But a plan to spend savings down to zero in old age could leave her poor if she outlives her money.
In Alberta, a woman we’ll call Anita, 66, is divorced, retired and eager to travel. Anita has present net income of $3,832 per month. Her assets including her home, total $1,607,500, with only a $13,000 car loan counting against them. Within the next two years, Anita expects another $350,000 as an inheritance. Assuming that her car loan is paid up by then, her net worth will rise to $1,931,500.
Anita’s plan has been to take a few big trips in the next five years at a cost of perhaps $30,000 each and to rent accommodation in a warm spot in California for US$8,000 per month. Then she expects to sell her $650,000 house and $300,000 vacation cottage and use the money received to pay for life in a retirement community. She has no plans to leave money to anyone or to any cause, but planning to spend savings down to zero in old age could leave her poor if she outlives her money.
“Can I have a high rate of spending for travel for 15 years and then have enough for the remainder of my life?” Anita asks.
Family Finance asked Eliot Einarson, a financial planner who heads the Winnipeg office of Ottawa-based Exponent Investment Management Inc., to work with Anita. “She understands how expensive retirement can be,” he explains.
Setting a retirement budget
Her current average monthly spending is $3,832. We can round up to $4,000, Einarson suggests. Her planned trips will add $3,000 per month to average monthly spending, making it $7,000. At present, her income consists of $1,036 from the Canada Pension Plan, $620 from Old Age Security, and $1,385 from her RRIF with a $308,000 balance. The sum of these income sources is $3,041 per month. After 13 per cent average tax, she has $2,645 to spend. She makes up shortfalls with tax-free withdrawals averaging $1,360 per month from a corporate account. That adds up to $4,006 per month and covers basic needs.
In order to boost income to $7,000 per month, she should first tap her $190,000 RRSP. If annuitized to pay out all income and principal over the 29 years to her age 95, then with a three per cent return after inflation, it would generate $9,900 per year. That’s about $825 per month.
If she then turns to her inheritance, minus $45,000 to top up her $27,500 TFSA, she’ll have another $305,000 she can invest at three per cent per year. That’s enough to add $24,800 per year or $2,067 per month for the next 15 years, and can cover most of her travel costs.
As well, Anita can sell her cottage for $280,000 after fees and selling costs. That would provide $22,800 per year or $1,900 per month for 15 years.
Excluding any tax-free withdrawls, the pretax amounts add up to $7,833. After 20 per cent average tax, that will leave her with $6,266 per month, still a little short of her goal.
Her tax-free holdings can close the gap. First, her TFSA of $69,500 after top up will generate $5,650 per year or $470 per month for 15 years while the remaining $100,000 she has as a shareholder loan would produce $8,132 per year or $680 per month. That would make her total spendable income $7,416 per month, a little over her her $7,000 target.
In about 15 years at age 81, she will lose many of these sources of income, leaving her with only her government benefits and registered accounts. At that time, she plans to sell her principal residence and invest the funds to support her income needs. Assuming the property price only keeps pace with inflation she would net about $620,000 of capital after the sale. If invested to her age 95 and used as income she could expect this capital to add another $53,289 per year before tax, ensuring her comfortable retirement lifestyle can continue.
If Anita lives beyond age 95, with all of her financial assets spent, her house and cottage sold and their proceeds spent, she would have to rely on CPP and OAS which, using 2021 values, would add up to $1,656 per month. It is unlikely that this income would provide the late life retirement she imagines.
A backup plan
The reality of Anita’s situation is that she may not have the opportunity to spend as much as she hopes on travel. We hesitate to project current virus-driven problems in the travel industry for many years, but social distancing, may force her to save for a rainy day or for life beyond her travel plans. Anita can set a reserve with a standby monthly contribution of $500. After 29 years with interest at 3 per cent, the account would have $271,300. This reserve would be prudent for the good fortune of longer than expected life.