The Hidden Risk In Your Pension

I have been working on a retirement income / estate plan recently and it once again points out the risk in a pension if someone dies near retirement. It involves the difference between the commuted value of the pension and the discounted present value of the pension should you have lived.


Someone is entitled to a pension at age 65. For simplicity assume no inflation protection and no survivor values. If their pension would be $4,000 per month when they reach 65 and they are now 60, there is a material gap in the values.

Present value of the pension at 65, assuming a discount rate of 3% is $810,000. The commuted value of the pension is less than $400,000. That difference effects the rest of life for the survivor. They would receive the commuted value by transfer to their RRSP and in 5 years it would be $465,000 at the same 3%. That would buy a pension of a little less than $2,000.

The $2,000 a month loss of pension value coupled with losing 40% of the deceased Canada Pension, (maybe all of it if the survivor is already at the CPP maximum) and the loss of Old Age Security for the deceased could amount to a crippling sum. Worse yet all investment income and RRSP income now stacks on a single return with seriously adverse tax consequences plus the greater likelihood of breaching the threshold for OAS Clawback. In the case I am working on, the effect in the final estate is a reduction of more than $1.5 Million dollars.

What it means

Many people believe their life insurance needs shrink as they grow older and many do. Many, but not all. If there is an employer pension in your future, you should address the risk of losing much of the value of that pension.

People underestimate the price of stacking income. Combining RRSP and investment income is always at the top end of your tax structure. In the case at hand the income costs between 45 and 50% including clawbacks instead of an average rate, if the person had lived, closer to 30%.

The takeaway

  • Understand how defined benefit pensions work in the ten years or so before retirement
  • Understand how government benefits work
  • Notice that cost of living falls too and will offset some of the losses.
  • Life insurance can provide a way to mitigate the losses.
  • The premium for that life insurance is not the cost. The problem of losing money the client needs is the cost and the insurance premium is a way to minimize that loss.

People want help discovering problems they did not know they had, providing efficient solutions to those problems, and help monitoring the ongoing situations.

On the plus side, older clients listen, make decisions, and are more loyal. There is always the chance they can refer you to their children and other family members.

Look for surprises that are easy to explain.

I help people have more income and larger, more liquid estates.

Call or email in Canada 705-927-4770

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