Locked-in plans require careful thought

Employees who retire, terminate their employment early, or find their pension plan being discontinued need to make some important decisions.  Some pension plans are being closed and employees have the “lump sum” or “annuity” option.  Other people are faced with a difficult choice, which we discussed in our last article.  Do you take a lump sum of money from the pension today, purchase an annuity, or wait to receive a monthly cheque at retirement?

The lump sum option allows the fully vested (owned) pension benefits to be transferred to a locked-in registered plan.  This article focuses on lump sum transfers to locked-in accounts.

So, what is a locked-in account?  This type of investment account is registered and is one where the plan issuer signs an agreement with your employer to “lock-in” your pension plan proceeds until retirement.  A lump sum from your pension plan is transferred into the registered locked-in investment account.  The age at which the funds may be released, and to what uses they may be put, vary with the pension legislation governing the plan.  Any amounts earned by the plan also become locked-in.

Withdrawals are generally not allowed from Locked-in Registered Savings Plans (LRSP) or Locked-In Retirement Accounts (LIRA), except in limited circumstances such as shortened life expectancy, small balance or financial hardship.  The governing legislation controls these funds, even though the employee can invest them as they wish (similar to an RRSP).  Some provinces have been changing their legislation with respect to locked-in accounts.

Governing Jurisdiction

Knowing the jurisdiction of your pension will assist your financial advisor in setting up the correct account.  In B.C., locked-in accounts are generally referred to as Locked-in Registered Savings Plans (LRSP).  In Alberta, Saskatchewan, Manitoba, Quebec, New Brunswick, Ontario, Newfoundland, and Nova Scotia these accounts are referred to as Locked-In Retirement Accounts (LIRA).

Company pension plans in Canada can be established and registered under either provincial or federal legislation. The legislation governing an individual’s funds must be established upon opening the locked-in plan, as this will determine what type of plan will be opened. The pension plan administrator or the financial institution transferring the funds should provide the information necessary to correctly identify the jurisdiction governing the funds.

Provincially Regulated Pension Plans

Most pension plans are established under provincial legislation. For all provinces and territories except Quebec, the province in which the client resides on the date they terminate employment determines the governing jurisdiction, which may in fact differ from the jurisdiction in which the company is registered.

For example, a person living in Ontario the day they terminate their employment will have their funds under Ontario jurisdiction. Even if this person moves to British Columbia and transfers their pension funds, the client must open a LIRA (the name for a locked-in plan for Ontario) and not an LRSP because the funds are still under Ontario jurisdiction.

Federally Regulated Pension Plans

For federally regulated pension plans, the person’s governing jurisdiction is Canada regardless of place of residence. This applies for crown corporations or companies under federal charter.  A person living in Alberta (which offers LIRAs) who has federally regulated funds will be required to open an LRSP, since federally regulated funds require LRSPs and not LIRAs.

Maturity Options

The earliest age in which you may transfer your LRSP or LIRA into an income account (LRIF or LIF) varies by province. The governing jurisdiction also dictates the minimum age when a client can transfer their locked-in funds.  Similar to an RRSP, locked-in accounts must be converted into an “income account” or a life annuity in the year individuals turn 69.   The 2007 Federal budget proposes to extend this conversion to when the taxpayer reaches the age of 71.


The minimum and maximum withdrawal amount will fluctuate from year to year and is based on the year-end value.  The year-to-year amount will vary depending on the amount of money you withdraw, the income your plan earned and any market fluctuations that may occur.  A LRIF/LIF is similar to a RRIF in that the holder is required to receive a minimum payment out of the plan each year.  The minimum payment levels are calculated using the same method used for RRIF payments.  Additionally, these accounts are subjected to a maximum withdrawal limit. The maximum amount is established by a formula, which takes into account a discount factor and the person’s age.

In the first year an LRIF/LIF is opened, there is no minimum withdrawal required; however there is still a maximum allowable payment. This maximum is pro-rated for the number of months, including the month of transfer into the plan that is remaining in the year.

Transfer Process

Moving from a Registered Pension Plan to a locked-in plan is usually straightforward.  The first step begins with opening a self-directed locked-in registered account.  The institution name and account number will be required to complete the forms provided by your employer.  Typical forms may include a cover letter with the estimated pension value, Canada Revenue Agency forms (i.e. T2151 for direct transfer and T2037 for purchase of annuity) and a locked-in agreement.  Your investment advisor should be able to assist you with completing these forms in conjunction with setting up the appropriate account.

Cash Transfer

Lump sum pension transfers to a locked-in account generally take two to four weeks and come in as cash.  During the transfer period we recommend that individuals meet with their advisor and begin planning their investment portfolio.  For many people a lump sum transfer from their registered pension plan represents the most significant portion of their retirement savings.

Before making a final decision we recommend that you speak with your professional advisors.


Looking at retirement options

Retiring employees and those who change careers or are displaced for various reasons are often faced with some difficult decisions, because how they deal with pension plans can have consequences for their retirement

Decisions can be easier if people understand their options clearly and the resources available.  Some may not have a choice with respect to their pension.  But for others the confusion begins when you’re given various options.  Many companies offer employees a choice between taking their pension in the form of a monthly payment or a single lump sum payment.   The following summarizes the two main types of pension plans – defined contribution plan and defined benefit plan (also known as money purchase).

Defined Contribution Plan

The contributions into this type of pension plan are established by formula or contract.  Many defined contribution plans require the employer and/or employee to contribute a percentage of an employee’s salary each month into the pension fund.  The employer does not make a promise with respect to the amount of retirement benefits.  The key point to take away is that the employee bears the risk of pension fund performance in a defined contribution plan.  We encourage individuals to take advantage of any pension matching your employer may offer.  With this type of plan employees are generally given a choice amongst different types of investments (i.e. conservative, balanced, aggressive).

Defined Benefit Plan

With a defined benefit plan, the employer is committed to providing a specified retirement benefit.  The benefit is established by a formula, which normally takes into account the employee’s years of service, average salary and some percentage amount (usually between one to two per cent). The key point to take away is that the employer bears the risk of pension fund performance.  Another key point is that the employee is able to calculate their benefit with more certainty then a defined contribution plan.

Monthly amount

Those with a defined benefit plan know with more certainty what their monthly payment amount will be, providing benefits for financial planning.  The end benefit is less known for people with defined contribution plans.  A key question to ask yourself:  “Is the pension your primary asset or main source to fund retirement?”  If the answer is yes, then we would encourage most people to take the monthly pension.  If your pension is not your primarily asset or you have multiple sources of income then leaving the fund and receiving a lump-sum may make sense.

Lump Sum

Choosing this option means that the monthly pension is forfeited.  For defined benefit plans, the intent of the lump sum option is to give the employee what is known as the present value (or commuted value) of the monthly pension amounts that would otherwise be received.  The calculation, which is usually made by an actuary, makes assumptions about life expectancy and inflation and uses a discount factor to determine what the lump sum equivalent should be. The lump sum amount is meant to represent the effect of receiving a lifetime worth of pension payments (from retirement to death) all at once.  It is important to note that individuals that leave the pension and receive a lump sum, may purchase an annuity with some or all of these funds.

Helping You Decide

The following are some factors to consider when deciding whether to stay with the pension, purchase an annuity or take the lump sum.

Retirement Planning:  Determining what you would like from your retirement may assist you in making the decision.

  • Is the pension your primary asset?
  • Would you lose sleep worrying about managing a lump sum?
  • Will the fixed monthly amount cover your monthly cash flow needs?
  • Are you concerned about outliving your savings?
  • Do you like the idea of managing your finances at retirement?
  • What other sources of income do you have to fund your retirement?

Investments:  Some people may want the freedom to choose their own investments while others may choose the hands off approach.

  • How are the funds currently being managed?
  • If you chose the lump sum would you manage the funds yourself or obtain assistance from a financial advisor?
  • How much risk are you willing to take with your investments?

Pension Benefits:  Many employers provide individuals that choose to stay with the pension a few other benefits that should be factored in.

  • Do you have a defined benefit plan or a defined contribution plan?
  • How long have you been a member of the pension plan and how is the pension formula calculated?
  • Is the monthly pension indexed?
  • Does the monthly pension option provide medical, dental or life insurance coverage?

Tax Consequences:  Major decisions relating to your pension should be discussed with your accountant.

  • Are there any immediate tax consequences?
  • Are any retiring allowances transferable to your RPP or RRSP?
  • How will the choice of options affect future income taxes?
  • Is it possible to split any income? (Note:  the Federal Finance Minister’s “Tax Fairness Plan” announced on October 31, 2006 outlines what income is eligible to be split)
  • Are you single, married or living common-law?
  • Does your pension provide a benefit to your surviving spouse (if applicable)?
  • Is leaving an estate important to you?
  • How close are you to retirement?
  • Are you in good or poor health?
  • Are you likely to get full value from a monthly pension?

Estate Planning:  Individuals interested in leaving an estate may feel the lump sum offers more advantages.

Life Expectancy:  This is perhaps the most important component to the decision making process.  Most people normally begin the decision process by doing a few calculations.  With every calculation people would have to make assumptions with respect to life expectancy.  If you were to live to an old age, significant value may be obtained by leaving your funds in a defined benefit plan or by purchasing an annuity with lump sum proceeds.

Spending the time to think about the above issues will allow you to have a more productive discussion with your professional advisors prior to making any decisions.  The choice people make with respect to their pension is one of the most important financial decisions they need to make.


Annuities ensure you won’t outlive your savings

Investors who are turning 69 that are looking to generate retirement income have a few options with respect to their maturing Registered Retirement Savings Plan (RRSP). One is to purchase an annuity that will provide you with a steady stream of income. Individuals intrigued by this option should obtain an understanding of the features and the types of annuities available.

An annuity allows you to invest a lump sum with an insurance company in return for a predetermined income stream. Income received from an annuity purchased with registered assets is 100% taxable, as is the case with any income drawn from a registered account.


Individuals who purchase life annuities will receive an income for the remainder of their lives. This is wonderful if you live to an old age. But what happens to your investment should you die within a short period after paying this lump sum amount for a lifetime of income? To protect against such a loss, you can add a minimum guarantee to the payment period (normally 5, 10, 15, or 20 years). If you, the annuitant, dies, your spouse may elect to have the payments continued. Otherwise, a lump sum, determined by a present value calculation, would be paid. The maximum guarantee period, however, cannot extend beyond age 90. Of course there is a catch – the greater the guarantee period, the lower your payment will be.

There are three general kinds of annuities that are purchased from registered plans:

Term-Certain to Age 90

  • Payable to you or your beneficiaries, until the annuitant reaches age 90.
  • Regular payments can be monthly, quarterly, semi-annually, or annually.
  • Payment amounts are determined at the time of purchase.

Single Life Annuities

  • Provides you a guaranteed income for life regardless of the age to which you live.
  • May purchase an annuity with guarantee periods to a maximum of age 90 where the payments are guaranteed for the latter of the guaranteed period or your lifetime (if death occurs during the guaranteed period, the commuted value will be paid to the beneficiary).
  • With the exception of annuities purchased with a guaranteed period, upon death of the annuitant, payments will terminate, with zero value going to the beneficiaries.
  • Payments are generally level for the remainder of your life or can be indexed at a pre-selected rate.

Joint and Last Survivor Life Annuities

  • Payable as long as either you or your spouse is alive.
  • Provides guaranteed income for life for you and your spouse.
  • Similar to a single life, you can select a guarantee period and payments are guaranteed for the latter of the guaranteed period or life for you and your spouse.
  • If both you and your spouse die during the guaranteed period, the commuted value will be paid to your beneficiary.
  • You also have the option of continuing full payments to the surviving spouse or selecting a reduced income stream on the first death. However, this option must be selected at the time of application.

Interesting points to consider

  • It is possible to go from a RRIF to an annuity but it is not possible to go from an annuity to a RRIF (if individuals are undecided we recommend converting to a RRIF until you can make a definite decision).
  • It is possible for you to convert your RRSP to an annuity prior to age 69. An individual may want to do this to take advantage of the pension tax credit available at age 65. The good news is that the federal government increased the pension tax credit to $2,000 per year in 2006 (up from $1,000 in 2005).  This means that your taxable income may be reduced by this credit.
  • Assets in any registered retirement account, including your registered pension plan (RPP), can generally be used to purchase an annuity. Often individuals that leave a place of employment will have the option to transfer the RPP to a locked in RRSP.  In many cases purchasing an annuity with this amount may be a good option, especially if the pension tax credit can be utilized.
  • The advantage of an annuity is that payments are guaranteed. This is particularly advantageous in the case of a life annuity where the individual lives beyond the age under which RRIF funds would have been exhausted.
  • Annuities generally appeal to conservative investors who like low maintenance and guaranteed investments.
  • When purchasing an annuity investors should note that control of assets and participation in future market growth is relinquished, and that annuities are not flexible – once purchased, they generally cannot be undone.
  • Investors should assess the investments within their RRSP. Some investments are relatively illiquid or have redemption fees if sold.  In order to purchase an annuity there must be cash available in the account. It may not be prudent to liquidate a portfolio if there are significant penalties to sell any positions.

Many individuals at retirement may feel that a set monthly income to cover fixed expenses for life may form the foundation of their retirement income.  Other individuals may consider an annuity for some of the following reasons:

  • Feel that they are in good health and will live beyond average life expectancy.
  • May be concerned about outliving their savings.
  • Desire to have a fixed income guaranteed for life.
  • Not wanting to make investment decisions.
  • May be nervous about current equity markets.
  • Desire to lock in investments at current rates.
  • Not concerned about leaving an estate to their children or grandchildren.
  • Desire to solidify financial planning, as income amounts are known.

Understanding your investment objectives, estate planning goals and tax situation will help make your RRSP maturity decision easier. To help you with this decision, your financial advisor can help you prepare a cash flow analysis to determine what you think your expenses will be and what sources of income you have to meet those expenses. This would include your RRSP, as well as other investment assets and income sources and your annual cash flow needs, making sure to account for inflation and emergency situations.

All insurance products are sold through ScotiaMcLeod Financial Services* companies. ScotiaMcLeod Financial Services companies are the insurance subsidiaries of Scotia Capital Inc., a member of the Scotiabank Group. When discussing life insurance products, ScotiaMcLeod advisors are acting as Life Underwriters (Financial Security Advisors in Quebec) representing ScotiaMcLeod Financial Services. 

*ScotiaMcLeod Financial Services includes: ScotiaMcLeod Financial Services (Quebec) Inc. and ScotiaMcLeod Financial Services Inc.


A financial habit that sets up steady stream of savings

Many people are used to paying their household bills on a monthly basis, a routine that keeps the lights and other services connected.  But when it comes to savings and investing most individuals have a different approach.  Often savings and investments take a back-burner approach.

The easiest way to implement savings and investments into your routine is to set up a pre-authorized contribution – often referred to as a PAC.  This begins by looking at an investor’s monthly cash-flow and determining a comfortable amount to set aside.

So many financial illustrations trumpet the benefits of contributing early, even if those contributions are smaller.  The compounding effects of investment returns are an important component to consider when developing financial plans.  However, it is important to use realistic return expectations.

Some may be inclined to not do as much due diligence on investments with smaller dollar amounts.  If a PAC is established, it is important to pick a quality investment and to monitor your investment regardless of its initial size.  A quality PAC can turn into a significant nest egg over time.

Last week we mentioned that financial institution generally ask for a void cheque.  The main reason is to obtain the institution, transit, and account numbers required to set up electronic transfers between financial institutions.

With a PAC, a person must make a few important decisions.

Decision 1:  How much can you afford to contribute?  Setting aside ten per cent of your monthly income may be a guideline to get some investors started.  If this amount appears too high then consider decreasing the amount to five per cent or establishing a budget to monitor your monthly expenses.

Decision 2:  How often would you like to contribute?  Most investors who establish a PAC contribute either once or twice a month.  We recommend that individuals consider their cash inflows and match the PAC accordingly.

Decision 3:  What type of investment would be most appropriate to set up as a PAC?  Some investors choose to simply contribute cash into their investment account.  While others may choose to PAC into a money market investment or a mutual fund.  There are a wide variety of investments to choose from.  Some fund companies have established policies where an initial purchase of a set dollar amount (i.e. $500) is required to establish a PAC.

Decision 4:  What type of an account would you like to PAC into?  Many investors choose to PAC into a retirement savings account.  If an investor knows their maximum Registered Retirement Savings Plan (RRSP) deduction limit then a PAC can be set to contribute this amount over the year.  Another example may be parents who want to fund a Registered Education Savings Plan (RESP) through a $50 a month PAC.

Simple Strategy:  Investors can ease the cash flow burden of trying to come up with their RRSP contribution limit every tax season.  Let’s consider an investor that has a $16,000 RRSP contribution limit for the upcoming year.  For this investor we recommend multiplying their RRSP deduction limit by 75 per cent and dividing by 12 to obtain the monthly PAC amount of $1,000.  In either January or February of the following year, the investor could utilize their line of credit or obtain a short term RRSP loan to contribute another $4,000 to top up to the maximum.  After filing the tax return, the combined RRSP contributions of $16,000 may provide enough of a tax refund to pay off the short-term loan or line of credit.  This of course assumes that sufficient tax was withheld on other sources of income throughout the year.

PAC Changes

It is important to note that a PAC can be cancelled or changed at any time.  This may include changing the investment selection, frequency or dollar amount.

Most individuals find that after a few months they do not even notice the monthly amount being transferred from their bank account to their investment account – it has become as routine as paying the power bill.