Instead of your regular pension payments, you may be entitled to take the commuted value of your pension in the event that you terminate your employment.
The commuted value is basically the lump-sum amount that your pension represents (based on your future pension payments) if it were paid out now. It’s important to understand what the commuted value is and how it can benefit you when planning for retirement.
The commuted value calculationis used for defined benefit pensions plans but not for defined contribution plans, so make sure you know which type of pension plan you have. In a defined contribution pension plan, you know how much you will pay into the plan but not how much you will get when you retire.
The total amount of your pension’s commuted value (CV) is calculated using standards, as required under the Ontario Pension Benefits Act, and depends on many factors including future interest and mortality rates, and inflation.
Under most circumstances, any commuted values payable at termination are calculated by actuaries according to established formulas and procedures approved by government bodies like The Office of the Superintendent of Financial Institutions (OSFI).
What is an actuary? They are financial professionals who analyze the financial consequences of risk and uncertainty. In particular, Commuted Values (CVs) must be calculated in accordance with the Canadian Institute of Actuaries’ standards (the CV Standards).
Table of Contents
- How Commuted Value Is Calculated
- Getting Your Commuted Value Amount From Your Pension Statement
- Is My Pension’s Commuted Value Enough For My Retirement in 2022?
- How To Receive Your Commuted Value Cash
- Take The Company Pension or Commuted Value?
- What Is A Defined-Benefit Pension?
- Chat With A Canadian Certified Financial Planner
How Commuted Value Is Calculated
The commuted value of a defined-benefit pension in Canada is calculated using the actuarial present value of the future stream of payments from the pension. Actuarial present value is the amount that would be needed today to pay for a given stream of future payments.
The commuted value is sometimes called the “cash value” or “lump sum” value of a pension plan. This is because the commuted value represents the amount that could be paid to an employee today in exchange for all future payments from the pension plan. We’ve put together a list of the pros and cons of taking the lump-sum pension payment option here.
The commuted value is then divided by the life expectancy of the employee to calculate the annual pension benefit payable to the employee.
If you’re a mathematician, here’s the typical formula to calculate commuted value: PV = FV/ (1 + k)^n.
Looks complicated? That’s because it is.
Commuted Value isn’t easy to estimate because each company may have different ways of calculating it based on a number of factors. This is why it’s usually best to simply request an estimate from your employer. They will do the calculation for you and send you the estimate for your review.
When when your employer sends you your estimate papers, bring the estimate directly to a Certified Financial Planner to do an analysis on.
The team at Pension Solutions Canada can do this estimate analysis for you for no cost or obligation, simply call us at 1-888-554-6661.
Getting Your Commuted Value Amount From Your Pension Statement
Once you retire, or you are laid off by your employer, they will provide you with apension statementthat has the ‘commuted value’ of your defined-benefit pension plan on it.
Depending on the company you work for and how long you’ve worked there, thecommuted value of your pensioncould be 500k, 800k, or even 1 million dollars or more, so choosing how to manage that money is a critically important decision.
The team at Pension Solutions Canada can do an analysis of your pension statement for you for no cost or obligation, simply call us at 1-888-554-6661.
Is My Pension’s Commuted Value Enough For My Retirement in 2022?
The biggest challenge facing most retirees is determining how much money they need in order to retire comfortably in Canada while maintaining their current standard of living.
This is the question that most advisors are asked and one that is the subject of countless books and articles.
As mentioned previously, an individual’s financial needs will depend on his or her health, lifestyle, the location where he or she plans to live and the kind of housing that will be needed.
The good news is that you control your own spending.
Click here to read our free Retirement Guide.
How To Receive Your Commuted Value Cash
When you retire, you can receive your commuted value money as follows:
- Transfer it to a Locked-In Retirement Account (LIRA), up to a limit set by the Income Tax Act called the Maximum Transfer Value. Any amount that’s greater than the Maximum Transfer Value would be paid out to you as taxable cash.
- If you have taxable cash, you can contribute some or all of that money to a Registered Retirement Savings Account, if you have contribution room. The entire value of the cash component of your pension benefit will be included in your taxable income if you don’t have RRSP room.
- Purchase a life annuity from a life insurance company (annual income of a fixed amount). The annuity would match the benefits under your pension plan. We call these ‘mirror annuities’ or you might have also heard it referred to as a ‘copycat annuity‘.
If you still have any questions about commuted values, please ask us by calling 1-888-554-6661.
Take The Company Pension or Commuted Value?
Clients with defined benefit pension plans may reach a point where they must decide whether to take the pension or commuted value. It’s important to know what your commuted value is, because you can then take that amount and shop it around to insurance companies to see if they’ll match it (or ‘copy’ it). This is typically referred to as a copycat annuity.
It is purchased from an insurance company, such as Canada Life or Sun Life, and is then the pension is paid to you from the insurance company.
An annuity contract allows you to take your commuted value pension and turn it into lifetime guaranteed income for yourself then for someone else, such as your spouse.
Annuity contracts are guaranteed by an insurance company. That means that they have very low risk of defaulting like other investments might have. If your employer has a risk of going bankrupt (such as retail companies or automotive brands), then a copycat annuity might be a great choice for you. If the insurance company fails, you have extra protections.
If you are unsure which option to take (company pension or commuted value), contact Pension Solutions Canada and speak with one of our Certified Financial Planners to assess your options free of charge. You can reach us at 1-888-554-6661.
What Is A Defined-Benefit Pension?
A Defined-Benefit Pension is designed to provide a specified amount of monthly income after retirement. This monthly income is a percentage of your salary during working life.
You usually must start receiving pension payments when you reach age 65 or the normal retirement age set by your employer. You may be able to start receiving payments as early as age 50.
You generally can’t withdraw money from your pension plan until you retire. However, you may be able to withdraw money from a defined-contribution plan before retirement.
Inflation, Interest Rates, & Bond Yields in Canada: How It Affects Your Commuted Value
Inflation protection means the amount of pension after retirement is adjusted according to inflation. Typically, a government pension is fully indexed to the Consumer Price Index (CPI) on your first day of retirement. The indexing of your pension ensures that it keeps pace with the cost of living, which will help protect you from inflation. There are two types of inflation protection methods: fixed rate and variable rate. Fixed rate is easy to understand, the amount of pension is adjusted by the rate specified in the plan. Variable rate is a little more complicated; this type of inflation protection uses a variable method (such as Consumer Price Index) to adjust the amount of your pension.
If you’re not sure about which option is best for you, speak to a Certified Financial Planner. At Pension Solutions Canada, we can help you determine which option is best for your circumstances and refer you to quality Life Insurance providers. We’ll also help you with estate planning, address tax minimization, and answer all of your retirement questions.
Private pensions normally do NOT offer inflation protection. So, your monthly income will effectively decrease over time as it’s eaten away by inflation.
Chat With A Canadian Certified Financial Planner
Let us analyze your multiple income streams in retirement. We’ll make sure to minimize your income tax.Consult with a professional to help you with this key financial decision.
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- (Video) Pension Calculation | Gross Pension | Net Pension | Commutation | Types of Pension |Pension formula
If you're a mathematician, here's the typical formula to calculate commuted value: PV = FV/ (1 + k)^n.How do I calculate the cash value of my pension? ›
The value of a pension = Annual pension amount divided by a reasonable rate of return multiplied by a percentage probability the pension will be paid until death as promised.How much is a $30000 pension worth? ›
As an example, examine how much an earned pension income of $30,000 would add to a person's net worth. A defined benefit plan income of $30,000 annually is $2,500 per month, which is 25 times $100.What is my commuted value? ›
A commuted value represents the lump sum present value of the pension you would otherwise receive as a monthly payment for your lifetime upon retirement. Commuted values are calculated using the assumptions prescribed under the Pension Benefits Act (Ontario).What is a pension commutation example? ›
Such pension received in advance is called commuted pension. For example, at the age of 60 years, you decide to receive 10% of your monthly pension in advance for the next 10 years worth Rs 10,000. This will be paid to you as a lump sum. Therefore, 10% of Rs 10000x12x10 = Rs 1,20,000 is your commuted pension.What is a good pension commutation factor? ›
The final salary scheme commutation factor is particularly generous. The higher the commutation factor the more generous it is because you receive more lump sum for every £1 of pension sacrificed. Anything above 20:1 is good whereas anything under 12:1 is not very generous.What is the average pension payout per month? ›
According to the Social Security Administration (SSA), a retired couple should expect to receive $2,753 on average in monthly benefits for 2022.What is the total value of a pension? ›
Your fund value is the total amount of money in your pension savings with us at any time. This is the amount you'll be able to take when you retire. Your transfer value is the amount of money you can transfer out of the Scheme.What's the average pension payout? ›
According to U.S. Census Bureau data, the average retirement income for retirees 65 and older in the United States decreased from $48,866 in 2020 to $47,620 in 2021.Should I take the commuted value of my pension? ›
Investing a commuted value is necessary to ensure that it provides income over a long retirement period. Investing a commuted value comes with new risks like investment risk and behavioural risk. One important consideration is that individuals with a defined benefit pension often have very little investment experience.
Experts suggest that you should aim to have saved at least 1 x your annual salary by age 30. Depending on when you start saving, you'll want to be saving between 12-20% of your earnings into your pension (save towards the higher end if you're starting late).What is amount of pension commuted? ›
Commutation of Pension
A Central Government servant has an option to commute a portion of pension, not exceeding 40% of it, into a lump sum payment. No medical examination is required if the option is exercised within one year of retirement.
Lump-sum payouts are calculated by determining the present value of your future monthly guaranteed pension income, using actuarial factors based on age, mortality tables published by the Society of Actuaries, and the Internal Revenue Service's minimum present value segment rates, which are updated monthly.What is the maximum percentage of pension that can be commuted? ›
Limit on commutation of pension -
(1) A Government servant shall be entitled to commute for a lump sum payment a fraction not exceeding forty percent of his pension.
Linkage Of full pension with 33 years of qualifying service shall be dispensed with. Once a Government servant has rendered the minimum qualifying service of twenty years, pension shall be paid at 50% of the emolument or average emoluments received during the last 10 months, whichever is more beneficial to him.How is commutation granted? ›
To be considered for commutation (reduction) of sentence, an eligible inmate should submit a completed Petition for Commutation of Sentence to the Office of the Pardon Attorney, preferably through the warden in accordance with BOP Program Statement 1330.15.What does lump sum commutation mean? ›
The official term is a 'commutation' which means that you accept a single lump sum to cover all of your agreed entitlements including medical, hospital and rehab payments. It also replaces any future weekly payments you may be eligible to receive.Should you always take 25 lump sum from pension? ›
If the full 25% lump sum is part of your financial-planning arrangements as you move into retirement, you'll need to take it, or change your plans. However, if you can afford to do without the full lump sum in one go, instalments have real advantages.Is it better to take pension or lump sum? ›
A monthly pension payment gives you a fixed amount every month over your whole life, so you don't have to worry about changes in the stock market. In contrast, a lump-sum payout can give you the flexibility of choosing where to invest or save your money, and when and how much to withdraw.Should I take 25% of my pension? ›
Taking your 25% lump sum is tax-free and won't affect your income tax rate when you take it, unlike the remaining 75% of your pot. Not withdrawing your pension keeps your money protected from inheritance tax and allows you to carry on benefiting from tax-free growth- if your investments perform well.
Retiring on $4,000 a month will give the average American plenty of options for a fulfilling retirement—and leave some room to splurge on the grandkids and travel.Can you collect Social Security and a pension at the same time? ›
Yes. There is nothing that precludes you from getting both a pension and Social Security benefits. But there are some types of pensions that can reduce Social Security payments. Get instant access to members-only products and hundreds of discounts, a free second membership, and a subscription to AARP the Magazine.What is the average Social Security check? ›
Social Security offers a monthly benefit check to many kinds of recipients. As of October 2022, the average check is $1,550.48, according to the Social Security Administration – but that amount can differ drastically depending on the type of recipient.How much will my Social Security be reduced if I have a pension? ›
We'll reduce your Social Security benefits by two-thirds of your government pension. In other words, if you get a monthly civil service pension of $600, two-thirds of that, or $400, must be deducted from your Social Security benefits.Can you retire on $3,000 a month? ›
Whether you want to retire in a big city or a small town, you can live comfortably in some places for $3,000 a month or less.Do pensions pay for life? ›
Because pension plans are intended to provide periodic payments for life, certain forms of payment are required by law. For single employees, the required form of payment is a straight-life annuity, which typically provides a monthly payment based on the plan formula.Is it worth cashing in my pension early? ›
Cashing in your pensions earlier than your pensionable age would almost certainly reduce your eventual retirement income. Cashing in your pension at 55 is known as pension release; whether it is a personal pension or a company pension.Is a pension worth more than a 401k? ›
Pension vs. 401(k): Which Is Better? Though there are pros and cons to both plans, pensions are generally considered better than 401(k)s because all the investment and management risk is on your employer, while you are guaranteed a set income for life.How much should a 50 year old have in their pension? ›
At the age of 50, ideally, you would have wanted to save over 4 times your annual salary if you would like to retire comfortably. At this age, you should be considering putting 25% of your salary into your pension pot, if not more.What percentage of salary is a good pension? ›
In defined occupational schemes they should be a percentage of salary and be around half that of the employer with the total contribution ideally being at least 15% of salary. Private pension plans should allow for flexible contributions. Management charges should be as low as possible.
Take the age you start your pension and halve it. Then put this % of your pre-tax salary into your pension each year until you retire. So someone starting aged 32 should contribute 16% of their salary for the rest of their working life.How is commuted and Uncommuted pension calculated? ›
You will receive a lump sum of Rs 9.60 lakh (which is 10 per cent of Rs 80,000 x 12 months x 10 years). This is called a commuted pension. The rest of the amount, i.e., Rs 72,000 will be your monthly pension for the next 10 years. This is called an uncommuted pension.How many years can a pension be commuted? ›
Commuted portion of your pension can be restored on completion of 15 years from the date of receipt of the commuted value of your pension. In case the same has not been restored, contact your P.D.A./pension paying bank.What is the formula to calculate pension? ›
The amount of pension is 50% of the emoluments or average emoluments whichever is beneficial. Minimum pension presently is Rs. 9000 per month. Maximum limit on pension is 50% of the highest pay in the Government of India (presently Rs. 1,25,000) per month.What percentage of pension can be commuted? ›
Limit on commutation of pension -
(1) A Government servant shall be entitled to commute for a lump sum payment a fraction not exceeding forty percent of his pension.
Investing a commuted value is necessary to ensure that it provides income over a long retirement period. Investing a commuted value comes with new risks like investment risk and behavioural risk. One important consideration is that individuals with a defined benefit pension often have very little investment experience.Is it better to take my pension in a lump sum? ›
A Lump Sum Gives You More Control of Your Assets
By accepting a lump sum from the pension, you gain the control over your income assets. Even if the income generated from the lump sum is less than the promised annuity payment from the pension, you gain control over the assets.
Once you take the commuted value of your pension how the pension performs and the assets you accumulate in your account will be based on market performance. It is possible that you may outlive the assets in your account if you live longer than the average person and/or experience poor market performance.What are commutation rules? ›
(1) An applicant, who is in receipt of any pension referred to in Rule 12 and desires to. commute a percentage of that pension any time after the date following the date of his. retirement from service but before the expiry of one year from the date of retirement, shall -