Melissa and Michael wonder if they can avoid dipping into their savings while their family income is low.Amber Bracken/The Globe and Mail
Melissa is 36 and Michael is 38. They have two young children and a house with a mortgage in Alberta.
“I work while my husband stays home with the kids, a setup he enjoys and that we’d like to make work for at least another year or two,” Melissa writes in an e-mail. Michael is a teacher and Melissa works in communications. She’s working four days a week while the children are small, earning $80,000 a year plus another $10,000 or more freelancing. “Even though we can just break even or save a little, we value this time together.”
They have about $100,000 in savings and a mortgage with about $150,000 remaining. “Neither of us has a pension,” Melissa writes. “We consider these years – with young children at home – to be our lean-earning years and are okay with that,” she adds. “This phase won’t last forever and we will soon have more disposable income.”
Their questions: Can they avoid dipping into their savings while their family income is low? How should they begin investing for retirement? Are they jeopardizing their ability to retire by taking time off now?
We asked Janet Gray, an advice-only certified financial planner with Money Coaches Canada, to look at Michael and Melissa’s situation.
What the Expert Says
Melissa and Michael are off to a great start by not having debts other than the mortgage, Ms. Gray says. Their challenge now is juggling their reduced cash flow with mortgage payments, saving for their children’s postsecondary education and saving for the day when they eventually retire.
Melissa’s income will rise to its former $100,000 a year when she returns to work full-time, estimated to be in 2027 when the children are both in school, the planner says. Michael’s income is less certain, depending on where he decides to work and whether he works full-time. In her forecast, Ms. Gray assumes Michael earns $60,000 a year in 2027.
If they have any surplus income now, it should go to Melissa’s registered retirement savings plan (RRSP), she says. If Michael’s income is $60,000 or less, “it’s better to invest in a tax-free savings account for him.” The benefit of RRSP contributions is that you invest in high-income years and receive a tax deduction, and then withdraw in lower-income years – such as retirement – at a lower tax rate, the planner says.
If either of them has an opportunity in the future to join a group RRSP at work, they should take advantage of it.
Melissa could also contribute to a spousal RRSP for Michael. She would get the tax deduction and he could pay lower taxes when the RRSP money is withdrawn. Note, though, that there is an attribution period on spousal RRSP withdrawals.
That is, the contribution money must stay in the account for the rest of the calendar year plus two more years before it can be withdrawn.
Ms. Gray suggests they get an estimate of their Canada Pension Plan entitlement from Service Canada to give them an idea of future benefits. At age 65, it is expected they both will receive maximum Old Age Security.
Michael and Melissa have some guaranteed investment certificates maturing soon and ask whether they should renew them. “Move the maturing GICs to cash for unexpected expenses or emergencies at least until they are working full-time again,” the planner says. “Look for a high-interest savings account to hold the GIC money,” Ms. Gray says. “They can fairly easily find HISA rates that are higher than short-term GIC rates.”
As well, their TFSA could be used as emergency funds if needed. “The $17,000 in their bank account would cover about 3.5 months of expenses, which is a great hedge against financial surprises,” the planner says.
Michael does not have long-term disability insurance so there would be a strain on one income if he were disabled long term while working. Melissa has group LTD at work.
With a young family and a mortgage, life insurance is important, Ms. Gray says. Melissa has life insurance at work but she likely needs more, and Michael has none. Life insurance at their age is relatively inexpensive if they buy term policies.
They are also concerned about dipping into their savings. Melissa’s salary plus her $10,000 in freelance income should allow Michael to stay home for a couple of years with no savings withdrawals needed, Ms. Gray says. If Melissa earns even more freelancing, she could use the extra income to top up the RESPs or save for such things as child-related expenses and home or car maintenance.
“Once both are working full-time, there could be enough to save $5,000 annually to Melissa’s RRSP and another $3,000 annually between them to their TFSAs,” the planner says. If they start saving for retirement in 2027, they could have more than $45,000 a year to spend after tax at age 65 (in today’s dollars), she says. “Additional savings and raises in pay will increase the estimated future amount they can spend.”
By the time they retire, their mortgage will have been paid off and the children’s expenses will have ended. Once the mortgage is paid off – estimated in 2035 at the current rate and payment amount – then they can divert those funds to retirement savings, Ms. Gray says. “Because their mortgage rate will likely be higher at the next renewal, they can expect that their payments, their amortization time, or both will increase,” she notes.
Once they are back to full earning power, Michael and Melissa should top up their registered education savings plan (RESP) each year. A contribution of $2,500 is the annual amount needed to obtain the maximum federal Canada Education Savings Grant of $500 a year, up to a lifetime maximum grant of $7,200 for each child.
“RESPs are a great savings vehicle for their children’s postsecondary education,” the planner says. “If early years are missed, they can combine two years into one and contribute a maximum of $5,000 per child until the contribution room is caught up,” the planner says. “I suggest seeing if they can automatically contribute the minimum per child of $208 monthly, or $416 for both, or set aside $5,000 from freelance income to make contributions annually.”
Michael and Melissa should prepare wills and powers of attorney as soon as possible, Ms. Gray says. “It’s so important to have your affairs in order, especially with a young family,” she says. “Ask friends and family for a lawyer referral – it’s often not as expensive as people think.”
Once they have goals and intentions more clearly outlined, Michael and Melissa are advised to look for unbiased and transparent advice to implement their financial plan, Ms. Gray says. For their investment portfolio, ask what the fees might be and discuss the minimum baseline of service so they can find the most suitable fit.
Client Situation
The People: Michael, 38, Melissa, 36, and their two children, ages 1 and 3.
The Problem: Are they jeopardizing their retirement spending by taking time off work now while the children are young? How can they best manage their competing financial demands?
The Plan: Use maturing GICs to add to their cash emergency fund. Any surplus funds should go first to Melissa’s RRSP. Michael should consider long-term disability insurance. Draw up wills and powers of attorney.
The Payoff: A clear path to achieving their financial goals while taking time out for their young family.
Monthly net income: $6,835.
Assets: Cash in bank $17,260; non-registered stock portfolio $6,400; her TFSA $30,590; his TFSA 0; her RRSP $42,500; his RRSP 0; RESP $3,055; residence $400,000. Total: $500,000.
Monthly outlays: Mortgage $1,260; property tax $370; utilities $355; home insurance $105; maintenance $190; garden $50; transportation $305; groceries $1,500; clothing $120; gifts, charity $65; vacation, travel $400; dining, drinks, entertainment $685; personal care $20; club memberships $75; sports, hobbies $140; subscriptions $20; phones, TV, internet $130. Total: $5,790.
Liabilities: Mortgage $158,700 at 2.59 per cent.
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