“We are a young family hoping for some help prioritizing our finances so that we can afford a large renovation (or move) in about four year’s time,” Adam writes in an e-mail.
With a toddler and a baby, their small Toronto-area bungalow is growing cramped, Adam adds. “I’m sure our dogs would also love the extra space.”
Adam and his wife Maureen are both 34, with well-paying jobs in the public service and defined benefit pension plans. She is on parental leave for another couple of months after which they will trade places, with him taking four months off, “so we are on a reduced income for the next while,” he says. They’ll be facing daycare expenses starting in the fall and are uncertain what the effect will be on their cash flow.
Expanding the house and adding a second storey could cost about $400,000, Adam figures. “This would give us our dream house and one we can grow in,” he adds. Maureen, though, is hesitant, wondering whether it would make more sense to simply buy a larger house in the same neighbourhood.
“Will our finances force us to do a smaller renovation?” Adam asks.
Long term, they want to retire at age 57 – the earliest they can get full pensions – with $66,000 a year after tax.
We asked the duo of Paul Tyers, managing director of Wealth Stewards Inc. of Toronto and winner of the PlanPlus financial planning award for Canada in 2017 and 2018, and Andrew Brydon, a chartered professional accountant and Wealth Stewards counsellor, to look at Adam and Maureen’s situation.
What the experts say
Adam and Maureen should be able to manage the daycare costs once they are both back at work, Mr. Tyers and Mr. Brydon say. The average cost of daycare in Toronto is $1,700 a month for each child. This is not expected to affect the couple’s other financial priorities.
They suggest the couple continue their current contributions to their registered education savings plan ($5,000 a year) to take full advantage of the federal government grant. “Additional funds are better utilized elsewhere.”
Adam and Maureen are contributing a combined $2,000 a month to their tax-free savings accounts and $200 a month to their registered retirement savings plans. Based on their income and RRSP contribution room, the planners suggest lowering the TFSA contributions to $1,000 a month and increasing RRSP contributions to $1,200 a month.
“Based on their marginal tax rates, they will save 43 per cent of the RRSP contributions in income taxes,” the planners note in their report. Maureen and Adam could then use the tax refunds from the RRSP contributions to pay down the mortgage further.
In three years, based on current income ($218,000 before tax), they will be able to remortgage their home for an additional $400,000 when the mortgage comes up for renewal, the planners say. This will cover the $400,000 in renovation costs. Their mortgage payments will increase, but they will be able to afford the additional cash outflow by halting TFSA contributions.
After they stop working at age 57, Adam and Maureen should convert their RRSPs to a registered retirement income fund (RRIF) rather than waiting until age 71 and start withdrawing the minimum amount annually, Mr. Tyers and Mr. Brydon say in their report. “This will minimize their taxes over the long term, while also avoiding the claw-back of Old Age Security benefits.
The planners point to an important omission in the couple’s circumstances: Neither has a will or power of attorney. “We highly recommend implementing wills and powers of attorney,” they write. “Include a guardian agreement in the wills to ensure your children are taken care of in the manner that you wish in case of an unforeseen event.”
Because Adam and Maureen’s investment horizon is long, and they both have pension plans, they can take on a higher level of risk in their investment portfolio, the planners say. They recommend Adam and Maureen invest their RRSP funds 70 per cent in stock and stock funds and 30 per cent in fixed income.
They may want to use TFSA funds for their children for discretionary purposes such as sports and/or arts activities in the next few years, so their TFSA investments should be less volatile. The planners recommend a balanced portfolio of half stocks and half bonds or other fixed income. They recommend low-cost securities such as exchange-traded funds that track the major stock indexes.
In the first year of retirement, Adam and Maureen will have combined defined benefit pension income of $173,000 a year (in future dollars) as well as withdrawals from their RRIFs of $12,000. The planners recommend deferring Canada Pension Plan and Old Age Security benefits to age 70. By doing so, the couple will get a monthly CPP payment that is 42 per cent higher than if they started at age 65 and OAS that is 36 per cent higher.
Assuming an average annual rate of return of 5.1 per cent and inflation of 2 per cent, their investable assets should last to age 100, at which time their estate – including their home – could be worth a projected $5.7-million in future dollars.
Client situation
The people: Adam and Maureen, both 34, and their children
The problem: Can they afford a $400,000 expansion of their small house?
The plan: Refinance when the mortgage comes up for renewal and shift money used for TFSA contributions to paying it off.
The payoff: A better sense of how to set priorities.
Monthly net income: $13,360
Assets: Cash $10,000; TFSAs $50,000; RRSPs $21,000; RESP $12,000; house $850,000; current cumulative value of their pensions $28,000. Total: $971,000.
Monthly outlays: Mortgage $2,700; property tax $295; home insurance $65; utilities $235; maintenance $200; transportation $585; grocery store $715; clothing $370; car loan $675; gifts, charity $310; vacation, travel $100; personal care $40; dining, entertainment $800; pet expenses $680; subscriptions $30; health care $115; life insurance $20; phones, TV, Internet $210; RRSPs $200; RESP $415; TFSAs $2,000; pension plan contributions $1,835. Total: $12,595
Liabilities: Mortgage $310,000; car loan $35,000. Total: $345,000
Editor’s note: April 20, 2019: Incorrect pension and total asset information appeared in an earlier version of this story.
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