Individual Pension Plans - CIFPs · RCA – Highlights • 50% of contributions and realized investment income must go to a Refundable Tax Account – Objective: minimize realized

Individual Pension Plans

Integrating IPPs in Fiscal and Retirement Planning

June 16, 2010

1


IPPs –Highlights

• Greater tax-sheltering than RRSPs• Contributions and expenses are tax deductible• May make up for investment losses• Funds are generally creditor protected

– Subject to family divisible assets• Ideal candidate is a business owner aged 40+, with

employment earnings

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Individual Pension Plans Individual Pension Plans (IPPs)(IPPs)

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What is an IPP?

• A Defined Benefit (DB) pension plan– Generates a Pension Adjustment (PA)

• Set up by a company usually for one person– Must be an employee of the company (T4 income)– Spouse may also participate, if an employee

• Designed to provide maximum benefits and therefore maximize contributions

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IPPs – Applicable Legislation

• Income Tax Act– Sets maximum benefits and contributions– “Connected” persons: Owns directly or indirectly 10% of any

class of shares of IPP sponsor• Provincial pension legislation

– Sets minimum funding requirements– Many exemptions in QC, MB, BC, AB– PEI has no pension legislation

• Pension investment rules

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IPPs – Taxation

• Contributions and expenses are tax deductible to the company– Including IMFs, if paid outside of IPP fund

• Funds accumulate tax-free• Benefits are taxable when paid out

– Can be split before age 65

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IPPs – Types of Contributions

• Past Service Contribution– Generally since 1991– An RRSP transfer is usually required

• Current service contributions• Optional contributions at retirement• Contributions to make up for any investment losses

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Return Objective7-1/2%

Valuation YearStart Date

Deficit

Surplus

9%

5%

• Additional contributions can be made to shore up any deficit

• Some surplus can be retained without limiting contributions (up to 25% of benefit value)

Investment Gains and Losses

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IPPs – Options at Termination and Retirement

• Transfer to another retirement savings plan– Locked-in, except in Quebec and PEI

• Receive lifetime pension from the IPP– Allow additional contribution at retirement

• Purchase annuity from an insurance company

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IPPs – Death Benefits

• Prior to retirement: Value of pension payable to• Spouse: transferred to RRSP (may be locked-in)• Beneficiary or estate (no spouse or waived): payable in cash

– An additional contribution may be possible• After retirement: Depends on terms of lifetime pension

– Normal form: payable to surviving spouse at 66.7% with a 5-year guarantee

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IPP Case StudyIPP Case Study

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A Business Owner

• Aged 58 on January 1, 2010• Earned more than $125,000 since 1991• Past service since January 1, 1991• Contributed maximum to RRSPs

– Accumulated over $500,000• Wants to set up an IPP in 2010 and retire at age 70

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• Can credit past service from January 1, 1991• Company can contribute $237,800• An RRSP transfer of $367,950 must be made

– Would be less if unused RRSP contribution room existed– Past service is adjusted if unable to make transfer

Past Service Contribution

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Projected Annual IPP Contributions vs. RRSP

Age IPP RRSP2010 58 $33,000 $22,0002012 60 $38,100 $24,4872015 63 $47,300 $28,7532017 65 $52,200 $32,0032020 68 $57,100 $37,5792022 70 $60,400 $41,826

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IPP – Contribution at Retirement at age 70

• An additional amount of $259,600 could be contributed– Some benefits cannot be pre-funded– Can take some money out of the company prior to retirement

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IPP Solution versus RRSP only

Plan Balances at end of year with additional contribution

Age IPP solution RRSP only Advantage65 $1,700,200 $940,000 181%68 $2,350,000 $1,286,900 183% 70 $2,813,200 $1,574,700 179%

- Based on 7.5% return (Prescribed valuation rate for IPPs)- RRSP only column includes a seed equal to IPP transfer

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IPP MarketIPP Market

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IPPs in Canada

• Started in the 1980s• About 18,000 registered pension plans in Canada of

which close to half are IPPs• More than 4,000 established in the span of 3 years

– Shows a rapidly growing interest for IPPs– Only tip of the iceberg

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Why is the demand for IPPs increasing?

• Baby Boomers are getting older (50+)• Greater attention to retirement issues than ever before• Better known by accountants• Not subject to provincial pension legislation in certain

jurisdictions (BC, MB, PEI, QC)– No minimum funding required

• Greater access to IPP funds– A portion can be unlocked in many provinces (100% in QC)

• Higher benefit limits (45% increase over last 7 years)

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Higher Benefit Limits

Maximum pension limit

$1,000

$1,200

$1,400

$1,600

$1,800

$2,000

$2,200

$2,400

$2,600

1977 1980 1983 1986 1989 1992 1995 1998 2001 2004 2007 2010

Frozen at $1,722 per year of service for over 25 years

Now $2,494 for 2010

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Ideal Candidates

• Business owners– Key employees

• Incorporated professionals– Spouse’s past service before incorporation

• Age 40 to 71• T4 employment income (dividends do not qualify)• Willing to maximize tax-sheltered retirement savings

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Typical Sales Process

• Introduction of IPP concept to clients / prospects– Using sample IPP illustrations– If interested, get information required

• Review of a customized IPP illustration• Get answers to questions of clients and accountants• Sign documents and open investment account

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Qualities of Great IPP Providers

• Excellent Sales Support services– Before, during and after the sale

• Expertise of IPP team– Able to handle all complex cases– Internal Research & Compliance Team– Pension consulting as plan matures and needs evolve

• Experience in all Canadian jurisdictions

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IPPsIPPsCommon QuestionsCommon Questions

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Past Earnings from Different Companies

• IPP of ABC and affiliated companies• Contributions must be made by companies that paid

earnings– Past service– Current service– Deficits

• Earnings from a company that no longer exists are fine if that company has been merged into a currently controlled company or there was an asset sale

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Transfer of IPP Sponsorship

• From OpCo to HoldCo– Participant must become employed by HoldCo

• From Company A to unrelated Company B– Participant becomes employee of Company B– Assignment agreement

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Transfer of Pension Plan’s assets in new IPP

• IPP sponsor must be a bona-fide company generating revenues

• Participant’s earnings similar to before the transaction• IPP will be scrutinized by Canada Revenue Agency

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IPPs versus Dividends

• Approaches are about equivalent in terms of tax efficiency• IPP approach becomes more advantageous when

deductibility of IMFs is taken into account– At 2%, the total IMFs for an IPP set up at age 40 may be up

to more than $1.3 million by age 65

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Retirement Compensation Retirement Compensation ArrangementsArrangements

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RCA – Highlights

• Retirement benefits on earnings above maximum covered in an IPP

• Set up by a company for an employee• Contributions are deductible to the Company

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RCA – Highlights

• 50% of contributions and realized investment income must go to a Refundable Tax Account– Objective: minimize realized investment income

• Can put conditions for admissibility to benefits– Great tool for key employee retention

• Funds are creditor protected

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RCA – Flow of money

CompanySplits tax deductible contributions equally between

RCA TrustRemits 50% of realized income

Refundable Tax AccountRefunds 50% of benefits paid

to RCA trust

ParticipantReceives taxable RCA benefits

Pays benefits to Participant

Questions ???

[email protected]

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Individual Pension Plans - CIFPs · RCA – Highlights • 50% of contributions and realized investment income must go to a Refundable Tax Account – Objective: minimize realized