Understanding withdrawal restrictions, suspensions and other consequences
One of the key decisions that needs to be made around Group RRSP and pension plans is whether employers want to allow employees to withdraw money from the Group retirement program.
More and more, we are seeing employers who are concerned at the high number of withdrawals being taken out of Group RRSP plans. I’ve seen one group where 70% of the money that went into the plan came out in the same year. In my experience, plans with withdrawal restrictions operate more effectively than those without. Here are some examples and variations of withdrawal restrictions.
The first example of a withdrawal restriction is just not allow withdrawals from the plan. In these cases, a defined contribution pension plan would be ideal because pension legislation does not allow for withdrawals from pensions while members are employed. Even if the member terminates, members can take their money and move it into a Locked-in Retirement Account (LIRA), but they are still limited to their ability to withdraw money.
The whole point of preventing employees from accessing their retirement funds prior to retirement is mainly to protect them from being their own worst enemies.
Some plans will take a middle ground and will allow some withdrawals but not all contributions. An example would be a plan that allows members to withdraw their own contributions but not allow withdrawal of employer contributions.
Another example of a withdrawal restriction is to impose withdrawal suspensions. A good example of this is where employer contributions will be suspended for a period of time if the employee makes a withdrawal from the plan. Often the suspension is for 1 year. The challenge with a withdrawal suspension is the tracking falls on the shoulders of the employer and typically the person that does payroll. Sometimes the slightest consequence makes people think twice about pulling money out.
The last example of a withdrawal restriction is a withdrawal consequence (which is similar to a withdrawal suspension). Let’s say you have a tiered plan where employer will give a 2% match for employees up to 3 years of service, 4% match for 3 to 10 years of service and 7% match for 10 years plus. If the employee withdrawals money from the plan, they automatically drop to the lowest tier for 3 years. That’s the consequence for taking money out of the plan.
My five cents
I believe that people always have good intentions but not always good discipline. When we see plans with no withdrawal restrictions, suspensions or consequences, we tend to see higher withdrawals, which hurts the overall performance of the plan.
Far too many times, I’ve seen people take money out of their Group RRSP plan for vacations, cars, quads, renovations, paying off consumer debt and other modern day emergencies.
As a result, I believe that withdrawal restrictions are an important part of a successful Group retirement plan.