Sarah will also have to work part-time for five years to meet her goals of $60,000 a year
A woman we’ll call Sarah (not her real name), 53, lives in Ontario. Her two children are students at a local university. The younger, who we’ll call Frank, is an undergraduate. The older, who we’ll call Felicia, is in grad school. They have Registered Education Savings Plans to pay for costs.
Sarah is a careful record keeper. Her job with a data company produces gross income of $104,736 per year or $5,895 per month after tax and adds a non-guaranteed bonus of $5,000 per year that we exclude from our calculations. Her financial assets in RRSPs, TFSA, savings and chequing but not including her children’s RESP add up to $378,090 and her home is paid in full. Looking ahead to potential retirement, she wonders if she can retire at 60 with $60,000 income after tax and after giving $20,000 to each child for a home or wedding.
Family Finance asked Eliott Einarson, a financial planner who heads the Winnipeg office of Ottawa-based Exponent Investment Management Inc., to work with Sarah. The challenge for Sarah is to manage a retirement that could begin at 60 entirely on her own. Her company provides a modest defined-contribution pension plan matching contributions up to three per cent of her contributions. There is no partner to help with costs.
Adequacy of cash flow
She has several advantages in planning retirement. Her $900,000 home has a value nearly four times the $255,000 she paid for it 17 years ago. It is relatively economical, for her property taxes, $3,900 per year, work out to just 4/10ths of 1 per cent of estimated value.
Sarah’s goal is to achieve a $60,000 after-tax income. She has $344,739 in well-known large-cap mutual funds. Adding up all of her investments, $33,500 cash and her home, she has net worth of $1.3 million.
Achieving $60,000 post-tax retirement income will take planning and a willingness to work to age 65, Einarson estimates. Sarah has an RRSP balance of $342,187. If she can add $18,000 per year plus her employer match of $3,140, total $21,140, the account will grow to $587,690 in seven years when she is 60 assuming a three per cent after inflation annual rate of growth. The RRSP/RRIF would then be able to pay her $29,983 per year assuming the same three per cent rate of growth for 30 years to her age 90.
At 60, her Canada Pension Plan benefit, reduced by 36 per cent for a start 5 years before age 65, would add $8,320 per year, boosting Sarah’s income before tax to $38,303 per year. That is far from her goal of $60,000 per year after tax. Part time work to add $30,000 would be essential, Einarson explains.
Costs of living
Sarah could cut housing costs. If she were able to obtain $850,000 from sale of her house after fees and spend $450,000 for a similar dwelling far from Toronto, she would have $400,000 left for investment. That sum, generating three per cent per year after inflation for 30 years to age 90 would provide $19,813 annually. Added to the original $38,303 that would give her a total of $58,116 before tax. She could temporarily top that up with about $10,000 per year from part time work to age 65, then, when she could start OAS at $7,518 per year, she would have $65,634. After 18 per cent average tax, she would have $4,485 per month, close to her $5,000 monthly goal after tax.
If she waits to age 65 to retire, her financial situation would be eased. At 65, with the same $19,813 from the house sale, her RRSP with the same three per cent after tax growth assumption would have a value of $796,600. That capital would provide income with the same assumption of $45,765 with all capital and income paid out in the 25 years to age 90. Her CPP would be $13,000 per year and her OAS the same $7,518 per year. That adds up to $86,096. After 20 per cent average tax including age and pension credits, she would have $68,876 per year to her age 90. That’s $5,740 per month, more than what her budget would require and over her $5,000 monthly goal.
Sarah can increase her retirement income without taking undue risk, Einarson suggests. She could add $33,860 from a low-return savings account to the present $2,043 TFSA balance for a revised balance of $35,903. If she adds $770 per month to the currently underfunded TFSA rather than general taxable savings and then obtains three per cent per year after inflation, the account will rise to $92,150 in five years. That sum would be able to provide funds for a new or newer car with a $20,000 price tag and $20,000 gifts to each child for a wedding. The remaining balance of the TFSA, perhaps $32,150, would be an emergency fund or a basis for further growth within the TFSA.
Raising income and savings
These projections assume that Sarah’s returns to her capital average out at three per cent per year after inflation. Sarah’s choice of large cap balanced funds for her RRSP and TFSA assuming common 70/30 equity to debt investments within the funds are conservative but not immune to loss. Her investment costs, which Sarah has not tracked, could be cut by one or two cent per year, Einarson explains. If she cuts investment costs to just 1 per cent, which can be done by switching mutual funds to exchange traded fund or by shopping for low fee mutual funds, she could add one to two per cent to the returns she now gets from her conventional high fee mutual funds. What she does not pay in fees, she gets to keep.
In sum, Sarah can squeeze into a retirement with a $5,000 monthly income by doing part time work for five years to age 65. She will have full CPP, adding savings, reducing investment costs and boosting her total savings. The gain from another five years of work is $1,255 per month or $15,060 per year. That’s vacations, gifts to children, and a lot of financial security for retirement.
“This analysis is a tune-up rather than a restructuring of Sarah’s plans and portfolio,” Einarson explains. “The basis for a financially sound retirement is already in place.”
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