Saving strategically for retirement March 2014

by Gavin Graham, Chief Strategy Officer April 03, 2014
The old cliché about the only two certainties in life being death and taxes are almost inevitable in any discussion on pensions. In particular, our prevailing preoccupation with financial security at retirement is rooted in the realization that we are in fact living longer coupled with the uncertainty surrounding the adequacy of our retirement savings in relation to our specific needs at retirement. How does one strategically save adequately for retirement while minimizing the taxes they pay? While actuaries can, using sound actuarial principles and assumptions, make pretty accurate estimates of the amounts needed to fund a comfortable pension, variances in actual realities such as life expectancy and interest rates do exist. This is what makes reaching a comfortable retirement destination challenging. The answer? Careful planning is required to charter a route that effectively marries your retirement expectations with the right savings and tax sheltering strategies to get you to your destination. At issue to consider are: How much is enough savings to satisfy your projected retirement needs? What tax sheltering strategies should you employ in the accumulation stage? How will your pension be taxed on payment? What retirement savings vehicle is best suited to your plan? These are the thoughtful questions that ought to be considered when planning for your retirement. In fact, it is at this juncture that the INTEGRIS Personal Pension Plan (PPP) would be introduced into and benefit this conversation.

Over time, governments of developed countries have introduced tax advantaged savings options to encourage individuals to make provisions for their old age and therefore not be a financial burden on the government. Most of these pension options are unfortunately outdated and inadequate then as they are now, having been introduced in the late 1800s and early 1900s. In fact, at a time when the average life expectancy was 60 - 62, these pension plans were thoughtlessly designed to start paying out at age 65 to the working men and women. Clearly, as health standards have improved over time, working conditions have become less dangerous and life expectancy has risen sharply, the cost of these universal pension plans have become increasingly higher and harder to bear. Governments have therefore had to adopt the stance of encouraging individuals to play a more active role in saving for their retirement. To do this, governments have introduced mechanisms that provide tax break incentives targeted to encourage savings through registered plans such as Registered Pension Plans (RPPs), Registered Retirement Savings Plans (RRSPs) and Tax Free Savings Accounts (TFSAs). The tax-deferred nature of these retirement savings vehicles offer an immensely valuable feature from a taxation perspective, as it allows tax sheltered reinvestment of dividends and interest on the income and capital gains side. Notably, the INTEGRIS PPP offered by INTEGRIS Pension Management Corp. is in fact an Individual Pension Plan (IPP) which falls under the umbrella of a RPP. However, unlike the conventional IPP which is strictly a Defined Benefit (DB) RPP, the INTEGRIS PPP’s flexible plan design uniquely offers, among other enhancements, both Defined Benefit and Defined Contribution options.

Much like the UK which is attempting to address its perceived shortage of pension saving, the trend in developed economies is to make retirement savings compulsory for all workers without existing pension plans, in the next decade. Of course, trying to persuade twenty-somethings to save for their retirement can sometimes seem to be an exercise in futility, as this would mean shifting their focus from their more immediate priorities as repaying tuition debt, rent and saving for down payment for a house. This also occurs at a time when salaries are relatively low and the pleasures of existence, such as dining out, vacations and accumulating possessions, are major preoccupations. This is both regrettable and entirely understandable; at 25, concerns about what size your pension will be in forty years unfortunately do not rank highly on an average person’s list of concerns keeping him up at night.

Unfortunately for the younger population who may have other priorities, the most effective way of saving for retirement is still to invest as much as possible at the earliest possible stage, as the tax deferred compounding within a pension plan is most effective when it has the longest time to work. It also allows the individual to select a very high allocation to equities which, long term studies demonstrate, produce the highest average annual returns, as the longer time horizon allows the investor the luxury to overcome volatility that may be experienced in the early years.

One of the techniques that have proven to work effectively in saving for retirement is to invest the same amount regularly by dollar cost averaging. It is entirely mechanical and thus removes human emotion from preventing individuals from investing when prices have fallen and investing too much when they have risen. The combination of a relatively early start and dollar cost averaging invested in a diversified portfolio with tax protection will ensure a reasonable amount has been accumulated within a decade or two. Another approach that can be very successful is the one advocated in David Chilton’s financial classic “The Wealthy Barber” which involves “paying yourself first”. In other words, deduct at least 5% and preferably 10% from your pay-cheque automatically, and invest regularly in a tax-deferred pension plan. The INTEGRIS PPP with its flexible tax effective design allows you to do this through its Defined Contribution option.

There are a number of professions such as medicine, dental, law, accountancy, franchises and, of course, traditional small to medium-sized businesses which do not have access to the gold plated defined benefit pension plans available to employees in the public sector and large companies. The INTEGRIS PPP answers this issue and provides a retirement saving solution that goes beyond for these incorporated individuals. It has the same characteristics as these larger solid pension plans, including a wider range of available investments to reduce volatility and improve returns such as private equity, venture capital and real estate. Members also benefit greatly from annual actuarial valuations, robust creditor protection, tax deductibility of investment fees and the unique ability to vary contributions dependent upon cash-flow and market conditions.

Undoubtedly, the tax savings and other enhanced benefits realized from a conversion to an INTEGRIS PPP do cover the costs associated with making the change and fees for the first few years. Not only is the overall status of the retirement plan improved, but the tax deductibility of the plan expenses results in a substantial gain over what would be achieved using the traditional tax deferred plans such as RRSPs. Reducing expenses is often claimed to be the most effective way to boost returns, as it is a controllable cost. Tax deductibility is carrying this principle a stage further, so regardless of the cost of the underlying investments in a plan and whether they are actively or passively managed, an investor with an INTEGRIS PPP will end up with a larger amount in their pension plan. This will then ultimately alleviate the stress of wondering whether the individual has saved enough for his retirement in a tax effective manner.

Clearly, the choice of retirement vehicle lies at the heart of addressing the issues of planning a desired retirement lifestyle, determining how much one needs to save to meet their retirement needs, and the tax strategies one needs to employ within this framework. In examining all available options, practical imperative demands a solution that considers both the current pre-retirement reality in the pension accumulation stage as well as the post retirement projected circumstance. The desired retirement solution must of course work in harmony with both stages. Such a solution resides in the INTEGRIS PPP, which provides an attractive value proposition through its innovative plan design, robust compliance and administrative framework and its end-to-end member-centric support system.