Written by: Russ Lazaruk, RIAC, CIWM, WIM, FCSI
Individual Pension Plan (IPP) and Registered Retirement Savings Plan (RRSP) are both retirement savings vehicles in Canada, but they differ significantly in their structure, contribution limits, and benefits. As a Canadian business owner or incorporated professional, choosing the right retirement plan can have significant implications for your financial security during retirement. Let’s explore the differences between an IPP and an RRSP and why an IPP could be advantageous for a Canadian business owner.
1. Definition and Structure:
- IPP: An Individual Pension Plan is a defined benefit pension plan designed for business owners and incorporated professionals. It functions like a traditional company pension plan but is personalized for an individual. The IPP is registered with the Canada Revenue Agency (CRA) and is set up through a corporation that sponsors the plan. It promises a fixed retirement income based on a predetermined formula, considering factors like age, years of service, and average earnings.
- RRSP: A Registered Retirement Savings Plan is a tax-deferred investment account available to all Canadian taxpayers. RRSPs are designed for individuals and allow them to contribute a portion of their earned income each year, up to the contribution limit, to grow tax-free until retirement. The income generated within an RRSP is not taxed until it is withdrawn in retirement.
2. Contribution Limits:
- IPP: The contribution limits for an IPP are higher than those for an RRSP. The maximum annual contributions are based on a pension adjustment calculation, which considers an individual’s age, salary, and years of service. The older the plan member, the higher the contribution limit can be.
- RRSP: The contribution limits for an RRSP are generally 18% of the individual’s earned income, up to a certain maximum amount (which is adjusted annually). The 2023 contribution limit is $30,780. Unused contribution room can be carried forward to future years, allowing for catch-up contributions.
3. Tax Deductibility:
- IPP: Contributions made by the corporation to fund the IPP are tax-deductible as a business expense, reducing the company’s taxable income. This provides immediate tax advantages to the business owner.
- RRSP: Contributions made to an RRSP are tax-deductible for the individual, reducing their personal income tax liability for the year in which the contribution is made.
4. Investment Control:
- IPP: Typically, IPPs are managed by professional investment managers (such as NCP) who duty is to ensure that the plan’s assets are sufficient to meet the defined benefit obligations. This can reduce the investment control of the business owner but offers the benefit of a stable retirement income. IPPs generally have a broader range of investment options than RRSPs.
- RRSP: Individuals have more control over their RRSP investments and can choose from a wide range of investment options, including stocks, bonds, mutual funds, and other financial instruments.
5. Creditor Protection:
- IPP: Assets held within an IPP may have a higher level of creditor protection compared to RRSPs. This varies depending on provincial regulations and individual circumstances.
- RRSP: RRSPs enjoy some level of creditor protection, but it can vary depending on the province and the nature of the creditor claim.
6. Pension Security:
- IPP: Since an IPP provides a defined benefit, the business owner has the security of knowing the retirement income they will receive, regardless of market fluctuations or investment performance.
- RRSP: RRSPs are subject to market risks, and the eventual retirement income depends on the investment returns achieved within the account.
Why Canadian Business Owners Would Benefit from an IPP:
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- Tax Efficiency: Contributions to an IPP are tax-deductible for the corporation, reducing its tax liability, and the business owner can enjoy tax deferral benefits until retirement when they withdraw the pension income. IPPs also move passive income (taxed at a higher rate) from the corporation to the IPP where it is not taxed until withdrawn. This can result in significant tax savings over time.
- Retirement Income Certainty: With an IPP, the business owner can secure a predictable retirement income based on a defined benefit formula. This level of certainty provides peace of mind and financial stability during retirement.
- Creditor Protection: Depending on the province, an IPP may offer better creditor protection than an RRSP, which can be crucial for business owners concerned about protecting their retirement savings from potential legal or financial risks.
- Cost: This is the one area where an RRSP can have an advantage. IPPs require an actuary to set them up and ongoing actuarial valuations for the life of the plan. These costs are deductible to the corporations and outweighed by the other advantages of the IPP.
In conclusion, an Individual Pension Plan (IPP) and a Registered Retirement Savings Plan (RRSP) both offer valuable retirement savings options for Canadian business owners. However, an IPP stands out due to its higher contribution limits, tax efficiency, and pension security. Business owners seeking to maximize their retirement savings, enjoy tax advantages, and secure a stable retirement income may find an IPP to be a highly beneficial option. Nonetheless, it is essential for business owners to consult with qualified professionals to see if an IPP is the right choice.
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