Getting substantially more assets into your retirement plan.
Business owners, incorporated professionals and key employees are eligible to take advantage of this exceptional retirement strategy. Recent reductions in reporting requirements, set up fees and ongoing administration make it possible to provide such arrangements at a substantially reduced cost.
Individual Pension Plans differ from traditional RRSPs in certain key areas:
- The IPP utilizes a trust arrangement and as such can provide bulletproof creditor protection from personal and corporate creditors.
- The IPP is an excellent tool in succession planning for the business owner. You may be able to continue the tax deferral on registered assets beyond the death of the second spouse by making children members of the plan.
- IPP contributions are graduated by age and are increase each year at the government’s prescribed rate of 7.5%. Therefore, as one grows older, contribution amounts escalate much faster than
- The IPP is funded via three components; Past Service, Qualifying Transfer and Current Service. Past Service and Current Service represent tax deductible corporate contributions that often total in the hundreds of thousands of dollars. The Qualifying Transfer is a rollover of a portion or all existing RRSP assets into the plan.
- Unlike an RRSP which can suffer the consequences of long term poor markets, an IPP has an ongoing actuarial valuation requirement of 7.5% per annum (again, government prescribed), which may require additional tax deductible contributions if the portfolio has under performed. This allows the security of knowing that full funding will be available upon retirement.
- An RRSP has no rules on diversification. The IPP mandates a safety first approach by ensuring the portfolio is not allowed to invest more than 10% of its assets in any one investment.
- The IPP rules may permit an additional lump sum payment to the Plan upon retirement in order to fund early retirement prior to age 65 and for enhanced indexing.
What is an Individual Pension Plan (IPP)?
- An IPP is a registered defined benefit pension plan for designated individuals. If the spouse is employed by the same company or a related company the spouse and/or children may be added to the plan.
- A defined benefit pension plan provides a lifetime retirement benefits starting at a certain age. All pension related calculations are performed by an accredited actuary. The amount of projected pension income is determined by a formula based on historical earnings and length of service. Ultimately, contributions plus growth must be sufficient to provide the capital required to fund the pension benefits.
- This compares to an RRSP which is a defined contribution or money purchase plan where contributions are determined by a rule or formula and the ultimate pension income will be determined by whatever the accumulated contributions plus growth can provide.
What are the advantages of an IPP over an RRSP?
- Higher tax-deductible contributions than RRSPs
- IPP assets are creditor proof where RRSP assets are not.
- Interest on funds borrowed for contributions are tax-deductible to the company.
- Significant lump sum past service contribution is possible in most cases.
- Reimburse the plan (optional) with additional tax deductible contributions for investment management fees paid.
- Contributions may be “topped up” if investment returns are insufficient.
- Additional tax-deductible lump sum contribution at the time of actual retirement is possible in most circumstances.
- Over contribution of $8,000 which used to be available for RRSPs is still available with the IPP and is deductible immediately.
Who can benefit from an IPP?
- Anyone, usually age 40 plus, who is serious about planning for retirement, has the resources to fund the IPP, and is receiving T4 income from their employer
- The small business owner is typically the most suitable candidate to an IPP. This also includes incorporated doctors, dentists, accountants and lawyers. Senior managers and key employees of a company are also possible candidates as long as the employer is willing and able to fund the IPP.
- 100% of contributions by an employer to an IPP are tax-deductible to the employer.
- Contributions must be made within 120 days of the company’s fiscal year end and are deductible for that fiscal year.
- All fees associated with setup and administration of the IPP are tax deductible.
- Management fees and expenses may also be paid by the company and are also deductible.
What is a “Qualifying RRSP Transfer”?
- Canada Customs and Revenue Agency requires that the contribution generated for past service (i.e. years 1991 – 2007) be offset by a transfer from the plan member’s RRSP. This means that existing RRSP assets must be transferred to the new IPP. The reason for this is that since the individual received the maximum tax sheltering for those years by contributing to an RRSP they are not entitled to the maximum benefit under an IPP as well. CRA is essentially preventing double dipping.
- The Qualifying Transfer is determined by calculating the Pension Adjustment that would have been applied in each year of past service assuming that the individual had been in a defined benefit pension plan during those years.
- IPP assets may be invested under a trusted self-directed vehicle, with a trust company or under a life insurance company contract.
- Subject to pension investment rules
- No single investment can exceed 10% of the book value, investment choices are governed by the “Prudent Investor” rule. The Prudent Investor Rule is a legal doctrine which provides guidance to investment managers regarding the standards for managing an investment portfolio in a legally satisfactory manner. Generally, if an investment is acceptable in an RRSP it is usually acceptable in an IPP. The IPP follows a Statement of Investment Policies and Goals established at plan setup.
What happens on death?
- If the member is not retired, the value of the pension earned will be payable to the plan member’s spouse or, if there is no spouse, to another beneficiary or the plan member’s estate. Amounts payable to the spouse may be transferred to a Locked-In Retirement Account (LIRA) on a tax-deferred basis up to prescribed maximums.
If the member is retired, the spouse will receive a percentage of the pension payable to the member. Normally this is 66 2/3%.
- Upon death of the spouse, if there are remaining plan members (i.e. children) the residual value of the pension would remain in the plan for the benefit of those members. This perpetuation of the plan allows for ongoing tax deferral of registered assets.
What happens on termination of employment?
The member will have an option of receiving a deferred pension, immediate pension (if age 50 or earlier), transferring assets to another registered pension plan or transferring assets into a LIRA on a tax-deferred basis up to prescribed maximums.
What happens at retirement?
- When the plan member wishes to receive a pension (no later than the calendar year in which the member turns age 71, one or more of the following may be selected:
- Life Income Fund (LIF)
- Continue the plan (if there is a significant surplus) and receive benefits
- Locked-In Retirement Income Fund (LRIF)
- Purchase a life annuity
Q. What if I have already made my RRSP contribution for the current year?
A. You may have to withdraw your RRSP contribution, without penalty or withholding.
Q. What if I have unused RRSP room at the end of this year?
A. This may be used to increase IPP funding for additional earlier employment years.
Q. Can I make future RRSP contributions?
A. Other than a token amount, all future retirement savings will be made through the IPP. Remaining RRSP assets will continue to grow on a tax-deferred basis.
Q. What happens if ability to contribute to the IPP is reduced?
A. Once the IPP is established, there is an ongoing obligation to make contributions. However, in the event of cash flow difficulties, contributions may be suspended. When conditions improve, contributions may be resumed. If necessary, the IPP may be wound up at any time.