Ask the Expert: Do I opt out of CPP contributions in 2012?

Question: “Both my spouse and I are 66 and are collecting our CPP. We are both earning salaries in 2012. Our intention is to make this our last year of work with any salary. The question is: Is it worth each of us paying $2,300 in CPP premiums for 2012. By the time the company matches our premiums there is a contribution to the CPP of $9,200. How much does this additional CPP premium contribution for 2012 increase our annual CPP pension?”

Answer: This question is coming up more frequently as our clients get older and the recent rule changes surround CPP. Refer to: http://scpllp.com/2011/10/changes-to-cpp/ for an article on the changes to CPP in 2012. We estimate that the monthly CPP pension would increase by $28/month for both individuals. Both will need to live to age 82. If they invested their money earned 2% after taxes on these savings it would take over 16 years to breakeven on the $9,200. If they can earn more than 2% then the number of years they need to collect CPP increases. Your first reaction is to stop taking salary so they don’t have to pay the CPP, but this might not be the best answer.

The first consideration is the use of salary in tax planning. Salary is deductible by the company and is often used to reduce the company’s taxable income, often to below the small business limit of $500,000. If the company is earning more than $500,000, then you need to look at the company’s need of and use of funds, to determine if it is better to pay a salary or having the company pay corporate taxes. Salary is a form of earned income that helps to generate RRSP contribution room. Salary also qualifies as current service for Individual Pension Plans (IPP) and increases CPP benefits. Earning a salary in retirement can be part of a well executed retirement plan.

The second consideration is the total tax that is paid by both the shareholders and the company. Shareholders have the option of taking dividends in place of salary. The question posed above was really asking, “Is it worth taking a salary if I have to pay $9,200 in CPP?” The payment of a dividend would not require the payment of CPP. There is a basic concept in the design of the Canadian tax system: integration. Integration basically means that the combined personal and corporate taxes should be the same whether the individual is paid a salary, or the company pays taxes and the individual receives a dividend and pays taxes. How integration works is a topic all of its own. Corporate tax rates are significantly less than individual taxes, and both have graduated rates as taxable income increases. The timing and level of income in any year provides the opportunity to minimize these taxes and provide a tangible benefit to the shareholder.
The simple answer to this question was, “It all depends … “

Tags: Ask the Expert, CPP, Owner-manager taxation, Proactive Financial Advice, Retirement planning