CPP timing: A case study for taking benefits at age 70

Both my wife and I are retired in our 50s and had periods of low CPP contributions because of child-rearing and several years of self-employment.  So, neither of us is in line for maximum CPP benefits.  If we both take CPP at age 60, our combined annual benefits will be $11,206 (based on inflation assumptions described below).

The “standard” age to take CPP is 65.  If you take it early, your benefits are reduced by 0.6% for each month early.  This is a 36% reduction if you take CPP at 60.  If you wait past 65, your benefits increase by 0.7% for each month you wait.  This is a 42% increase if you wait until you’re 70.

However, there are other complications.  If you take CPP past age 60, any months of low CPP contributions between 60 and 65 count against you unless you can drop them out under a complex set of dropout rules.  If my wife and I take CPP past age 65, we won’t be able to use any dropouts for the months from 60 to 65, so we’ll get the largest benefits reduction possible for making no CPP contributions from 60 to 65.  Fortunately, CPP rules don’t penalize Canadians any further if they have no contributions from 65 to 70.

Inflation indexing

Another less well-known complication is that before you take CPP, your benefits rise based on wage inflation.  But after your CPP benefits start, the payments rise by inflation in the Consumer Price Index (CPI).  Over the long term, wage inflation has been higher than CPI inflation.  So, when you start taking CPP benefits, you lock in lower benefit inflation.

In this case study, I’ve assumed 2% CPI inflation and 3% wage inflation.  These assumptions along with the CPP rules and our contributions history led to our annual benefits of $11,206 if we take CPP at 60.

If we wait until we’re 70, our combined annual CPP benefits will be $29,901.  However, don’t compare this directly to the figure at age 60 because they are 10 years apart.  If we take CPP at 60, it will grow with CPI inflation for those 10 years.  The following table shows our annual CPP benefits in the two scenarios: early CPP at 60 and late CPP at 70.

It would certainly feel good to start collecting CPP benefits when we’re 60, but by the time we’re 70, we’d never notice that our payments could have been 119% higher.  That’s why we plan to wait until we’re 70 for our CPP benefits.

A good question at this point is what we’ll do in our 60s without those payments.  We’ve already begun dipping into our RRSPs, and we’ll continue this through our 60s.  We’re happy to spend some of our savings early in exchange for much larger CPP benefits later.

Tradeoff of less CPP and more savings or vice versa

To see why we’ll make this tradeoff, focus on our financial position at age 70.  The choice is to have either small CPP benefits and more savings or large CPP benefits and less savings.  The math says we’re better off with more guaranteed income indexed to inflation than we are to have more savings invested in risky assets.  In fact, when we do an analysis of how much we can safely spend, the decision to take CPP at 70 instead of 60 increases our safe spending level.  It seems counterintuitive, but we can spend more safely now in our 50s because of the decision to delay CPP to age 70.

You might wonder whether you could invest the smaller CPP payments in your 60s to do better than delaying CPP benefits.  In our case, if we live to 90, our investment return would have to beat CPI inflation by an average of 6.3% per year.  If we choose to manage our savings to make sure we have enough to make it all the way to 100 years old, the breakeven return rises to 7.4% above inflation.  There is no way we can be confident of such high investment returns, particularly because much of our assets would be in taxable accounts.  My planning assumption is that our stocks will beat inflation by 4% minus taxes and other costs.  It’s clear that delaying CPP to 70 is the better strategy.

What if Ottawa changes the Rules?

What if the government changes the rules?  That’s certainly a possibility.  The government could choose to cap CPP benefits in the future, which would be bad for those who take CPP at 70.  The government could also bring in wealth taxes, which would be bad for those who take CPP at 60.  If the government ever becomes desperate enough to take away retiree benefits or charge wealth taxes on people who aren’t very rich, I suspect we’ll have much bigger problems than whether we took CPP at 60 or 70.

Although taking CPP at 70 is the right choice for us, there are some good reasons for others to take CPP early.  One reason is if you just don’t have enough savings to get through your 60s.  But, just not wanting to spend any savings isn’t a sound reason.  Another reason is if you’re in poor health and don’t expect to live long.  But just fearing you might die young isn’t a sound reason.  If you’re so sure you won’t make it to age 80 that you’d be willing to spend down all your savings before 80, then taking CPP at 60 is likely for you.  There are other narrow reasons to take CPP early that are mainly due to technical rules about taxes and certain government benefits.

The final conclusion is clear.  We’re better off delaying the start of CPP benefits despite the strong emotional reasons for taking them early.