In Canada, who is speaking for the low income Canadians? Who is speaking for example for the minimum wage employee stress fully working in a call center? Who is looking after their future? The answer is simple and it is no one. Low income Canadians have become a political nullity and through this political status they are on the verge of becoming a social nullity. Our retirement system has created a pension gap and deficit so great that it will ultimately rewrite the financial geography of Canada since it supports the discrimination of low income earners who are significantly more represented in rural regions of Canada.
The C.D. Howe Institute recommended in its June 4th report the lowering of the amounts that must be withdrawn each year from a registered retirement income fund (RRIF). This would confer a rich taxable advantage available to only those who can afford to not take the minimum withdrawal required. It did not take long for main stream Medias to jump on the story recommending to readers that they write the Finance Minister to convince him of the necessity of this change. I am not against the recommendation of the C.D. Howe Institute and I would agree that the RRIF minimum withdrawals must be revisited at older ages (90+). What I don’t agree is that this is a priority. It should not be a priority until we have addressed our discriminatory retirement policies towards low income earners. Below I have illustrated three example of how our retirement benefit system discriminates against low income earners and condemns them to a life of retirement poverty. This is only a sample. (There are many others discriminatory tax practices such as low corporate tax rates and employment subsidies that allow big corporations to offer pension plans to their business employees mainly residing in large cities while small businesses that are the life and blood of rural Canada are discriminated against and unable to offer pension plans to their employees)
1. RRSP Contribution limits: From 2005 to 2014, contribution limits for high income earners have increased from $16,500 to $24,930 while the poor have been limited since 1991 in their contribution to 18% of income. So for someone who has been earning $25,000 for the last 10 years, his contribution limit has been capped to $4,500 while someone who is making more than $100,000 has seen his contribution limit increased by $8,430 (a 50% increase). Is this fair? I can hear your answer. “He is only making $25,000; he does not need more room since he won’t be able to use it.” Is this our call to make? Unused contributions can now be accumulated and the high income earner has the ability to accumulate $8,340 more contribution room every year while the low income earner gets nothing. What if tomorrow this low income earner after working during the day and going to school at night is able to find a job at $50,000, can he correct his retirement deficit? What if he gets an inheritance?
The answer is negative and he is condemned to work out a retirement plan based mostly on $25,000 income condemning him to a life of retirement poverty. Since the percentage of 18% does not change, through inflationary pressure, his real accumulation RRSP room is actually decreasing…
2. RRSP logic decision matrix: Decision matrix measures logical outcomes and it is therefore interesting to apply such matrix to the taxation of registered savings depending on whether you are a high income earner versus being a low income earner. We will measure outcomes depending on marginal tax rates applicable at retirement versus existing marginal tax rates.
Marginal tax rate at retirement——–Higher——–Same——–Lower
High income earner————————-unlikely——Draw———Wins
Low income earner————————–Loses———Draw———unlikely
For example if you are resident of Ontario and earn less than $40,120, you have the lowest marginal tax rate. If you invest in a RRSP, at retirement (if the tax system remains the same), you will be taxed at the same marginal rate even if your retirement income is less and you will be taxed more if you take more at retirement than if you had spent the money. So the outcome is either a draw or a loss. For the high income earner at the highest marginal tax rate, his options are quite more flexible. He can take the same level of income to sustain the same lifestyle and he loses nothing since the marginal tax rate will be the same as if he had spent the money. Or he can engage in creative tax planning and lower his reported income and suddenly he wins because the money is taxed at a lower marginal rate than if it had been spent. So the outcome for the high income earner is either a draw or a win.
So how does this plays out in real life? Well let’s assume the low income earner dies (low income earners do die after all). If the RRSP funds cannot be rolled over into another RRSP, the value of the RRSP must be taken in income pushing the low income earner into the highest marginal tax rate. So here we have the little person, the poor person who has struggled to save money in his RRSP while earning $25,000 benefiting only of the lowest tax refund from the lowest marginal tax rate and he will be taxed like he has been earning over $100,000+ all of his life. What if suddenly he becomes disabled and need a large lump sum of money? Why should he be taxed at high marginal rate? Is this fair? Who is speaking for him? This is simply theft.
3. Taxation of life expectancy: In our article, we reviewed changes to the taxation of prescribed annuities which will have a tremendous impact on old seniors who will be on guaranteed income. The article: https://911insurance.wordpress.com/2014/07/25/proposed-changes-to-prescribed-annuity-taxation-the-truth-is-in-the-numbers/
We were very disappointed by the response of financial advisors and other industry participants to our concerns about the unfairness of this increase in taxation. We wish that financial advisors be as vocals regarding updating tax laws in regards to their wealthy clients who participate in tax avoidance. An additional concern to the taxation of life expectancy is what happens when the difference in life expectancy between the rich and the poor is increasing. We make the hypothesis that the poor is subsidizing the rich; lowering their taxation by reducing the overall life expectancy of the general population.
Let’s demonstrate this by making some assumptions. Studies have revealed and demonstrated that there is a 5 years difference between life expectancy of the rich and the poor for age 80 (while we use a simplistic scenario, the logic still holds)
—————1971 table——2002 table——real life expectancy
Taxable income to be reported
—————(1971)Tax paid—(2002)Tax paid—(real) Tax
Currently prescribed annuities are taxed using 1971 mortality table whether you are rich or not. So the income you most report is $153 (based on a $100,000 annuity, 0 guarantee, and life payment of $12,653). However life expectancy have changed as per the 2002 table so now whether you are rich or poor you will have to report an income of $2653. But if you are rich, this is still a bargain since your life expectancy is not 10 years. It is in fact 12 years (a 5 year difference with the poor). So if the poor were excluded from the life expectancy table, the rich would have to report a taxable income of $4319. So the rich are profiting from the poor health of the poor. For the poor the situation is worst. Based on 1971 table they had to report an income of $153 even if based on their real life expectancy they should have reported no income. But under the 2002 table they now have to report $2653 when really they should not be reporting any income based on their real life expectancy since the probability is that they will receive only the capital back before their death. Is that fair?