Indexing

Your DB pension may provide for a level income throughout your retirement or one that has  indexing or a cost of living adjustment (COLA). It is very beneficial to have a pension plan where the benefits are indexed for inflation each year. If your pension is not indexed, you are losing purchasing power each year as inflation increases. If there is indexing it could be based on a fixed percentage rate, such as 2% or 3%. Alternatively, it could be based on a percentage of the increase in the Consumer Price Index (CPI). 

As an example, if your benefits index to 60% of the CPI, and if the increase in the CPI is 2%, your pension amount would increase by 1.2% each year (60% of 2%). Although not totally keeping up with inflation you would be ahead compared to a pension that does not have indexing.  

Retirement date 

Most pension plans specify a retirement age for their employees. Generally, age 65 is considered to be the normal retirement date for DB pension plans, and the calculated pension amount assumes the pension income begins at age 65. 

But what if you want to retire earlier? Most pension legislation provides for an age (usually age 55) that early retirement is permitted. Although you may have the option to initiate your pension income sooner, your monthly pension amount will generally be reduced to account for the fact that you’ll be receiving a greater number of payments over your lifetime. The early reduction factor typically ranges from 2% to 6% per year prior to your normal retirement date. 

Your DB pension plan might also provide for an early “unreduced” retirement date, which would be the earliest you could start your pension without it being reduced for early retirement. This could be the case when you have achieved 30 or 35 years of service, or when your age plus years of service equals a certain value, often referred to as a “qualifying factor” (80 factor, 85 factor etc.)  

As an example, the LAPP pension we referred to earlier has an 85 factor, someone who is 60 and has had 25 years of service, would be able to retire at age 60 with no reduction in their pension for early retirement. 

Integration and bridging benefits

Some DB pension plans are integrated with government benefits such as the Canada Pension Plan (CPP) and/or Old Age Security (OAS). Members who retire prior to age 65 that have an integrated pension will receive a higher pension until age 65 when CPP and OAS benefits normally commence, the pension will be reduced at 65 to account for the receipt of those government benefits.  

Alternatively, some pensions provide a top up, or “bridge benefit.” They have a level lifetime pension with a top-up amount payable from retirement to age 65. 

An integration or bridging benefit results in a more even and consistent level of retirement income for those that retire early. The monthly income received from your government benefits may end up being higher or lower than the monthly income that was provided by the benefit. 

Maximum benefit limits

The Income Tax Act sets limits on the maximum yearly pension which can be provided from a DB pension plan funded through tax deductible contributions. In 2025 that limit is $3,756.67 x years of service. As a result, for executives and other high earning individuals, who may be entitled to a benefit greater than that limit, the employer may choose to set up an additional non-registered arrangement or supplemental pension plan to top up the retirement income or benefits provided from the DB pension plan to ensure they are receiving the benefits they are entitled to.

Contributions to DB plans

DB pension plans require mandatory employer contributions, determined by an actuary, to ensure the pension plan is sufficiently funded to provide future and existing retirees with the retirement income they are entitled to.  

There are regulations in place that require actuarial evaluations of the pension to be carried out on a regular basis to ensure funding is adequate.

Whether an employee is required to contribute depends on whether the plan is a “contributory” plan or a “non-contributory” plan. 

Similar to a contribution to an RRSP, the amount you contribute to your DB plan is deductible from your taxable income. It will be reported on box 20 of your T4 slip from your employer and can be deducted on line 20700 Registered pension plan deduction on your Income Tax and Benefit return. The amount the employer contributes is tax deductible to the employer and is not considered taxable income for the employee. 

When you accrue an annual pension benefit through your DB pension plan, the employer is required to calculate a Pension Adjustment (PA), which decreases your RRSP contribution room in the following year. This is intended to equalize the tax-deferred retirement benefits individuals can accumulate whether they are a member of a pension plan or not. The employer reports the PA in box 52 of your T4 and the value is to be reported on line 20600 Pension adjustment on your Income Tax and Benefit return. 

Unlike the PA for DC plans which represents the actual amount contributed to your pension plan, for DB pension plans the calculation for your PA is based on the following formula:

• 9 x benefit entitlement - $600

The “benefit entitlement” is the value of the DB pension for one year of service based on the plan formula. The $600 adjustment ensures that the individual will still be able to contribute up to $600 a year to an RRSP.

Buyback of pension service

Many DB pension plans offer their members the opportunity to “buyback” previous years of service for time they were on leave or not a member of the employer’s pension plan. Since your pension amount is calculated from a formula that is multiplied by your years of service, purchasing past service can provide a number of benefits to an employee, including a larger pension and the possibility of an earlier unreduced retirement date. 

Purchasing past service involves paying an amount of money (often a transfer from an RRSP) in exchange for years of missed pensionable service. In some cases members are expected to cover only the cost of their own contributions, while in others members have to cover both the employer and employee cost. The cost is generally calculated based on the salary the employee is earning at the time of the buyback. This is one of the reasons buying service early in one’s career is generally less expensive than waiting until closer to retirement when salary is likely higher. 

The buyback is often done through a tax-deferred transfer from an RRSP. This is a common way of buying back pension service since it is just the transfer of funds that are already tax-deferred to another tax-deferred vehicle. Alternatively, the past service could be purchased with non-registered assets or through payroll deductions, however, this would create a Past Service Pension Adjustment (PSPA) which reduces available RRSP contribution room and could even result in negative RRSP room. Depending on the size of the PSPA this can generate a forced deregistration of RRSP proceeds. As a result, using the tax-deferred transfer if a buyback is chosen is usually recommended. The tax-deferred buyback transfer may also be done through a transfer from a LIRA or former employer’s pension plan when their pension jurisdiction is the same as the current pension jurisdiction.

If you are considering buying back past service, in addition to a cost/benefit analysis, you will also need to consider the impact the decision may have on your overall financial goals and objectives.   

Options for your DB pension plan when you leave the employer

At the point in time when you retire or terminate your employment the options available to you often depend on your age and the rules of your pension. You would also have to be “vested” in the pension plan, meaning you’ve been a member of the pension for the minimum required time period to be entitled to the benefits of the pension. There is often a two-year vesting period, but many pensions provide for a shorter vesting time period. The following options may be available when you retire or terminate your employment and are discussed in more detail below:

• Receive lifetime retirement income from the pension
• Transfer the commuted value to:
  • a locked-in retirement account (LIRA)
  • an annuity
• Transfer service to another DB pension
   

Receive lifetime income from the pension

If you choose to receive lifetime income from the pension, you will be entitled to the amount predetermined by the pension formula. This amount will also be adjusted to account for the specific survivor benefits you choose for the pension after your death. These details will be discussed later. 

Depending on when you leave the pension plan, you would have the opportunity for a deferred or immediate pension. An immediate pension is payable if you have reached your early retirement date, otherwise, your pension income payments will be deferred until then or a later date. 

Transfer commuted value

When you retire or terminate employment from your employer you may have the option to transfer the “commuted value” out of the DB plan. The commuted value is a lump sum that represents the estimated amount of money that, if invested today, would be able to provide the future pension payments the pension would provide. The Income Tax Regulations limit the amount of the commuted value that can be transferred on a tax-deferred basis (maximum transfer value). Any remainder (excess) will be paid to you as fully taxable cash and you will need to report as income for the year it is received. 

Generally, the option to transfer the commuted value out of your pension is only available if you are terminating your employment more than 10 years before your normal retirement date. 

• Locked-in registered savings account
  
  The maximum transfer value of your DB commuted value, if governed under Alberta legislation, can be transferred to a Locked-in Retirement Account (LIRA) or a Locked-in Income Fund (LIF). A LIRA is essentially an RRSP that is governed by pension legislation, or “locked-in,” and a LIF is essentially a locked-in RRIF. Similar locked-in account types are available in other jurisdictions. 
  
  LIRAs and LIFs are tax-deferred investment accounts that allow you to choose how the funds are invested and subject to certain restrictions, when to initiate regular income payments. The payments are included in your taxable income in the year of withdrawal. Withdrawals are not permitted directly from a LIRA, however, you can initiate on-going retirement income with a transfer of the locked-in proceeds to a LIF.
  
  Locked-in accounts, as well as being governed by the Canadian Income Tax Act, are also regulated by the applicable provincial or federal pension jurisdiction. This additional regulation is to ensure lifetime retirement income is available for both the original pension plan member and the member’s spouse or common-law partner, since this was the intent of the original pension. These rules limit how and when the funds can be accessed and provide for spousal protections. Our article, What is a locked-in account, and why would I have one? discusses locked-in accounts in more detail. 
  
  Inflation, investment return, your retirement age, and how long you expect to live will need to be considered when exploring the commuted value option. To learn more about what to consider when choosing between lifetime retirement income or investing the commuted value please refer to Pension payout - your options explained. 
  
  
• Annuity
  
  If you decide to take the commuted value, but also desire a guaranteed lifetime income stream, you could choose to purchase an annuity through an insurance company. When you purchase an annuity you are giving up access to your capital in exchange for a guaranteed income.
  
  A life annuity will pay you a set amount of annual or monthly income over your lifetime and can be purchased through a transfer of the maximum transfer value of your DB commuted value. The excess will be paid directly to you and is taxable in the year it is received and the income payments received from the annuity would be taxable in the year they are received. The amount of income you will be entitled to is based on a variety of factors including: the current interest rate, your age, health and life expectancy.
  
  A “copycat annuity” is another option for those that may face a large tax bill on the excess amount of the commuted value, or for those that are seeking lifelong income but may be concerned about the long term health of the company pension plan. The CRA allows for the transfer of up to the full commuted value to purchase a copycat annuity which mirrors the provisions of the employer pension plan.
  
  The copycat annuity isn’t a standard product, but a custom strategy provided through a life insurance company that provides benefits that mimic the pension benefits. The cost of the annuity may be more or less than the commuted value amount. If it is less than the commuted value, the difference will be paid to you as a taxable cash payment. If the annuity costs more than the commuted value amount, as long as you use the full commuted value for the purchase, the tax-deferred transfer is still available and the income and benefit amounts will be reduced accordingly.

Transfer service to another DB pension

Many DB pension plans have reciprocal transfer agreements with other DB pension plans, allowing you transfer your pensionable service from one pension plan to another. 

Consolidating your pension history from different employers or plans could significantly enhance your retirement benefits and income. For instance, instead of having separate periods of service, like 10 years in one pension and 10 years in another, a service transfer could combine these into a single plan, giving you 20 years of service.

This consolidation often leads to an earlier eligibility date for an unreduced retirement pension and the potential for a larger pension income due to higher accumulated earnings.

Pension plans vary in how they determine costs and benefits. The service credit you receive in a new plan depends on the cost to establish that service and the value of your benefits from your previous plan. If different, this will result in a transfer shortfall, or transfer excess. You will be provided with options for making up the shortfall or for receiving the excess. 

At the point in time when you retire or terminate your employment, you'll need to make an important, one-time decision regarding your pension. This involves choosing between receiving a guaranteed income stream directly from the plan or potentially transferring out the commuted value or your years of service. Before making your decision it's important to consider various factors, not only those that can be quantified, but also those that are more personal to your circumstances.  

Survivor benefits at death

If you are a current member of a DB pension plan or a retired member receiving income from the plan there may be proceeds or income that is available for your survivors after your death. The extent of the survivor benefits often depends on whether the pension has vested, if death occurs before or after retirement, and if you have a spouse or common-law partner at the time of your retirement. 

• Death occurs before vesting
  
  If you pass away when you are not yet vested in the pension the plan will pay at least a minimum of your contributions with interest to your spouse or common-law partner, beneficiary or estate.
  
  
• Death occurs before receiving pension
  
  Pre-retirement death benefits vary from one jurisdiction to another, and will also depend on whether the member was within early retirement age and their marital status at the time of death.
  
  If your pension has vested, your spouse or common-law partner would be entitled to receive either a lifetime monthly pension or a transfer of the lump sum commuted value to a LIRA or an annuity.
  
  In the absence of a spouse or common-law partner, pension plans typically specify the death benefits payable to your named beneficiary or your estate. These benefits may include a lump sum payment representing the commuted value or, at a minimum, the total of your contributions plus accrued interest.
  
  
• Death occurs while receiving pension
  
  Prior to the start of your pension, you will be provided with various options for the payment of your pension income. Whether your survivors receive benefits from the plan and the amount of benefits they will receive is determined by the option you choose. 
  
  Guarantee period - A guarantee period is available in most DB plans to ensure that, in the event of an early death, your survivors can receive retirement benefits until the end of your chosen guarantee period. The selected guarantee period has a cost that slightly reduces the amount of your pension income.   
  
  If you have a surviving spouse or common-law partner and you pass away within the guarantee period you have chosen, your spouse will continue to receive your pension payments until the end of the guarantee period. When the guarantee period has ended your spouse will continue to receive their survivor pension (discussed further below).
  
  If you do not have a surviving spouse or common-law partner, or your spouse has waived their right to survivor benefits, your chosen beneficiary or your estate will receive your pension payments, or an equivalent lump-sum, up until the end of the guarantee period.
  
  Joint survivor pensions - Pensions are intended to provide lifetime income not just for the plan member, but also for the member’s spouse or common-law partner. If you have a spouse or common-law partner at the time of your death, most jurisdictions require that your spouse or common-law partner receive a survivor pension of at least 60% of your pension. If you were receiving $60,000 a year from your pension, following your death, once the guarantee period has expired, your spouse or common-law partner would begin receiving $36,000 per year for the remainder of their lifetime.
  
  Certain jurisdictions permit this requirement to be waived if both the member and the spouse or common-law partner sign a prescribed spousal waiver form. This would allow the pension plan member to elect a smaller survivor benefit or no survivor benefit. As a result, the member’s pension income amount will increase.
  
  Alternatively, a DB pension plan may provide for a survivor pension that is greater than 60%. If you select this option, the initial pension income will be reduced to offset the higher survivor benefit, but there is a lower reduction in the pension benefit when the pension plan member dies. As an example, you may wish to ensure the pension income remains consistent through both of your lifetimes and choose a joint 100% survivor (non-reducing) pension. Rather than $60,000 being paid for your lifetime, and reducing when you pass away, $54,000 is paid that lasts throughout both spouses’ lifetimes, as the following illustrates: