About one-quarter of the 13,000 Nortel pensioners that are members of the Nortel Managerial and Non-Negotiated Pension Plan (Reg. 0342048) must take a Deferred Pension in the form of a Locked-In Retirement Account (LIRA). Before age 71 the LIRA must be converted to an annuity or to a Life Income Fund (LIF). The references, comments and spreadsheet provided in this post may be of some assistance in making the choice. It is also of use for others who need to compare an annuity against a LIF when converting the LIRA.
Background and Previous Post
Please refer to the previous post Nortel Pension Settlement Options – Annuity vs LIF for the background on the Nortel Bankruptcy, details on Annuities and Life Income Funds (LIF). In particular, the maximum and minimum withdrawal rates for a LIF are important and are repeated below. This previous post and the associated spreadsheet apply to the other 75% or Nortel pensioners. This post provides a modified spreadsheet that starts with the Commuted Value provided by the Administrator of the Pension Plan that must be deposited into a LIRA. Because the LIRA must be converted to an annuity or a LIF before age 71, parts of the original spreadsheet still apply and are used in the modified spreadsheet.
Changes October 26, 2016
The spreadsheet originally started at age 60. It appears that some people can take an annuity at age 55. In case others can do the same at an earlier age, the spreadsheet has been changed to start at age 50.
This post and the spreadsheet hopefully assist you in deciding if a Life Income Fund (LIF) or the annuity is appropriate for your circumstances. Use this as background information only. You should seek professional advice before making a decision.
Locked-In Retirement Account (LIRA)
A LIRA is normally created when a person leaves a company that has a pension plan, or as in the Nortel case, when the company fails. The commuted value of your portion of the plan is provided for you to invest in a LIRA. Most investments permitted in other retirement plans (such as a Registered Retirement Savings Plan – RRSP) can be used for a LIRA. No additional contributions and no withdrawals are permitted. Only when the LIRA is converted to an annuity or LIF can withdrawals be made.
There are a number of complexities with LIRAs which you should understand or have professional help. For example, the following links may be of use as background information: retirehappy.ca – Unlocking pension money: Getting money out of a LIRAs; taxtips.ca – Unlocking Your Locked-In Pension Accounts; financialcrooks.ca – What Is a Locked In Retirement Account and How Do I Get One?. While these deal with unlocking, they also cover the differences between provinces. For the Nortel settlement, make sure you know which province has jurisdiction over your LIRA.
Converting a LIRA to an Annuity or LIF
As mentioned above, the LIRA must be converted to another retirement vehicle before age 71. Because you will own the LIRA that you arrange to hold the funds provided by the Nortel Pension Plan Administrator, you must make the decision yourself (and with the help of a professional, if desired) as to whether an annuity or a LIF is what works for you at that time. As with any future investment, you will not know the actual value of your LIRA at the conversion time, or the prevailing interest rates, but you can guess at them now. The spreadsheet provided below, provides a number of variables that can be adjusted and a number of charts to show the results. Make sure you use the links in the previous post Nortel Pension Settlement Options – Annuity vs LIF for background on annuities and LIFs.
How to Decide between an Annuity and a LIF
As you will see in the example below and when you use the spreadsheet provided, the decision basically comes down to whether
1) you want a constant steady stream of monthly payments from an annuity and no capital when you die (but possibly guaranteed payments for a fixed period, depending on the annuity type) or,
2) you are willing to accept a more volatile stream of payments and the need to manage the LIF investments to obtain the rate of return desired without depleting the capital too soon. However, once the LIF capital is gone, the monthly payments stop, even if you are still alive.
Using the example discussed below, a few criteria are provided later that can be used to decide if the LIF is a good option for you.
The LIF Withdrawal Rates
The LIF minimum withdrawal rate is set by the Government of Canada and is the same as for the RRIF which was changed in 2015. These rates are age dependent so that each year you have an increased rate. Here are two links to view these rates: RRIF minimum withdrawal rate (item 3) and RRIF Minimum Payout – 2015 Rates.
The LIF maximum withdrawal rates change each year as well as being age dependent. The formula used has been difficult to track down, but the methodology and the 2016 rates are presented on a webpage by the Government of Canada, Office of the Superintendent of Financial Institutions (Life Income Fund FAQs, question 1, item 2). It uses the previous year’s November 30th CANSIM rate. (These can be found at the Statistics Canada website for CANSIM B14013. Enter B14013 into the search, click on the v122487 series and then select the dates to include November of the last year and then the Retrieve now button. For Nov. 2015 it was 2.17%.)
It appears that each province that has LIFs has its own maximum withdrawal rates, which are close to, but not the same as the Federal ones above. For example, the Financial Services Commission of Ontario’s L200-415 pdf has higher values for all ages. A useful link that has all provinces is the Kudsia Leith Sanchez website at klsfinancial.ca, which is used for the 2016 rates shown on the spreadsheet. For subsequent years, at the beginning of the year, go to any of the above references and copy and paste the year’s values into the spreadsheet.
As you will be able to see on the spreadsheet, the spread between the minimum (which you must withdraw) and the maximum (which you cannot exceed) is not very much (the maximum is only about .6 to .8 more than the minimum when the person is in the 70s), so there is not a lot of flexibility to increase or decrease the payments depending on your circumstances.
Converting the LIRA to an Open-Market Annuity
If the capital value of your LIRA when it is time to convert could be invested in an annuity on the open-market, what could you expect? While you will need to deal directly with the insurance companies of your choice to get competitive rates, there is a very good reference to get you started. It is a Globe and Mail page that provides monthly payments that selected insurance companies offer for annuities. Just click on the entry that fits your circumstances when you expect to do the conversion. The data given on the spreadsheet uses this website’s page. (You can also view other investments, so it is a good reference for other investments.)
Your life expectancy, from specified age, factors into all of the annuity and commuted value calculations.
Life expectancy is the average age to which one might be expected to live. That is, there is a probability for each age before the life expectancy age that a person will die as well as a probability for each age after that the person will still be alive.
Statistics Canada provides access to life expectancy and probability data (plus much more) on Table 053-0003, Elements of the life table, Canada, provinces and territories. Using the Add/Remove data tab, I was able to obtain, for 2010-2012, data for ages 65 to 95 of the Life Expectancy and Probability of survival between ages for all of Canada and both sexes. These values are included in the spreadsheet. You can change any of the selection criteria to select, for example, a province or a specific sex.
There are sites that offer life expectancy for an individual where you enter specific criteria. For example the one by Sun Life Financial has a few criteria while the Canadian Business one has many more. Each provides slightly different results, but they are all within a few years of each other.
Based on your family history, your present heath and other factors, you can assess whether these generalized life expectancies apply to you. Also keep in mind that these are the average for a large population so you may decide that another age applies to you. For example, the annuity is appealing when you expect to live longer than the average life expectancy and the LIF, if it provides adequate income, may appeal for the other situation. Try the spreadsheet with different values to see what happens to the LIF withdrawals and remaining capital.
Range of Returns for LIRA and LIF
Determining the interest or rate of return you might use for the LIRA and LIF to provide the same yearly payment that the Annuity offers is one of the key aspects of the spreadsheet. You can enter different rates to see what effect it has using the charts provided.
However, you must be realistic as to what you can expect and not use too high a rate. For example, the best you can obtain today for a 5-year Guaranteed Investment Certificate (GIC) is 2.3%.
The stock market’s long-term return is 8.5% but the volatility is very high. One very good post to read before deciding to commit your “pension” to the stock market is by the Canadian Couch Potato: What are Normal Stock Market Returns? Another is by Retire Happy: What rate of return can you expect from the stock market? In both of these posts the argument is made that year to year returns can range from a negative to a positive double-digit.
You must remember, that the pension you might have received from Nortel was to have been for your lifetime (and, if originally chosen, at 60% for your surviving spouse). If you expected to rely on it for a significant portion of your income, then you must carefully consider if the risk of a higher return for a LIF is worth jeopardizing your future.
Click on Download Spreadsheet and open it so that you can follow along with the example below and then customize it to your circumstances. It is an Excel spreadsheet which requires the Excel application. If you do not have it, try the online version which is free, but requires that you create an account and then upload the file. Other applications will probably open the file, but the charts do not always work. When opened for the first time, the spreadsheet has data for the example. As you enter your own data into the outlined cells, some other cells will automatically change and the charts will be updated, as indicated below.
The spreadsheet consists of a section for entering data (in the upper half of the window, numbered 1 to 17), two charts, a table of Limits and tables below the charts that are used for the charts . Only enter data into the cells that are outlined.
Hovering the cursor over any line on a chart will show a comment that describes the Series, the Age and the Value. Alternatively, scroll the window down to see the tables that are used for the charts. They are in bold in the first few columns.
Entering Data and Charts
Data entry is divided into 4 areas. Each area and a description of each numbered line are given below. Values shown in the charts are for the following fictitious example: $100,000 commuted value that goes into a LIRA at age 55, 4% interest for the LIRA to age 65, $8,500 target payment from the LIF with a 1% inflation and 4% interest for a male living in Ontario, $483.34 per month open-market annuity for a couple with joint coverage and 10-year guarantee.
The charts will change when values are entered into specific cells as mentioned below. The x-axis (Age) starts at the age your LIF starts and goes to 100. This axis only changes when what you enter into line #4 (Age When LIF Starts) changes. The earliest age is 50.
This chart shows the LIF Withdrawals are a solid thick black line. The Target LIF Payment/Year is a dashed orange line. It will show through the black line when the payments/withdrawals are the same. The Open-Market annuity is a dashed blue line.
Because one of the features of a LIF is that the capital can be turned over to the estate upon death, the dashed green line, which uses the right vertical axis shows how much capital is left at each Year-End. For the example, capital is gone by age 92 (and so are the LIF payments).
In the last two columns is a table of Ages and Limits. This shows which limit is used for each age on Chart 1. It will show either Max, for a Maximum withdrawal in red, Min for a Minimum withdrawal in yellow or Target in green for withdrawal that is the same as the Target LIF Payment/Year (including inflation). Adjust the Target amount in #6 to see what happens to the dashed orange Target LIF line, the black LIF Withdrawal line and the Table of Limits entries.
This chart has 3 lines that provide an indication of the StatsCan data on life expectancy. The lines change whenever the sex changes and the current age changes. The purple line shows the life expectancy as an age. Just move along the x-axis to your present age and then up to the purple line to see your life expectancy. Hovering over the purple line and moving along it will show the data points. Stop at your current age to see your life expectancy. To see the life expectancy as a number of years from your current age, use the orange line and the right axis.
As mentioned above, life expectancy is an average, so that there is a probability of death for each future year. This is shown in the dark blue line. Moving along it will show the percent for each future year.
Commuted Value (#1) – Enter the lump sum value that is being provided. When the value is changed, the black LIF Withdrawal line and the green YE Capital line in Chart 1 will also change.
Age When LIRA Starts (#2) – Enter your current age, or your age when the commuted value is provided, if different. Once changed, the solid black LIF Withdrawal and the dashed green Year-End Capital lines on Chart 1 will change.
LIRA Investment Percent (#3) – Enter the interest rate as a percent you want for the LIRA. Once changed, the solid black LIF Withdrawal and the dashed green Year-End Capital lines on Chart 1 will change.
B1) LIRA Conversion to Life Income Fund (LIF)
Age When LIF Starts (#4) – Enter the age when the LIF is to start. It is to be greater than the Age when LIRA Starts (#2) and less than or equal to 71. Once changed, the solid black LIF Withdrawal and the dashed green Year-End Capital lines on Chart 1 will change. Also the purple Life Expectancy Year on Chart 2 will change. While any age can be entered, only ages 50 to 99 will produce charts.
Capital Value When Converted (#5) – This value is calculated from the Commuted Value (#1), LIRA Investment Percent (#3) and the two ages in #2 and $4. Do not change this value as it is used in Chart 1.
Target LIF Payment/Year (#6) – Enter whatever value you want to receive from the LIF as a yearly amount. If it is too low, the Minimum LIF withdrawal will automatically be used. If it is too high, the Maximum LIF withdrawal will automatically be used. Examine the two columns along the right side of the window to see what Limit is used. (See below for details.) You should set it to a value close to that of #13 (Open-Market Annuity: Yearly for Capital Value). Once changed, the solid black LIF Withdrawal and the dashed green Year-End Capital lines on Chart 1 will change as will the Limit column.
LIF Investment Interest Rate (#7) – Enter the interest rate you expect to obtain with your LIF investments. The lowest rate will probably be a 2% to 3% GIC rate and the highest will probably be a 5% to 8% stock market return. Once entered, the LIF Withdrawal and the Year-End Capital lines will change on Chart 1. Notice that for the example which uses 4%, the LIF Withdrawal matches the Target Payment (with inflation) up to age 84 and the drops off as it uses the Maximum withdrawal limits. Try other Investment Rates to see what happens.
LIF Inflation Percent (#8) – Enter the inflation rate you want to be considered for the remainder of the LIF. The dashed orange Target LIF line will change. A 1% inflation is used for the example. The LIF Withdrawal may change depending on what withdrawal choice has been selected.
Select the Province (#9) – This is set initially to “1) AB,NB,NL,IN,SK”. If your province is not one of these, when the cursor enters the outlined cell, a small drop-down menu appears to the right of the cell. Select the other set of provinces (“2) BC,MB,NS,QC”). The remaining “Federal” value does not apply to Nortel members. There may be a change to the Chart 1 lines in later years due to the lower maximum withdrawal rates.
Select the Withdrawal Choice (#10) – This is set initially to “1) Closest Possible“. It will select a withdrawal that gets as close as possible to the Target LIF Payment/Year of #6 (including inflation) while ensuring that the Minimum and Maximum withdrawal limits are not violated. When the cursor enters the outlined cell, a small drop-down menu appears to the right of the cell. Try the other 2 choices (“2) Maximum” and “3) Minimum“) and observe the affects on Chart 1. Choose the one that best suit your circumstances.
Annuity Terms and Type (#11) – This is provided to record what was selected for the open-market annuity. It can be kept blank, if desired.
Payment Per Month/$100K (#12) – Use the link provided in the post to obtain an estimate and enter it here. When conversion time approaches, get a quote from an insurance company and enter the amount.
Yearly for Capital Value (#13) – This is calculated automatically and is the dashed blue Open-Market Annuity line on Chart 1. Use this value to set #6 (Target LIF Payment/Year) to make a comparison between the LIF and Annuity.
Open-Market Inflation % (#14) – Enter the Inflation rate as a percent that the open-market annuity is to increase each year. The dashed blue Open-Market Annuity line on Chart 1 will change. Please enter only positive values as there is no check for a negative.
Sex (#15) – This is initially set to Male. To change, place the cursor into the outlined cell, and select Female from the small drop-down menu appears to the right of the cell. Females have a longer life expectancy that males and the values of #16 and #17 as well as the lines on Chart 2 will change.
Life Expectancy in Years (#16) – This is calculated automatically when an age is entered on #4 using a column below the charts.
As an Age (#17) – This is calculated automatically by adding #16 to #4 to show the age for the average life expectancy.
Conclusion for the Example
The example was for a fictitious person but a number of conclusions can be drawn. Use the points given below to evaluate your own circumstances:
What is the risk in using the LIRA Investment Percent? – High, but at 4% it is possible to get this on the stock market.
What is the risk in using the LIF Investment Interest Rate? – High, but at 4% it is possible to get this on the stock market.
Does the LIF provide the same yearly income as the Annuity? – Yes, when the Target is set to the Annuity Yearly for Capital Value, including a 1% inflation rate, until it is exhausted.. This is from the LIF withdrawal line of Chart 1.
When does the LIF payment/capital go to zero? – At age 90 which is 6 years past the average life expectancy. This is from the Year-End Capital line of Chart 1. Life expectancy is #16.
What is the probability of being alive when LIF = 0? – There is still a 21.8% probability of being alive at 90. This is from the Probability line of Chart 2 and the same column below the charts.
What is the result when a GIC rate is used? – Using a 2.3%, LIF payments fall to about 65%. LIF capital and payments are gone at age 90 which is 6 years past the life expectancy but there is a 21.8% probability of being alive then.
Should the Annuity be taken? – It depends on how long you expect to live. For the example, the LIF is inflation resistant at a reasonable stock market rate and is good until age 90. With no inflation, it is good until age 94. On the other hand, if you do not care about inflation protection and expect to live past 94, the annuity keeps the income coming. Check this by setting #8 to 0%.
The Nortel bankruptcy and the resulting reduction of pension and loss of other benefits has caused a change to many people’s financial situation.
A few years ago I developed a lifetime finances planner that helped me and others to deal with these types of situations. It helped my family decide what needed to change when the pension reduction started. The planner can be downloaded and tried (with data entry restrictions) as a demo for 31 days. For details see FinanceBase-Lifetime Finances and follow other links to for more information and to download the application.
Lifetime Finances uses your assets, income & expenses during your lifetime to project whether you will outlive your money. It can be used at any age and provides a yearly cash flow (income less expenses, including taxes) from now to 45 years after retirement. It is especially useful it you are retired because it helps you decide what you can spend any how long your assets will last and still leave an inheritance, if you want. It also includes setting the transfer of assets on death to the surviving spouse. If desired, changes can be made in any year. You can do what-if analysis and save different scenarios.
Lifetime Finances also contains an Account manager to help keep track of your assets and liabilities and generate reports such as gross and net worth. The Accounts are linked to the planner so that at any time desired any scenario can be retrieved and updated. As your circumstances change, you can use the planner and accounts at any time to check how your financial plans need to change to adapt.