Alex Filipe/The Globe and Mail
Jeff is retiring from his $145,000-a-year executive job soon and his wife, Vera, who earns $93,000 a year in health care, plans to follow in December. They have defined benefit pension plans, indexed to inflation, that will pay them more than $100,000 a year combined.
Jeff is 64, Vera 63.
“We have three children and all of them are university graduates,” Jeff writes in an e-mail. “We paid for their degrees and accommodations so they essentially have no debt.” This has affected their retirement savings, Jeff adds. Apart from their pensions and their real estate, their savings consist of their registered retirement savings plans.
Vera and Jeff have a mortgage-free house in small-town Ontario and a cottage on a nearby lake. “We have set up tax-free savings accounts but to date we have not used them,” Jeff writes. They have four questions. “Can we afford to retire? We like to travel. How do we structure withdrawals from our RRSPs keeping in mind taxes? How do we use our TFSAs? When do we start Canada Pension Plan and Old Age Security, taking into consideration taxes?”
They also want to help their children financially. Their retirement spending goal is $80,000 a year after tax.
We asked Ian Calvert, a vice-president and principal of HighView Financial Group in Toronto, to look at Jeff and Vera’s situation. Mr. Calvert holds the certified financial planner and chartered investment manager designations.
What the expert says
Jeff and Vera can comfortably spend $80,000 a year when they both retire, including $15,000 a year for two trips, Mr. Calvert says.
They have negligible debt and total assets of about $2,045,000. “Of this amount, 73 per cent of their assets are held in real estate.” This leaves about $540,000 of investment assets, held all in their RRSPs.
“On the surface, this number appears low for their total retirement savings and would make spending $80,000 per year a challenge,” Mr. Calvert says. However, Vera and Jeff both have defined benefit pensions, including small pensions from previous employers.
Funding their expenses should be relatively easy based on the expected sources of pension cash flow, the planner says. When both are aged 65, in 2024, they will have combined pension income of $103,244 a year. Jeff’s pension income is $66,315 a year and Vera’s will be $36,929. “This income, less income taxes of $12,650, and after splitting eligible pension income, will provide them with after-tax cash flow of $90,594 a year, which will satisfy their spending goals with a healthy buffer,” Mr. Calvert says.
They should now focus on planning for the other three sources of taxable income that will be a part of their retirement plan: CPP, OAS, and RRSP/registered retirement income fund withdrawals, he says.
“One significant tax planning opportunity that is not currently being utilized is the TFSA,” Mr. Calvert says. “TFSAs are one of the few places where you can accumulate assets and income in a tax-free structure for life.”
They each have available TFSA contribution room of $81,500. As one of their major goals is to help their children financially, they should use the TFSAs as a vehicle to transfer their wealth. This would be part of their estate planning. Helping the children financially now, with an advance inheritance, would be difficult as Jeff and Vera would be punished for taking a lump-sum withdrawal from their RRSPs.
The taxes paid on their final tax returns will be determined not only by the amount, but also the location of their wealth, the planner says. “Keeping the funds for their children and beneficiaries in the wrong type of accounts can come with very adverse tax consequences.”
In their first year of retirement, Jeff and Vera should begin cycling funds from their RRSPs to the TFSAs. “The logic behind this plan is to shift the assets that sit in an account that will be punished on the ultimate transition of wealth (RRSP/RRIF) to one of the best places to transition your funds to future generations (TFSA),” he says.
“This doesn’t mean you’re avoiding taxes on the funds in your RRSP,” the planner says. “You are choosing to have them taxed early in retirement, at a lower marginal tax rate.” This can make a big difference in the amount of after-tax dollars in one’s estate.
To implement this strategy, Vera and Jeff should convert their RRSPs to RRIFs and begin to take the minimum withdrawals as soon as they retire from work. The combined minimum withdrawal would be about $20,000 a year. This would put their taxable income at about $62,000 each, he says.
Jeff and Vera ask when the ideal age would be to take both their CPP and OAS retirement benefits. “There is no one-size-fits-all answer,” Mr. Calvert says. Because Jeff and Vera have substantial pension income, they could consider delaying their CPP and OAS benefits to age 70.
This makes sense for three reasons. First, they don’t need the cash flow between the ages of 65 and 70. Second, it will keep the benefit income off their tax returns, leaving them in a lower tax bracket in which to shift funds from their RRIFs to their TFSAs. Third, it will increase the amount of income received at age 70, which would help with rising health care costs in their old age. At age 70, their CPP benefits will be 42-per-cent higher and their OAS payments 36-per-cent higher than if taken at age 65.
Jeff and Vera have their RRSPs invested in almost 100 per cent publicly traded equities. “Jeff made the decision last year to move to this more aggressive asset allocation,” Mr. Calvert says. An all-stock portfolio “is not for everyone, and certainly has experienced greater volatility and challenging returns to start 2022,” the planner says.
Even so, there is no urgency to change this asset allocation for two reasons, he says. Thanks to their pension income, they are not dependent on the assets or income from their RRSPs to fund their cash flow needs. So they have no need to sell when markets are down.
As well, they want to leave an inheritance for their children, so their investment horizon is longer than just their retirement. “The extra potential growth from holding all equities could benefit the children in time.”
How investors behave with all-stock portfolios is another matter entirely, Mr. Calvert says. “The deeper swings in value (up and down) tend to lure individual investors into making poorly timed buy and sell decisions.” The result is lower ultimate returns.
If Jeff and Vera can truly take a long-term view and allow their equity portfolio to compound over time – without panic selling or and fear of missing out buying – then their strategy will work just fine. “Otherwise, they should consider holding at least 20 per cent of their investment assets in cash and high quality bonds.”
Client situation
The people: Jeff, 64, Vera, 63, and their three young adult children
The problem: Can they afford to retire now and travel? How should they use their TFSAs? What tax strategies are available to draw on their registered savings?
The plan: Contribute the maximum to their newly opened TFSAs and invest for the long term with a view to leaving an inheritance to their children. Draw down their RRSPs when they first retire and are in a relatively low tax bracket. Defer government benefits to age 70.
The payoff: Financial security
Monthly net income (2021): $13,650
Assets: Cash $5,000; his RRSP $189,000; her RRSP $350,780; residence $750,000; cottage $750,000; estimated present value of his DB pensions $905,000; estimated present value of her DB pensions $505,000. Total: $3.45-million
Monthly outlays: Property taxes, home and cottage $680; water, sewer, garbage $120; home and cottage insurance $400; electricity $130; heating $100; maintenance $50; transportation $895; groceries $1,000; clothing $200; car loan $45; gifts, charity $210; vacation, travel $1,335; dining, drinks, entertainment $100; personal care $50; pets $150; sports, hobbies $70; other $55; life insurance $95; phone, cellphone, TV, internet $315; RRSP $605. Total: $6,605
Liabilities: Car loan $14,000 at 3 per cent
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Some details may be changed to protect the privacy of the persons profiled.
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