Larry has no work pension while Liv, who is 59, is self-employed with little in the way of earnings.Carlos Osorio/The Globe and Mail
Larry and Liv have worked hard, raised two children and paid off the mortgage on their $1.5-million Toronto-area house. Now, at age 65, Larry – who works in construction – is ready to hang up his hard hat and retire. When he does, they’ll be living mainly off their savings and investments. He has no work pension. Liv, who is 59, is self-employed with little in the way of earnings.
As news of the virus pandemic spread, Larry – a do-it-yourself investor – wiped down his computer keyboard and hit sell. “I reduced my exposure to equities at a minor cost a number of weeks ago,” Larry writes in an e-mail. “I know many advisers recommend never to sell your equities,” he writes. “But I have significantly reduced my losses and feel much less stress having done so.”
Larry intends to get back into the market “when these concerns are dissipating,” although he realizes “that timing this re-entry will not be precise.”
When Larry retires, he’ll be leaving behind a salary of $260,000 a year. They would like to stay in their house as long as possible. Because their living expenses will drop substantially when both children move out to attend university, their retirement spending goal is $86,000 a year after tax.
“What can be done so we can afford it?”
We asked Ian Calvert, a financial planner and portfolio manager at HighView Financial Group in Toronto, to look at Larry and Liv’s situation.
What the expert says
The challenge for Larry and Liv now will be to rebuild their investment portfolio because their retirement plan depends so heavily on it, Mr. Calvert says.
If they were to continue to hold cash and guaranteed investment certificates, “it would make it extremely challenging to meet their goal of spending $86,000 a year without depleting their RRSPs very quickly,” the planner says. The only pension income they will have is $2,145 a year from Liv’s former employer.
They could start by drawing up a comprehensive and clear investment policy statement that outlines the minimum and maximum range for the two main asset classes: equities and fixed income. They will need to rebalance their holdings as the portfolio drifts to stay within these guidelines and manage risk. This takes the emotion out of rebalancing, “which can be difficult to execute for even the most seasoned investor,” Mr. Calvert says.
If they are eager to get back into the market to start generating dividend income, they should keep one year’s worth of expenses, or portfolio withdrawals, in cash or high-interest savings, he says. He cautions against trying to time the market. “The goal is not to be precisely right by catching a stock market bottom, but approximately right by investing at attractive prices.”
If, instead, they are planning to average into the market over time, they should set a specific timeline and not deviate from it, the planner says. Averaging in and staying committed to the appropriate amounts and intervals when stock prices begin to rise can be very challenging, he says. “This approach takes a lot of discipline.”
Because so much of their retirement security depends on their registered retirement savings plans, they cannot afford an ounce of speculation in their portfolio, Mr. Calvert says. “They need to keep it boring and stick to owning solid businesses with a history of paying and raising their dividends” in addition to their fixed-income holdings.
Next, Mr. Calvert looks at the couple’s projected retirement income. Larry will get full Canada Pension Plan and Old Age Security benefits totalling $19,700 a year. Liv has elected to take reduced CPP of $2,300 at the age of 60. They’ll need to draw about $77,000 from their savings in the first year of retirement, the planner says.
The first step would be to convert their RRSPs to registered retirement income funds (RRIFs), he says. This has a couple of advantages. First, RRSP withdrawals often come with a fee; RRIF withdrawals do not. More important, by converting their RRSPs to RRIFs, they will be able to split Larry’s now-eligible RRIF pension income because he is 65. As well, he will be entitled to the $2,000 federal pension income tax credit, Mr. Calvert says. Larry’s RRSP is much larger than Liv’s.
“It’s important to remember that the income splitting does not happen at the time of the withdrawal,” the planner says. It takes place when filing the personal income tax return for the year.
With about $775,000 in their combined RRSPs, an annual withdrawal from their RRIFs of $77,000 represents about 10 per cent of their retirement portfolio, Mr. Calvert notes. With an assumed rate of return of 5 per cent a year on average, their savings – including their tax-free savings accounts – will be depleted by 2035, when Larry is 81 and Liv is 74.
As a result, “they will need to consider downsizing the family house at some stage,” the planner says. If they sold their house and bought a less expensive one, they could add, say, $500,000 to their investment portfolio. This would be valuable for two reasons, he says. First, a joint non-registered investment account would give them greater flexibility in managing their retirement income.
“By introducing a non-registered account, after maxing out their TFSAs, Larry and Liv can balance their withdrawals and have more control of their income and taxes for the year,” Mr. Calvert says. For example, instead of withdrawing $77,000 from the RRIFs, they could withdraw $50,000 and take $23,000 from their joint non-registered account, which holds after-tax dollars, he says. Not only would their RRIFs last longer, but the family taxes would be about $4,400 less.
By shifting a portion of their assets from real estate to easily traded, or liquid, investments, “they are creating more income-producing assets which they undoubtedly require for their retirement cash flow.”
Having non-registered savings to tap will give them greater flexibility to make larger withdrawals if unexpected expenses arise, the planner says. “This is because they would not be exposed to a high level of taxes to get the funds in their hands,” he adds.
“By downsizing their house and adding $500,000 to their investment portfolio – assuming they can achieve an average annualized return of 5 per cent – they would still have about $700,000 in their portfolio when Larry turns 90,” Mr. Calvert says.
Client situation
The people: Larry, 65, and Liv, 59, and their children, 18 and 16.
The problem: Can they afford for Larry to retire and still maintain their lifestyle, especially with the turmoil in financial markets?
The plan: Larry can retire, but they will have to downsize their house at some point to add to their investment portfolio. Build a balanced portfolio with a view to earning 5 per cent a year.
The payoff: Financial security
Monthly net income: $13,300
Assets: Cash in bank $1,500; his life insurance cash value $70,000; her TFSA $1,000; his TFSA $46,000; her RRSP $174,000; his RRSP $598,500; estimated present value of her DB pension $40,000; RESP $94,000; residence $1.5-million. Total: $2.5-million
Monthly outlays: Property tax $665; home insurance $100; utilities $525; maintenance, garden $800; transportation $2,105; groceries $1,865; clothing $335; line of credit $230; gifts, charity $570; vacation, travel $1,665; other $250; personal care, hobbies $155; club memberships $440; dining out, entertainment $965; university expenses $415; professional association $50; subscriptions $95; other personal $200; doctors, dentists $335; drugstore $170; massage $200; life insurance $260; disability insurance $225; phones, TV, internet $420; Total: $13,040 Surplus of $260 goes to unallocated spending.
Liabilities: Line of credit $80,000
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