Pensions: Surprise millionaires - MoneySense

Pensions: Surprise millionaires

How much is a good pension worth? More than you’d think. Middle class civil servants John and Susan have never made more than $100,000 each, yet their combined pensions will be worth more than $3 million.


You’ve likely heard a lot about our pension system troubles, and you may be wondering what all the fuss is about. After all, we still have our RRSPs, right? That’s true, but an RRSP is no replacement for a good pension. You’ll see what I mean once you meet Susan and John Peterson. They’re a typical upper middle class couple working in the civil service­—and their combined pensions are worth a staggering $3 million.

The Petersons have done a lot of smart things to prepare for retirement, but their biggest financial advantage is the fact that they are both long-term public employees. That means they’re both entitled to exceptionally generous employer pensions, fully indexed for inflation, even if they retire in their mid-50s.

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John is about to retire at 56, after 31 years in the federal public service. Susan, now 53, is planning to retire in about two years, at which time she will have spent 34 years in the federal public service (we’ve changed both their names to protect their privacy). Both earn between $90,000 and $100,000 a year. They are entitled to retire early with no pension reduction because they will have both reached age 55 with at least 30 years of service. The result? They expect their employer pensions to pay them a combined $120,000 a year by the time Susan retires. And that doesn’t include Old Age Security (which isn’t paid until they’re 65) or income from their investments.

You will doubtless recognize that’s a lot of money. In last issue’s column, I mentioned that the median retired couple in Canada spends about $40,000 a year. We picked $100,000 as the annual amount you would need for a “deluxe” retirement. That means that the Petersons will enjoy a super-deluxe retirement, with three times the median amount to spend.

To fully appreciate the value of their $120,000 annual pension income, consider how much money you would need to save to match that without an employer pension. Assuming that you and your spouse are entitled to about $30,000 a year from the Canada Pension Plan (CPP) and Old Age Security (OAS) at age 65, that means that you would need another $90,000 in retirement income to recreate the Petersons’ employer pensions. Research shows that if you retire at 65 (not 55 or 56 like the Petersons) you would need a nest egg that’s 25 times the annual amount you plan to withdraw to ensure little risk of ever running out of money. In that case you would need to save up a whopping $2,250,000 to fund your retirement. But if you wanted to retire early like the Petersons will, research suggests that you should multiply your cash flow needs by about 33. That means you would have to save up more than $3 million. And if you did, you still wouldn’t be making quite as much as the Petersons, because they have other investment income and eventually they’ll collect OAS as well.

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Now it should be said that the pensions the Petersons are getting are the crème de la crème. Not only are they defined benefit (DB) pensions, meaning that their retirement income is based on their years of service and salary, not on how their pension fund investments actually perform, but both pensions are indexed for inflation too. Outside of the CEO suite, only the government is handing out pensions like that these days. But it’s still an eye-opening example of just what is being lost as defined benefit pensions become more and more scarce.

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The surprise value of Petersons’ pensions is also a good example of how misleading appearances can be when it comes to wealth. Susan and John have always been quite well off, but in retirement, they’re going to live like multi-millionaires, all because they opted for government jobs.

“All these years I’ve had friends in the private sector say ‘you’d be making so much more money outside the government,’” says Susan, whose friends include high-flying private sector professionals. But in retirement, the tables will be turned. “They draw very good salaries. But I’d be willing to bet the more cautious route [of working for the government] will win out in the end.”