Steve and Barb on Oct. 9.Galit Rodan/The Globe and Mail
Before the restructuring hit, Steve and Barb – both in their early 50s – had mapped out a comfortable lifestyle for the time eight years from now when they planned to retire.
He’d be leaving behind a very well-paid executive position – $220,000 a year plus bonus and long-term incentives. Well, it turns out he’ll be leaving his position sooner than expected after a corporate downsizing.
Barb earns $52,000 a year in social services and will have a defined benefit pension indexed to inflation. They have a mortgage-free home in Southern Ontario and two children, one in university. They also have a family cottage with a mortgage.
Steve, who is 54 years old, figures he can get another job but probably not with the same compensation.
“Having left an executive role with significant compensation, I am concerned about replacing that in a new job and staying on plan,” Steve writes in an e-mail. Are they on track to meet their goals? Their retirement spending target is $110,000 a year after tax.
We asked Stephanie Douglas, a portfolio manager and certified financial planner at Harris Douglas Asset Management in Toronto, to look at Steve and Barb’s situation.
What the Expert Says
Steve and Barb wonder if their retirement plan is in jeopardy, Ms. Douglas says. Steve is being paid severance until August, 2025, and believes he will be able to find another job paying at least $200,000 – “a great salary but substantially less than the $350,000 to $375,000 including bonus and incentives that he was previously making,” the planner says.
Their retirement spending goal is $110,000 a year after tax, adjusted for inflation and including their mortgage payment.
Their cottage mortgage will be paid off in 2044, after which their retirement spending will fall to $80,000 after tax. They want to budget for a big trip, a new vehicle every 10 years and some renovations to their house.
They have one child still in university and plan to fund her education with the remaining balance of their registered education savings plan (RESP) account. Steve and Barb have investable assets of $1,624,000 for retirement and plan to continue contributing to their RRSPs and TFSAs. Barb’s defined benefit pension plan will pay her $23,800 a year when she retires at 60, indexed to inflation, plus a bridge benefit of about $8,800 a year until 65.
Steve and Barb plan to defer Canada Pension Plan benefits to 70 to take advantage of the 42-per-cent increase. Steve is expected to receive roughly 80 per cent of the maximum CPP and Barb about 50 per cent. Assuming Steve earns $200,000 a year in his new job, “they are still likely to achieve their eight-year retirement goal without having to sell their properties,” Ms. Douglas says. That also assumes a 5-per-cent rate of return on investable assets, portfolio management fees of 0.85 per cent, an inflation rate of 2.1 per cent and a life expectancy of 95 for both. In fact, once they have paid off their mortgage, they will have a substantial annual surplus.
“Even so, there are a few things they could do to further improve their financial situation,” Ms. Douglas says. Steve and Barb say they might decide to sell the cottage at some point. If they do, they may want to consider doing this early in retirement when they will both be in a lower tax bracket, the planner says. They could put off withdrawing funds from their RRSPs that year. They have $144,000 in unrealized capital gains on the cottage so selling the property when they are in a low tax bracket could mean paying less in taxes.
Alternatively, they have discussed moving into the cottage and selling their house. “Purely from a tax perspective, this makes a lot of sense as the sale of their principal residence would be tax-free, and they could defer capital gains on the cottage,” Ms. Douglas says. This would enable them to pay off the cottage mortgage and retire mortgage-free.
If they decide they want to keep both properties, “I would suggest they pay off as much of the mortgage as possible before retirement,” she says. “I generally suggest not going into retirement with a mortgage because changes in interest rates can have a significant impact on someone living on a fixed income.” Steve and Barb are paying 1.87 per cent on their mortgage, but it renews in November, 2025, “at which we point we assume they will be paying 4.4 per cent.”
They could also consider renting out their cottage, the planner says. They believe they could generate enough in rent to cover all expenses, which would allow them to pay down the mortgage faster.
They should also consider delaying Old Age Security benefits to 70 along with their CPP. This will increase their OAS payments by 36 per cent. “The longer they anticipate living, the better it is to delay, especially given they have the financial assets to draw from until age 70.” Steve and Barb have two investment managers and have done well with their investments. Their accounts have had annualized returns of 7 per cent to 10 per cent in the last five to 10 years.
“I would suggest they review their asset allocation as they get closer to retirement,” Ms. Douglas says. “My suggestion would be to have three to five years of their spending requirements in fixed income, cash or cash equivalents so they would not be hurt if there was a substantial fall in the stock market.” Selling stocks when the market is down could have a significant impact on the plan, particularly if they had to do this in early retirement.
They should have their fixed income/cash allocation in the accounts they plan to draw from first.
“While having fixed income in their TFSAs could help manage volatility in their portfolio, it would not be helpful if funds they were withdrawing were coming from their RRSP accounts, possibly forcing them to sell stocks when there is a pullback in the stock market.”
Steve should continue contributing to Barb’s spousal RRSP. Withdrawals should be made keeping in mind the three-year attribution rule: When a spousal RRSP contribution is made, the funds must stay in the account for the rest of calendar year plus two years before being withdrawn or Steve will be taxed for the withdrawals.
The spousal RRSP will help balance income in early retirement along with Steve’s RRSPs. “This is important for them since they are not able to income-split RRSP withdrawals; withdrawals from registered retirement income funds (RRIFs) can only be split after age 65,” Ms. Douglas says. They will be able to split pension income from Barb’s defined benefit pension plan prior to 65.
Steve and Barb should also ensure that they have an emergency fund, the planner says. “Based on their current spending, their emergency fund should be $25,000 to $48,000, or about three to six months of living expenses. Depending on their risk tolerance, they could also use a line of credit for emergencies.
Client Situation
The People: Steve, 54, Barb, 52, and their two children, 19 and 23. The Problem: Are Steve and Barb still on track to retire in eight years given Steve has lost his job?
The Plan: Steve gets a job paying at least $200,000 a year. They continue saving toward their goal, striving to pay off the cottage mortgage as soon as possible. Split income in retirement.
The Payoff: Reassurance that they can still retire comfortably.
Monthly Net Income: $12,800 (current income with severance). Assets: Bank accounts $15,000; TFSAs $303,000; RRSPs $800,000; his defined contribution pension $321,000; RESP $56,000; his locked-in retirement account $185,000; residence $1,350,000; cottage $900,000. Total: $3.9-million.
Commuted value of Barb’s DB pension: $162,291. That is the amount that she would get today if she wanted to take the pension as a lump sum and hold it in a Locked-In Retirement Account, or LIRA.
Monthly distributions: Mortgage $1,970; condo fee and property taxes $1,185; home insurance $270; electricity $125; heating $155; maintenance, garden $150; transportation, gas, car insurance, maintenance, parking $860; groceries $1,500; vacations $200; other discretionary $500; dining, drinks $480; club membership $75; golf $50; subscriptions $100; healthcare $25; life insurance $185; phones, TV, internet $385; RRSP contributions $760; TFSA contributions $1,165. Total: $10,140.
Liabilities: Cottage mortgage $413,000.
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