If the federal and provincial governments decide to increase mandatory contributions to the Canada Pension Plan (CPP), Canadians may, in turn, reduce voluntary contributions to RRSPs, according to a study.
The Fraser Institute study, RRSPs and an Expanded Canada Pension Plan, examines data from the Canada Revenue Agency on CPP and RRSP contributions between 1993 and 2008 to explore what happened to voluntary RRSP contributions when mandatory CPP contributions increased.
“Increasing mandatory CPP contributions is a policy reform that may have unintended consequences,” says Charles Lammam, Fraser Institute associate director of tax and budget policy and co-author of the study. “By forcing Canadians to save more for retirement through the CPP, the government inadvertently encourages them to change their behaviour and reduce their voluntary retirement savings elsewhere.”
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The notion of expanding mandatory CPP contributions resurfaced during a December 2012 meeting of provincial finance ministers with their federal counterpart, Jim Flaherty. Following that meeting, the ministers said they would revisit the idea in mid-2013, although a meeting date has not yet been set.
The study looked at historical CPP and RRSP contributions among Canadians in two age groups: those under 45 and those 45 to 65. It also separated each age group into two income groups: $10,000 to $50,000 and $50,000 to $100,000.
Using three different measures, the study consistently found that RRSP contributions declined as mandatory savings to the CPP increased.
For example, the percentage of tax filers contributing to RRSPs in each age and income group decreased as the CPP contribution rate increased.
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While the results are broadly consistent across all age and income groups, the group most likely to be sensitive to changes in the CPP are Canadians ages 45 to 65 with income between $10,000 and $50,000. In 1993, 40.2% of tax filers in this group contributed to RRSPs, with the proportion falling to 33% by 2003—a decline of 17.9%. Over the same period, the mandatory CPP contribution rate almost doubled to 9.9% from 5.0%.
The result is similar when the share of income contributed to RRSPs is examined. For Canadians in the 45 to 65 age group with income between $10,000 and $50,000, the share of income contributed to RRSPs declined to 3.5% in 2003 from 4.4% in 1993. Meanwhile, the share contributed to CPP doubled to 3.0% from 1.5% of income as the government hiked CPP payroll taxes.
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A third measure showed that the dollar value of RRSP contributions per tax filer also decreased as mandatory CPP contributions increased. Again, this was evident across all age and income groups.
He says that while the conclusions drawn from the analysis are not definitive, they strongly suggest that a substitution between CPP and RRSPs occurred in the past when mandatory CPP contributions increased.
“The key to providing retirement income through savings is a set of rules that allows for an optimal mix of savings for different people in different stages of life and with different preferences,” Lammam explains. “There may be benefits to a compulsory expansion of the CPP, but these benefits need to be weighed against the costs, which, as our analysis shows, could include a reduction in voluntary RRSP savings.”