What Are Your Options When You Cease Participating In A Defined Benefit Pension Plan?
When members of defined benefit pension plans leave or lose their jobs, they have two choices:
- keep their rights to a deferred pension; or
- transfer the current value of their pension.
Given that the pension amount transferred may be substantial, the member must give this decision careful consideration.
If the pension is transferred, its value (the “transfer value”) must be placed in a locked-in registered retirement savings account. It may be a locked-in retirement account (LIRA) for companies under provincial jurisdiction, or a locked-in RRSP for federally regulated companies. However, if the amount exceeds a tax threshold, the excess amount cannot be transferred to a LIRA or locked-in RRSP and will be taxed immediately.
Life expectancy: a key factor
The member’s choice depends, above all, on the fact that the member has to assume the risk that he will outlive his capital and financial market risk. A person with a shorter life expectancy should not hesitate to favour the transfer value. If the asset value is rather low, the risk of opting for the transfer value is quite low.
Conversely, individuals nearing the end of their careers, who will rely solely on their pension for retirement income, should think twice before opting for the transfer value. This is even more important if they have limited investing knowledge.
Other factors to consider
To make an informed decision, it is important to know the advantages and disadvantages of transferring the value of the pension. In general, this option is best for individuals who:
- have a good tolerance for risk and are comfortable with having large equity holdings over the long term;
- are not concerned about life expectancy;
- do not have to pay a substantial amount in taxes immediately on the transfer value;
- are almost 65 or older or the spouse’s income is high;
- have other substantial cash assets or regular income.
An advantage of deferring the pension is that it allows splitting pension income even before age 65. However, if an employer decides to enhance or improve a pension, a person who opts for the transfer value may lose out on such enhancements.
One of the disadvantages of the deferred pension is the plan’s solvency ratio. If the plan’s cash assets are insufficient, the transfer value of the pension is reduced accordingly. The amount cut is usually payable in future years, depending on the plan’s financial health.
Liquidation of a pension fund in Quebec
If a pension fund is liquidated, the members of registered retirement plans in Quebec have an additional choice. In fact, for plans that terminate before January 1, 2014, contributors can ask the Régie des rentes du Québec (RRQ) to administer the fund for a maximum period of five years in the hope of a rebound. The pension amount would then be recalculated based on the growth of the fund and paid to members. The RRQ guarantees that the pension will never be less than the one that the member would have received when his employment was terminated.
For more information
Want to learn more about the issues to consider when deciding between the pension and the transfer value? The Draw Your Defined Benefit Pension or Transfer its Value? The capsule, available on the flash RetirementQuébec website provides a comprehensive review of the question. For personalized advice, talk to you advisor.