Like many people their age, Liam and Olivia can’t wait to retire from the workforce, take a big trip somewhere far away, then come home and adore their grandchildren. Liam is 64 and Olivia is 62. Liam, who was downsized some time ago, makes $25,000 a year as an independent contractor. Olivia earns $70,000 a year as a technician.
They have saved a substantial sum.
The couple have a mortgage-free home in the Greater Toronto area and two adult children who are financially independent.
“We have always been savers,” Olivia writes in an email. “We pay cash for everything. Once the house was paid off, we saved up and put our two children through college. We traveled every year with our children when they were at home and we try to do it now even though they are adults,” she writes.
For their first big retirement vacation, they can’t decide between the Galapagos or New Zealand, but say “let’s drink to each other and enjoy our retirement!” None have a company pension. Now that they have saved, they are not sure how to retire. His retirement spending goal is $70,000 a year after taxes.
We asked Gregor Daly of Mississauga-based Efficient Wealth Management Inc. and Florin Pop, a portfolio manager at Tactex Asset Management Inc. of Thornhill, Ontario, to discuss Liam and Olivia’s situation. Mr. Daly is a Level 2 Chartered Financial Analyst (CFA) candidate and has passed the Certified Financial Planner (CFP) exam. Mr. Pop has the designations CFA and CFP.
What the experts say
Olivia and Liam have accumulated more than $1 million in their savings and investment accounts and will qualify for nearly the maximum Canada Pension Plan and full Old Age Security benefits, the planners say in their report. “Their main concern is the feasibility of a plan that will allow them to retire as soon as possible and spend $70,000 a year, after taxes.”
First, they should consider delaying both their CPP and OEA until age 70, planners say. The government will increase your CPP benefit by 0.7 percent and your OAS benefit by 0.6 percent for each month after age 65 that you delay receiving the benefit. At age 70 (with CPP increased by 42 percent and OAS increased by 36 percent), most of your expenses would be covered by government-backed inflation-indexed benefits.
“To illustrate, approximately $66,000 in today’s dollars of their $70,000 goal would be covered at age 70 by their government benefits, reducing their financial risk to a minimum and allowing them to live the rest of their lives without worry.”
Inflation is retirees’ worst enemy because it erodes the purchasing power of non-indexed pensions and decimates the real value of savings and sometimes investment accounts, they say. “For people trying to hedge against longevity risk, the risk of having a higher-than-average lifespan, government benefits offer very compelling attributes because payments are guaranteed and inflation is adjusted throughout your life.”
For Olivia and Liam, deferring CPP and OAS benefits is even more compelling because they have enough investments to fund their retirement years until age 70. because the benefits of deferring are very attractive.”
A second concern for Olivia and Liam is developing a retirement and tax strategy.
“From a tax perspective, we would recommend that at retirement, Olivia and Liam aim for a gross income of about $49,000 a year each,” the planners say. With a household gross income of $98,000 and a tax bill of approximately $11,000, they could maintain their desired after-tax spending budget of $70,000, contribute annually to their savings accounts tax-free (currently a combined total of $13,000 per year), and still have modest additional discretionary resources. money. Any unexpected expenses must be financed with money from your unregistered accounts or your TFSAs.
The planners recommend that Liam and Olivia convert their RRSPs into registered retirement income funds and make the necessary withdrawals to reach their target income level on an annual basis. “The advantage of using the RRIF is that, after age 65, they would each receive a $2,000 federal pension tax credit. Plus, your RRIF withdrawals would be eligible for income splits, which could lower your family’s tax bill.
When hoarding assets, being exposed to stock market volatility can be a good thing, planners say. “In retirement, when we need to start spending these assets, volatility becomes an issue.” The risk of having to sell investments at a loss can threaten the capital that retirees have built during their working lives, they add.
“The five years immediately before and after retirement are of particular concern, as large losses in a portfolio during this time may be difficult or impossible to recover.” This is known as return sequence risk, and the solution is to ensure that you reserve enough capital in low-volatility (or no-volatility) assets each year to provide the required cash flow. “We prepare our clients for this by adjusting portfolios prior to retirement using a tiered portfolio of guaranteed investment certificates, with GICs maturing each year to meet cash flow requirements.”
Liam’s RRSP is approximately 80% globally diversified equities and 20% fixed income, while Olivia is approximately 90% globally diversified equities and 10% fixed income. As such, both are heavily exposed to the stock market, so there’s a risk they’ll need to sell assets at a loss when they need the cash flow, planners say. “They should rebuild the portfolio to address this risk. A portfolio that includes some tiered GICs would certainly work well for both of you.” After age 70, when their reliance on the portfolio is minimal, they may reassess their investments and take on a higher level of risk in line with their risk tolerance.
Assuming an investment in a medium risk portfolio, 60% stocks and 40% fixed income with an expected return of 4.6%, inflation of 3% and a life expectancy of 95 years for both, the planners’ projections show that Olivia and Liam can fully retire immediately if they choose. “In fact, with the desired spending of $70,000 per year after taxes, Olivia and Liam’s retirement is overfunded.”
A complete financial plan can give people answers to all the questions they had when they embarked on the journey, planners say. “Sometimes, even bigger questions arise. For Olivia and Liam it’s about discovering how their excess wealth will enrich their lives or the lives of their loved ones.”
People: Liam, 64, and Olivia, 62.
The problem: Can they afford to retire from work in a year or so on $70,000 a year after taxes? Will your retirement savings last?
The plan: Consider deferring government benefits until age 70 to take advantage of the higher guaranteed payment. Convert RRSP to RRIF and start withdrawing. Gross income goal of $49,000 per year each.
The reward: A financially secure retirement.
Net monthly income: $7,915.
Assets: Cash $35,000; your TFSA $100,500; your TFSA $102,000; his RRSP $475,000; his RRSP $346,000; residence $1,200,000. Total: $2.3 million.
Monthly expenses: Property tax $520; water, sewer, garbage $105; electric $105; heat $155; maintenance, garden $55; car insurance $230; fuel $500; maintenance, oil $225; groceries $800; clothing $20; car loan $350; gifts, charity $225; vacation, travel $835; food, drinks, entertainment $395; personal care $45; subscriptions $55; health care $125; life insurance, disability $160; communications $270; RSSP $900; TFSA$920. Total: $6,995.
Passive: Car loan $13,225 at 0.5 percent.
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