximum Lifetime Pension

• Maximum Bridge Benefit

• Past Service Pension Adjustment

• Funding versus Cost at Retirement

What are the rules regarding IPPs?What is a Connected Person? Specified

Individual? Designated Plan?

•A "connected person" owns (directly or indirectly) 10% or more of the company

•Usually measured in conjunction with relatives

•A "specified individual" is a connected person earning more than 2.5 times the YMPE

•A Designated Plan is one with less than 10 active members

What are the rules regarding IPPs?Highest Average Earnings versus Updated

Earnings

•"Regular" employees can have benefits based on Highest Average Earnings (HAE)

•Connected Persons are restricted to benefits based on Updated Earnings

•Updated Earnings are based on actual earnings brought forward at the AIW rate

•Maximum pension limits rising at about 5.5% per annum, AIW running less than 3% per annum

What are the rules regarding IPPs?Maximum Lifetime Pension

•For a "regular" employee, 2% times credited service times HAE

•Dollar limits finally moved from $1,715 (set in 1974) to $1,722 (in 1990) to $2,111 (in 2006)

•For a connected person, the sum of 2% of Updated Earnings for each year of service

What are the rules regarding IPPs?Maximum Bridge Benefit

•Bridge pension is payable from actual retirement until age 65 (when government benefits start)

•Maximum Bridge Benefit is sum of OAS and CPP for a person currently age 65 and eligible for maximum benefits

•However, at least ten years of credited service is required for the maximum to be payable

•The maximum dollar amount is the lifetime maximum plus 1/35 of CPP

What are the rules regarding IPPs?Past Service Pension Adjustment

• For each year of service (after 1990) credited today, a PSPA must be computed

• If the member is a connected person, a PSPA for 1990 must also be computed even though no benefit for 1990 is credited

• The PSPA for a year is the same as the Pension Adjustment (PA) would have been if the member were in the Plan in the year

• The PA for 1996 and later years is 9 times the pension earned with a $600 offset

What are the rules regarding IPPs?Past Service Pension Adjustment

•The PA for 1990 through 1995 is 9 times the pension earned with $1,000 offset

•The effect of PA and PSPA is to reduce the RRSP room of the member in the next calendar year

•If the member does not have sufficient RRSP room to absorb the PSPA, a "qualifying withdrawal" must be made from RRSP

What are the rules regarding IPPs?What are the Funding Levels for 2006

•Assuming a person earning in 2006 in Assuming a person earning in 2006 in excess of $110,000, new RRSP room for excess of $110,000, new RRSP room for 2007 will be $19,0002007 will be $19,000•Assuming sufficient earnings and service Assuming sufficient earnings and service back to 1991, the PSPA and Qualifying back to 1991, the PSPA and Qualifying Withdrawal will be $226,100Withdrawal will be $226,100

What are the rules regarding IPPs?What are the Funding Levels for 2006 (Cont’d)

AgeAccrued

Liability2006 Service

Cost2007 Service

Cost2008 Service

Cost

35 238,000 17,100 18,300 19,600

40 262,000 18,700 20,100 21,500

45 287,000 20,600 22,100 23,600

50 316,000 22,600 24,200 25,900

55 347,000 24,800 26,600 28,500

60 381,000 27,300 29,300 31,300

65 418,000 30,000

What are the rules regarding IPPs?What are the Cost Levels for 2006

•Assuming the Plan is being wound up at the beginning of 2006 pension accrual is $29,500:

•CRA rules limit the amount of transfer to RRSP??•Alternatively, can purchase an immediate Alternatively, can purchase an immediate pension with maximum bridge from an insurance pension with maximum bridge from an insurance company licensed to transact business in company licensed to transact business in Canada??Canada??

What are the rules regarding IPPs?What are the Cost Levels for 2006

Age Transfer

under 50 265,000

50 277,000

55 307,000

60 339,000

65 366,000

CRA rules limit the amount of transfer to RRSP to the following:

What are the rules regarding IPPs?What are the Cost Levels for 2006

Age Cost

50 539,000

55 594,000

60 619,000

65 542,000

The cost of purchasing an immediate pension with The cost of purchasing an immediate pension with maximum bridge would be approximately:maximum bridge would be approximately:

Why would one want an IPP?And When?

• Additional Tax Deferral

• Creditor Protection

• Ability to "Ensure" a Post-Retirement Income

Why would one NOT want an IPP?

• Cost of the Plan

• Investment Restrictions

• Conversion of Capital Gains and Dividends into Regularly Taxed Income

• Commitment of Employer

Business Planning Cycle• Early Career Years

• Too busy Growing Business• Money into RRSPs for purposes of tax-deferment, Not

ACTIVE Retirement Planning

• Middle Career Years• Mature Business• Looking to pass on business/value in tax-effective manner• Money into RRSPs for purposes of tax-deferment, Not

ACTIVE Retirement Planning

• End Career Years• Phase out of business• Retirement – how much is enough?

Retirement Planning

• RRSPs

• Company Registered Pension Plan

• Government Statutory Benefits (CPP + OAS?)

IPP – A Possible SolutionIPP – A Possible Solution

• Comprised of one (individual) plan Comprised of one (individual) plan member – spouse may participate, member – spouse may participate, provided she is employed by same or provided she is employed by same or associated employerassociated employer

• Complex rules – simple conceptComplex rules – simple concept• Employer must sponsor and fund Employer must sponsor and fund

(employee contributions permitted)(employee contributions permitted)• Registered defined benefit pension Registered defined benefit pension

planplan

IPP – A Possible Solution IPP – A Possible Solution (Cont’d)(Cont’d)

• Benefit is clearly defined:Benefit is clearly defined:• Lifetime - 2% of Updated Annual Lifetime - 2% of Updated Annual

Compensation for each Year of Service Compensation for each Year of Service with Employer (within annual ITA limits)with Employer (within annual ITA limits)

• Bridge - Within ITA limits payable to age Bridge - Within ITA limits payable to age 6565

• Spousal Pension on Death - 66 2/3% of Spousal Pension on Death - 66 2/3% of member’s lifetimemember’s lifetime

• Indexing - YesIndexing - Yes

IPP – A Possible Solution IPP – A Possible Solution (Cont’d)(Cont’d)

2006 $ 2,111.11

2007 $ 2,222.22

2008 $ 2,333.33

2009 $ 2444.44

2010 $ 2,444.44* (1 + AIW)

Until the next Until the next time time the ITA is amended

Maximum Annual Benefit Accruals under the ITAMaximum Annual Benefit Accruals under the ITA

Ideal Candidates for an IPPIdeal Candidates for an IPP

• Owner/manager or senior executives of Owner/manager or senior executives of private or public corporationprivate or public corporation

• Age 41 or olderAge 41 or older

• Business must be incorporatedBusiness must be incorporated

• T4 earnings of approx. $106,000 in 2006, T4 earnings of approx. $106,000 in 2006, $112,000 in 2007, etc. (dividend income $112,000 in 2007, etc. (dividend income ineligible)ineligible)

• Have an employer that is willing to set one Have an employer that is willing to set one upup

An IPP is NOT Like an RRSP…An IPP is NOT Like an RRSP…The Good (Cont’d)The Good (Cont’d)

• Annual Contributions in an RRSP depend on Annual Contributions in an RRSP depend on earnings only; Annual Contributions to an IPP earnings only; Annual Contributions to an IPP depend on earnings and AGE – higher the age, depend on earnings and AGE – higher the age, higher the annual contribution requirementhigher the annual contribution requirement

An IPP is NOT Like an RRSP…An IPP is NOT Like an RRSP…The GoodThe Good

• Younger than Age 41 – RRSP More advantageous; Younger than Age 41 – RRSP More advantageous; Older than 41 – IPP more advantageousOlder than 41 – IPP more advantageous

• IPP must fund the benefit promise, hence IPP must fund the benefit promise, hence additional funding may be required if shortfall in additional funding may be required if shortfall in pension fund (ongoing or member/plan pension fund (ongoing or member/plan termination); RRSP – no such requirementtermination); RRSP – no such requirement

• IPP is creditor-proof; RRSP may be assignedIPP is creditor-proof; RRSP may be assigned• Investment risk transferred to plan sponsorInvestment risk transferred to plan sponsor• Any money borrowed by Company to fund IPP Any money borrowed by Company to fund IPP

contributions is tax-deductible to Company, contributions is tax-deductible to Company, unlike borrowing to make personal RRSP unlike borrowing to make personal RRSP contributionscontributions

An IPP is NOT Like an RRSP…An IPP is NOT Like an RRSP…The BadThe Bad

• Restrictions on withdrawal of funds as subject Restrictions on withdrawal of funds as subject to locking-in in most provincial jurisdictions in to locking-in in most provincial jurisdictions in CanadaCanada

• No spousal contributions permitted and No spousal contributions permitted and reduces income-splitting opportunitiesreduces income-splitting opportunities

• Requires a trustee – either self-trusteed (3 Requires a trustee – either self-trusteed (3 individual trustees, at least one at arms-individual trustees, at least one at arms-length), corporate trustee or life insurance length), corporate trustee or life insurance companycompany

An IPP is NOT Like an RRSP…An IPP is NOT Like an RRSP…The UglyThe Ugly

• Administration costs: IPPs – set up ~ $3,000 - Administration costs: IPPs – set up ~ $3,000 - $5,000, annual $1,000 - $1,500, every 3 $5,000, annual $1,000 - $1,500, every 3 years ~ $2,500; RRSPs - $100 for self-years ~ $2,500; RRSPs - $100 for self-administeredadministered

• Any surplus over permissible ITA limits will be Any surplus over permissible ITA limits will be paid to employee as fully taxable lump sum paid to employee as fully taxable lump sum upon termination of employment/IPP, if elect upon termination of employment/IPP, if elect the transfer optionthe transfer option

An IPP IS Like an RRSP…An IPP IS Like an RRSP…• Contributions tax deductible: IPP by Company Contributions tax deductible: IPP by Company

from business income; RRSP by taxpayerfrom business income; RRSP by taxpayer

• Investment income accumulates and compounds Investment income accumulates and compounds on a tax-deferred basison a tax-deferred basis

• Upon death by member, all assets in an IPP may Upon death by member, all assets in an IPP may be transferred to spouse and rolled over to an be transferred to spouse and rolled over to an RRSP on a tax-deferred basis, similar to that for an RRSP on a tax-deferred basis, similar to that for an RRSPRRSP

• Investments, if RRSP-eligible are also IPP-eligibleInvestments, if RRSP-eligible are also IPP-eligible

• Foreign content limits are the sameForeign content limits are the same

• Taxed when amounts withdrawn/paidTaxed when amounts withdrawn/paid

And, Finally …And, Finally …

Thank YouThank You

Q & AQ & A