A pension plan in Canada is a retirement savings program, often sponsored by an employer, that provides regular income to employees after they retire.
Retirement planning is an important part of personal finance for Canadians, and employer-sponsored pension plans can be an easy and valuable way to build up your savings. They also serve as an excellent perk for companies looking to attract and retain quality talent.
Before taking part in a pension plan, take time to review the information below regarding the different types available and how they work, as well as the pros and cons to consider.
Key Takeaways
- Employers in Canada offer several types of pension plans, including defined contribution, defined benefit, pooled registered, and voluntary retirement savings plans, each with its own structure and benefits.
- Defined Benefit Pension Plans (DBPPs) offer predictable retirement income, calculated using formulas based on salary and years of service, and are fully backed by the employer – even if the plan underperforms.
- Defined Contribution Pension Plans (DCPPs) depend on investment performance, with both employees and employers contributing, but the final payout is not guaranteed and may vary depending on market returns.
- Pooled Registered Pension Plans (PRPPs) and Voluntary Retirement Savings Plans (VRSPs) are low-cost options for self-employed individuals or small business employees who don’t have access to traditional pension plans, though availability is limited by province.
What is a pension plan?
Employers provide pension plans as a way to help employees build retirement income. While it's the employer who sets it up, both employers and employees can make contributions. The funds are usually only accessible once the employee retires.
The two most common types of pension plans are defined contribution pension plans and defined-benefit pension plans.
How do pension plans work?
Employer-sponsored pension plans allow both you and your employer to contribute to a dedicated retirement savings fund, which you'll access once you retire. In most cases, employers are required to contribute, while employee contributions are optional but often encouraged to help grow your retirement income.
Employee contributions are usually directly deducted from their paycheque, making participation very easy.
Pension funds are typically managed by the employer in partnership with an external provider, such as a professional fund manager, insurance company, or financial institution. While investment decisions are generally made by these managers, some plans offer employees limited input or a selection of investment options to choose from.
Defined contribution pension plans
A defined contribution pension plan (DCPP) is a type of employer-sponsored pension plan that tells you exactly how much to contribute. Your contributions are defined, but the precise amount you'll get at retirement is not.
The amount you receive at retirement depends on the total amount contributed by all parties, how the plan was managed, and the investment returns.
Usually, both employers and employees contribute to a DCPP.
Funds in a DCPP are typically managed and invested by a third-party fund manager, but your employer chooses the manager. The employee may have some say in how the funds are invested, but this isn't always offered.
Most often, the investment options include:
DCPP pros and cons
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Defined benefit pension plans
A defined benefit pension plan (DBPP) guarantees you a fixed monthly income in retirement, calculated based on factors like your salary and years of service. If the plan’s investment returns fall short, your employer is responsible for covering any funding shortfall to ensure all promised benefits are paid.
The amount you're paid is determined by using a formula that includes your constitution amounts, your salary, and how long you’ve worked for your employer.
Employers and employees both contribute to a DBPP.
While DBPPs are managed by professional fund managers, the employer is responsible for making sure there’s enough money to pay all members in retirement. If the plan falls short, the employer must make up the difference.
Retirement income amount formulas
There are three formulas commonly used to calculate the retirement income you'll earn with a DBPP.
The final average earnings method uses:
- Your average salary during the five years before retirement
- The percentage of your salary that you regularly contributed to the plan
- The number of years you were a plan member
The formula looks like this:
Salary x Contribution percentage x Years of membership
The career average earnings method uses:
- Your average salary for the entire time you were a plan member
- The percentage of your salary that you regularly contributed to the plan
- The number of years you were a plan member
The formula looks like this:
Salary x Contribution percentage x Years of membership
The flat benefit method uses:
- The fixed dollar amount that you regularly contributed to the plan each year
- The number of years you were a plan member
The formula looks like this:
Annual contribution amount x Years of membership
A DBPP calculation example
Here's an example of how the career average earnings method could be used to determine an individual's pension payments after retirement.
Jessy worked for Tiegan Comp for 25 years and had an annual salary of $70,000. She contributed 2% of her earnings from each paycheque to the company's DBPP.
- Benefit percentage: 2%
- Average salary: $70,000
- Years of plan membership: 25
The calculation would look like this:
70,000 x 0.02 x 25 = $35,000
Therefore, Jessy will receive $35,000 per year from this pension plan during her retirement.
DBPP pros and cons
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Pooled registered pension plans
Small and medium-sized businesses, as well as self-employed individuals who don't have access to typical employer-sponsored pension plans, can take advantage of pooled registered pension plans (PRPPs).
Employers, employees, and self-employed individuals can all contribute to a PRPP.
Only slightly different from regular plans, PRPPs are managed by financial institutions and combine contributions from many members to lower administrative costs.
However, the availability of PRPPs in Canada is a bit limited. They're readily available in Nunavut, Yukon, and Northwest Territories, and they're open to all Canadians who work in federally regulated businesses or industries.
Outside these groups, PRPPS are only available in provinces with applicable legislation. At the time of writing, these are the only provinces with such legislation:
- British Columbia
- Quebec
- Manitoba
- Saskatchewan
- Ontario
- Nova Scotia
Voluntary retirement savings plans
Quebec residents are sometimes eligible for Voluntary Retirement Savings Plans (VRSPs) too. These are very similar to PRPPs and are only available to those without access to employer-sponsored plans. This includes self-employed individuals.
While it's voluntary for those who are self-employed, employers in Quebec who meet these conditions are required to offer a VRSP:
- The company has fewer than 11 employees (over age 18) who've worked there for at least one year.
- The company isn't under federal jurisdiction.
- Employees don't have access to a group RRSP, TFSA, or RPP.
VRSPs are managed by a third-party financial institution and supervised by Retraite Québec.
PRPP pros and cons
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Who manages employee pension plans?
Typically, the employer works with a third-party institution to jointly manage its pension plan(s).
This third-party partner could be any of the following:
- A financial institution
- An insurance company
- A professional fund manager
- A trust
- A consulting firm
What is a workplace savings plan?
Some employers offer a workplace savings plan instead of a pension plan, or they may offer both options. Contributing to this savings plan is optional for both the employer and its employees.
The employer chooses the overall investment options for the workplace savings plan, but employees can choose how their money is invested by choosing from the options provided.
The funds contributed to a workplace savings plan don't have to be used for retirement. They can be used for anything and can (usually) be accessed at any time – though some plans have rules that restrict the employee from withdrawing funds until they leave the company.
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FAQ
How many years do you have to work in Canada to get a pension?
This varies, depending on whether you have a DBPP or DCPP and the restrictions laid out by your plan. Some plans require that you be a member and make contributions for a specific length of time, but not all.
What are the types of pension plans in Canada?
The four types are defined contribution pension plans, defined benefit pension plans, pooled registered pension plans, and voluntary retirement savings plans for Quebec residents. Workplace savings plans are similar but not technically a type of pension plan.
What happens to your pension if you leave your employer?
One option is to leave the money in the pension plan and wait until retirement to receive payments (deferred pension). Otherwise, you may be able to transfer the commuted value to your new employer's plan or to a LIRA.
What is the difference between a pension plan and an RRSP in Canada?
Both are types of retirement savings plans where contributions are tax deductible. Usually, employers manage pension plans and employees have limited investment control. An RRSP is usually self-directed, and gives you full control over contributions and investments.
Does everyone get a Canada Pension Plan?
Anyone who has worked at least one job and made one contribution is eligible to receive Canadian Pension Plan (CPP) in retirement. If you've lived and worked in Quebec, you'll receive the Quebec Pension Plan instead.
How much does a Canadian pension plan pay?
Your CPP payment amounts depend on how long you worked and made contributions, how much you contributed, and the age at which you decide to start receiving payments. In 2024, the max possible payment was $1,364.60/month.
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