The Canada Pension Plan (CPP) is one of the two major components that make up the Canadian public retirement income system. Both programs were introduced in the decades following the Second World War. The post-war prosperity saw the baby boomer demographic explosion, unprecedented economic growth, and substantial growth of the middle class in the Western world. These programs were essential in guaranteeing a social safety net for an increasingly prosperous population in the second half of the 20th century.
Today, I want to discuss changes to the CPP and explore why a new generation of Canadians is in a great position to take advantage of these tweaks. Let’s jump in.
How the CPP has changed from its inception to recent reforms in 2017
Prime Minister Lester B. Pearson and the ruling Liberals established the CPP in 1965. Since then, the system has undergone many tweaks and reforms to ensure that it can effectively cater to Canadians in the present day. For example, in 1996, another Liberal-led government determined that the original 3.6% contribution rate was insufficient to service the country’s aging population. Moreover, it shuttered the outdated “pay-as-you-go” structure.
In 2017, yet another Liberal-led government introduced the most radical reforms to the CPP in decades. These reforms aimed explicitly at providing more income for Canadians when they reached retirement. Defined-benefit pension plans have undergone a significant decline for working people over the past several decades. Acknowledging this, the federal government moved to assist its citizens. While Canadians of all ages should be pleased with this, it is young investors who are set up to gobble up the greatest rewards.
Here’s why young investors can take the most advantage of the CPP enhancement
The 2017 CPP reforms kicked into effect in 2019, and the changes would be implemented over a seven-year period. From 2019 to 2023, the first additional CPP component was introduced. For this portion, the contribution rate for Canadian employees was phased in by one percentage point on earnings between $3,500 and the original earnings limit. That meant the employer/employee rate could increase from 5.1% in 2019 to 5.95% in 2023, and the self-employed rate could jump from 10.2% to 11.9% over the same stretch.
In 2024, the second additional component will be introduced. This will introduce a higher earnings limit, allowing the CPP to protect a higher portion of your overall earnings. This establishes two different ranges of earnings that are now protected by the CPP: the original range that covers the original limit, and the additional range that covers earnings between the original limit and the new one.
This combination will allow Canadians to receive retirement pensions that are 33-50% higher. However, there are caveats. The maximum retirement pension will increase by 50%, but it will require 40 years of contributions at the new maximum rate. Young investors have reason to celebrate a much-needed change that should provide additional security.
Young investors: An alternative for building a nest egg without relying on the CPP
The CPP enhancement is a laudable reform from the federal government. However, young investors cannot rely solely on the public retirement income system. Instead, Canadians just starting their careers should seek to build a nest egg of their own. Young investors can earn tax-free capital gains and tax-free dividend income in registered accounts like a Tax-Free Savings Account (TFSA) or a Registered Retirement Savings Plan (RRSP).
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