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At 49, she is in good health in spite of serious past illnesses and earns $55,000 a year.She wants to sell a large house she shared with her late husband, and she plans to move to a condo soon. Meticulous in planning for retirement, Ms. Quillen (not her real name) would like to leave her job within a few years, but she is not sure when her pensions and investments will produce her goal of $50,000 a year before tax. In preparation for retirement, she is also uncertain how much current spending to divert to the period when her income stops and various pensions begin.

“Deciding when to retire is a pressing concern,” she says. “My health is good now, but it might not last. So should I retire soon and take my pension, perhaps getting another job? Or hang on to my defined benefit, indexed plan that will become more valuable as time goes on?”

Irene is typical in her work history but unusual in the attention she has given to planning. Her goals, she says, are to simplify her investments and to achieve better results, to make monthly contributions to registered retirement savings plans, to buy a new car in five years, to have two vacations each year, to make generous contributions to her two grown children and to her church, and to make a smooth transition to retirement.

What our expert says

Facelift asked Michael Cherney, a certified financial planner in Toronto, to speak with Irene, to help her to refine her planning, and to determine if her goals can be realized.

His view is that she can achieve her plans. Assuming that Irene lives to age 90, more than life insurance tables predict but, as Mr. Cherney says, “an error on the side of caution,” and that long-term inflation is 3 per cent a year, then with returns of 6 per cent in non-registered accounts and 7 per cent in her RRSP, she can expect about 3- to 4-per-cent annual real return on her investments.

She will have to give up 6 per cent a year from her Canada Pension Plan benefits for each year before age 65 that she retires. Claiming at age 60, the earliest possible, would therefore cost her 30 per cent of maximum CPP benefits. However, when she claims her CPP benefits, a new calculation base goes into effect that likely will leave her at the maximum CPP retirement payout for early retirement. In her case, while she has not worked continuously, the merging of her widow’s benefits and her work-based benefits would push her payout at age 60 to $552, which is 70 per cent of the maximum $788.75 in today’s dollars.

Irene will also qualify for Old Age Security at age 65. The current OAS benefit is $442.66 a month indexed to inflation. Since Irene’s annual retirement income is going to be about $50,000 in current dollars, it should not be subject to the clawback that begins at $56,968, Mr. Cherney says.

After running some spreadsheets on the various combinations of retirement ages, Mr. Cherney notes that leaving the Ontario Municipal Employees Retirement Board (OMERS) pension plan at age 50 and working at another job to age 56, Irene would have a total work pension income of $17,875 a year, but by working within OMERS until age 56, she would have a $33,768 annual pension in current dollars. In other words, by investing another seven years in her public sector job, she would add 89 per cent to her work pension.

Moreover, Mr. Cherney cautions, “with capital markets in turmoil, it does no harm to err on the side of conservatism.”

Leaving OMERS before complete retirement at 65 has a profound result for the rest of her life. At 80, Irene would have annual pension income of $65,947 in 2033 dollars, compared with $30,833 in 2033 dollars if she were to leave OMERS at 50. At 90, total pension income of $88,627 in 2043 dollars would compare with $41,438 in 2043 dollars she would have if she left OMERS at 50.

But Irene’s target of $50,000 a year total income will be achievable if she works until 56 within OMERS, Mr. Cherney says.

Irene’s retirement income will be substantially influenced by what she can get from her registered and non-registered investments that total $193,000. She has 20 mutual funds ranging from low-fee equity funds sold by Phillips Hager & North to conventional fee funds sold by Fidelity Investments to some high-fee labour-sponsored venture capital funds.

As well, she has sector funds in health care, regional funds, emerging markets funds, and a few diversified equity funds. Some funds that tend to have high turnover of stocks and thus produce significant distributions are in her taxable account.

It’s not a good mix, Mr. Cherney says. He notes that there are no bonds at all in the portfolio and not even balanced funds that have bonds. Irene figures that her OMERS and CPP pensions are as solid as government bonds, which is true, Mr. Cherney agrees.

Nevertheless, the absence of bonds means that when stocks crumble, there can be no offsetting capital gains on bonds, which tend to rise when stocks fall. As well, there is a conspicuous lack of value funds, he says. A few funds, including emerging markets portfolios that did well in 1993 and 1999, are, as Mr. Cherney says, “more trouble than they are worth.”

Irene worries that she does not have enough life insurance to provide benefits for her two grown children. No longer insurable, she has a $275,000 policy that pays five times her current salary of $55,000 a year but that ceases coverage when she turns 65, a $50,000 policy converted from her husband’s work policy, and a $33,000 policy, the face value of which falls by 10 per cent a year until it reaches $3,000 at age 70.

Irene finds this frustrating, for by living to age 70, she would wind up with as little as $53,000 of life insurance death benefits. “It is a sad reality that there are no economic or affordable insurance policies available, given that she has a history of serious illness,” Mr. Cherney says.

Irene’s estate plan is not hopeless, however. Her heirs will be able to receive a portion of a $200,000 inheritance she expects. And her own principal residence, when sold, will not be taxed and so will leave full value for her heirs, Mr. Cherney says.

Irene has made realistic plans for her retirement, Mr. Cherney says.

“She has ample funds for her reasonable and modest way of life. She can set aside a few thousand a year for a new car that she wants in 2007 and for a couple of vacations each year. She has ample money for making charitable contributions. Indeed, Irene’s planning shows how much a person of ordinary means can do to arrange a comfortable and secure retirement.”

“I have a lot of tolerance for risk, but that does not mean I should be risking my basic pension,” Irene says.

“So I think I am going to work longer, even to age 59, to build the base for a much stronger pension than I would have if I retired in the near future.”

Interested in being considered for a free Financial Facelift? Drop a line to the writer at 444 Front St. W., Toronto, M5V 2S9, or at the address below with details of your situation.

ajames@total.net

Client situation

Irene Quillen, 49, is an accountant for a municipal school board. She is planning retirement.

At 31, Louisa and Fred are at a financial crossroads. She wants to cut the hours she works in the health-care field from five to 3.5 days a week to care for their two-year-old child. He has just started his own renovation company after studying for two years. He had to borrow to buy a truck for his business and his schooling left him with a student loan. “We would like to know if we can still save for retirement with the uncertainty of being self-employed and [Louisa] having a part-time income,” Fred writes in an e-mail. They also want to build a rainy-day fund and save for their child’s education. They would like to have another child but aren’t sure if they can afford for Louisa to take another parental leave. Fred figures he’ll gross about $45,000 a year in his first couple of years, while Louisa’s income will drop to $56,000 if she works part time. As an entrepreneur, Fred will have no company pension and will have to pay for his own life and disability insurance. Louisa will qualify for a reduced pension of $24,495 (in 2011 dollars) at 55, indexed to half the rate of inflation. She will have a bridge benefit of $6,370 from 55 to 65, at which time her work pension and her Canada Pension Plan benefits will be integrated. Short term, Fred will be striving to build his business. Eventually, he hopes to expand it so that he can hire other people to work with him. Then there’s the $240,000 mortgage on their Toronto home to pay off. We asked Michael Cherney, a certified financial planner in Toronto, to look at Louisa and Fred’s situation.

What the expert says

Louisa and Fred are in a good position because they are young and their spending, apart from mortgage payments, is low, Mr. Cherney says. Assuming Louisa works 3.5 days a week, their take-home pay will be $5,870 a month.

“After accounting for their mortgage payment of $1,372, and all their other expenses, they still have about $1,425 left over for RRSPs, RESPs and loan repayment,” the planner notes.

The planner suggests Fred and Louisa allocate their $1,425 surplus cash flow as follows: $400 to a tax-free savings account (TFSA) for a rainy-day fund because Fred’s income will be uncertain for the first couple of years; $500 to Fred’s RRSP because Louisa has a work pension plan; $300 to a registered education savings plan for their child; and $225 to repaying debts. In time, as Fred’s business grows, the TFSA money could be diverted gradually to retirement savings.

As for debt repayment, Mr. Cherney recommends that Fred and Louisa target his student loan first because of its relatively high interest rate. Once the student loan is out of the way, they can focus on paying down the truck loan and the mortgage.

If they put away $300 a month in an RESP, and collect an annual $500 government grant on those contributions, they should have about $109,470 by 2027 (the year their child turns 18), assuming a 4-per-cent rate of return. “This will just about cover a four-year education away from home,” Mr. Cherney estimates. The full cost would be $112,380 in 2027 dollars.

Fred and Louisa are willing to work to 65, but Mr. Cherney assumed they retire at 55 and earn an average annual return of 4 per cent on their RRSPs and TFSAs. They will draw enough income from their registered savings to supplement her pension income and, when they are 65, their CPP and OAS benefits. At 71, they will convert their RRSPs to RRIFs and draw the minimum required from that point forward. Inflation will average 2.5 per cent.

“The result is that Fred and Louisa will be able to retire at age 55 on an income of $40,000 (before tax) in 2011 dollars,” Mr. Cherney says. They could, of course, work longer and bolster their savings if they want a higher retirement income. The plan’s flexibility is large enough to allow for their having additional children, Fred’s business not being as lucrative as projected, their investment returns being lower than expected and inflation being higher.

Unexpected developments will be covered by the savings in their TFSAs. “As their debt gets paid off, they will have more to devote to their savings plans and the margin for error gets bigger,” the planner says. Their investments tend to be a bit on the aggressive side – all but one of their funds are focused on equities – so Mr. Cherney suggests they balance them with more income-based funds and reduce their exposure to sector and regional funds such as India, Asia and resources. And costly though it may be, Fred should get a disability insurance policy, he recommends.

What our expert says

Facelift asked financial planner Michael Cherney, principal at Michael Cherney Associates in Toronto, to speak with Maria.

“Maria loves her life, but she has too many choices to make,” Mr. Cherney says. “She has to stand back from her options and consider what is to be gained and what may be lost by making each.”

Maria’s financial problem comes down to how she can obtain a pretax retirement income of about two-thirds of her present teaching salary, Mr. Cherney says. Rounding off the numbers, he figures that she can meet a $50,000 gross income target, a sum that would provide $39,000 after-tax income in 2003 dollars if she delays retirement to age 60. That sum, he notes, will eventually provide more discretionary spending power than she has today, for her annual mortgage payments of $8,442 per year will end in 15 years when she pays off her mortgage.

Maria is unsure about how much pension income her job and investments will provide.

To estimate future income, he assumes several things: that she will live another 49 years to age 100, which, he says, leaves a comfortable margin for error if she either spends too much in the early years of her retirement or has the good fortune to become a centenarian; that the long-term inflation rate will be 3 per cent; that Maria will begin receiving Canada Pension Plan payments at age 60 at a rate of 70 per cent of the current maximum payout of $801.25 a month indexed to inflation; that she will not contribute any more money to her registered retirement savings plan, which, because of her employment pension, has very little contribution space; that her RRSP will grow at 7 per cent a year before any inflation adjustment; that Maria will be able to receive Old Age Security payments, currently $461.55 a month, without any loss to the clawback; finally, that she will convert her RRSP to a registered retirement income fund at age 71.

To retire at 60, Maria has to begin curb her spending, Mr. Cherney says.

She can trim $450 a month for grooming and clothing, cut down on the $1,900 a year she spends for car insurance by checking out a few brokers, reduce her $155 a month phone bills by getting better deals, and avoid joining an expensive health club in favour of walking. Maria should also keep her 1998 Honda Acura instead of trading it in. She should pay down debt by $5,000 a year.

After her debts are reduced, Maria should examine her RRSP investments, which, at present, are entirely in 2.75-per-cent guaranteed investment certificates. There is a substantial potential for gain —— and loss —— by investing in stocks or mutual funds and bonds or bond funds. But the risk-reward ratio favours some diversification of her $43,000 low-return RRSP portfolio.

If Maria increases savings, reduces debt, improves the return on her RRSP, and is careful to reap her pension entitlements, she should be able to have total income at age 60 of $68,056 in 2012 dollars at the beginning of her retirement, Mr. Cherney says. That sum will be made up of CPP payments of $8,782, school board pension income of $54,189 and RRIF income of $5,085. Five years later at age 65, she will be able to add $8,378 OAS payments to what will then be $10,181 estimated CPP income, $55,282 pension income, and $4,734 RRIF payments for a total annual income of $78,575, which will meet her retirement pretax income target of $75,630.

Were Maria to retire early, at age 58, her pension income from her school board would be $5,000 less, a significant shortfall.

“I would advise against any decision that increases current debt. A second home does not make sense,” he explains. “She should defer buying a home in Halifax until she actually retires and is prepared to leave Toronto. “

For Jack Foxman and his wife, Mary (not their real names), family life in a small Ontario city ought to be affordable on a combined gross income of $87,000 a year. But their sons, Max, 9, and Oliver, 12, have special and very costly medical needs that are only partially covered by provincial programs. Jack, a marketing specialist, is 40. Mary, a teacher with tenure, is 44. Their asset base is modest. They have $120,000 equity in a house with an estimated market value of $250,000, two cars worth a total of $16,000, $6,100 in registered education savings plans and $4,400 in registered retirement savings plans. A provincially-paid special-needs worker takes one son for outings for four hours a week. The children’s remaining care is financed by Jack and Mary. They have no supplemental medical or hospital insurance. “I recently turned 40 and I haven’t thought seriously about my family’s financial state,” Jack explains. “I really have the desire to make things change for the better.”

What our expert says

Facelift asked Michael Cherney, a Toronto-based certified financial planner, to speak with Jack and Mary in order to determine ways they can build their wealth and provide for Oliver’s post-secondary education.

“This is a family that has the resources, in spite of its children’s problems, to solve their financial problems,” Mr. Cherney explains. “We have found money in their budget for retirement planning and for special services for the kids.”

The bottom line of the planner’s analysis is that, in spite of the substantial costs of caring for their children, Jack and Mary should be able to retire on $58,000 a year in 2004 dollars. That sum, he notes, is 66 per cent of current family income and within the conventional rule that retirement income be at least 60 per cent of pre-retirement income.

Making retirement work requires financial engineering, the planner says. Assuming that Jack lives to 85 and that Mary lives to age 95 and that Mary’s need for income declines by 20 per cent after Jack passes away, a retirement fund above what the Canada Pension Plan and Old Age Security provide can be built, Mr. Cherney says.

The base for the retirement fund will be an RRSP contribution of $250 a month, he says. Jack and Mary make no RRSP contributions, but they can find the money for RRSPs in the $525 a month they now save.

By 2011, when Oliver begins university, current contributions of $211 a month to his RESP can be added to RRSP contributions, Mr. Cherney explains.

Then, in 2018, with the couple’s $130,000 mortgage paid off, the $940 a month that currently goes to pay it down can be shifted to the RRSP, he adds. By 2029, when Jack is ready to retire, their RRSPs will be worth $684,660, assuming a 6-per-cent annual growth of invested assets.

When Jack is 65 and Mary is 69, assuming that Mary does part-time teaching from her intended retirement date at age 60 until she reaches 65, the couple will be able to add $41,080 of annual RRIF income from their RRSPs to Mary’s $33,438 annual teaching pension together with combined OAS payments of two times $11,620 that each will receive and combined CPP payouts of $28,894 for a total annual income of $126,652. That seems like a lot, but it is just what their target retirement income of $58,000 will be if inflation runs at an annual rate of 3 per cent for the next quarter century. Structured this way, there will be no trigger of the OAS clawback, which should begin at $125,187 a person in 2029, Mr. Cherney says.

Finding money to build up RRSP and RESP balances is key to making the plan work, Mr. Cherney says. It can come out of the couple’s monthly $525 surplus. However, it would be helpful to pay off Jack’s $5,000 line of credit, though interest costs are now down to a modest $15 a month, Mr. Cherney says.

The plan assures that Max and Oliver will always have the care they need. Assuring that care requires that Jack and Mary buy more life insurance than the $10,000 death benefit provided by Mary’s school board contract. Term insurance with a premium level for the next 20 years is inexpensive, Mr. Cherney notes. Each parent should have a coverage of 10 times annual salary or roughly $600,000 for Jack at a premium of $681 a year. Mary can have $300,000 coverage for $353 a year, he says.

Both parents should have disability insurance. Mr. Cherney estimates that Jack can get $3,000-a-month coverage for $95 a month while Mary, who is older, should be able to obtain that from her school board for $120 a month in payroll deductions.

Max and Oliver will have special needs all their lives. If both parents were to die or if either child proves unable to care for himself in later life, it would be useful to have a Henson Trust available to ensure that assets held by the child would not disqualify him from receiving government benefits.

The Henson Trust concept shifts ownership of assets to a trust and puts payment of income to the child at the absolute discretion of trustees, Mr. Cherney notes. This structure makes it clear that the beneficiary, the dependent child, will not be seen to have a vested interest in the trust so allows him to pass means tests.

“Jack and I don’t have a lot of money,” Mary says. “We can work toward retirement goals gradually, but first we have to take care of the kids. What Mr. Cherney has done gives us an objective view of our situation. It will help us.”

Montrealers Guy Gagnon and Claude Chartrand (not their real names) are doing well in their occupations. Guy, a management consultant, and Claude, a government scientist, have pretax incomes totalling $214,000 a year. With a big house in tony Outremont and a fat mortgage to match, they have managed their investments well. Their $400,000 house cost $300,000 four years ago. They have $275,000 in financial assets and little debt save for a $228,500 mortgage at 4.05 per cent due in May and a $5,000 student loan balance outstanding for Guy.Guy, 35, and Claude, 36, fear that they are living too much for the present and not enough for the future. They would like to retire in 20 years. As a same-sex couple, they are concerned about estate-planning and their ability to transfer property to each other when the first person in their household dies.“When we reach 55, Claude and I would like to be able to have second careers,” Guy explains. “We might open a bed and breakfast in Canada or in France. By the time we are 55, we want to have laid our plans for the remainder of our lives.”

What our expert says

Facelift asked Michael Cherney, a certified financial planner in Toronto, to work with Guy and Claude on their retirement and estate planning issues. His conclusion: Their problems are much the same as they would be for a conventional couple without children. “What distinguishes this couple is not the fact that they are of the same sex, but that they have no children,” Mr. Cherney says. “Canadian tax law recognizes same-sex marriages as having the privileges and obligations of traditional marriages.” With a substantial family income over $200,000 a year, Guy and Claude live quite modestly, Mr. Cherney notes. They have no car, their monthly expenses are just $5,685 before allocations to savings and investments, and they should be able to finance a comfortable retirement that begins in 20 years, he explains. The planner assumes that inflation will run at a long-term rate of 3 per cent a year. He projects the long-term average return of their registered investments at 6 per cent annually. He also allows 5 per cent as the annual return on non-registered investments after taxes are paid. Therefore, Guy and Claude should be able to generate net real annual returns of 3 per cent and 2 per cent, on registered retirement savings plan and non-RRSP assets, respectively. These are very cautious projections, the planner adds, but in view of recent market declines, that is just being careful, he explains. Assuming that Guy and Claude begin retirement in 20 years, they should each have pension income of about $60,000 plus another $60,000 for the couple from their non-registered investments, Mr. Cherney estimates. Two decades from now, Guy will have accumulated $859,000 in his RRSP while Claude will have built up a balance of $854,000. Guy and Claude will also have non-registered balances of $214,000 and $807,000, respectively. These sums, Mr. Cherney notes, are in 2023 dollars. The planner assumes that both Guy and Claude have annual salary increases prior to retirement at the 3-per-cent assumed rate of inflation. As well, he expects that each man will take Quebec Pension Plan benefits at age 60. Like the Canada Pension Plan, the QPP reduces benefits by 6 per cent a year for each year prior to age 65 that the plan’s payout is triggered. Thus Guy and Claude should each receive 70 per cent of the present maximum benefit of $801.25 a month indexed to inflation, Mr. Cherney says. In order to get the income from their registered and non-registered investments, Guy, who saves about $1,200 a month, and Claude, who saves $2,200 a month, should average out their savings to $1,700 a month each, Mr. Cherney says. He allows for an escalating 3 per cent a year increase in their rate of contribution to their RRSP plans. This can be done by having Claude pay for a relatively larger share of household expenses. At retirement, Guy and Claude should begin withdrawing 7 per cent a year of the RRSP balances through a registered retirement income fund until each reaches age 71, when they can take out the minimum required amount of 7.48 per cent of the RRIF, increasing each year, Mr. Cherney says. When one man dies, the other, considered equivalent to a spouse under Canadian tax law, will receive a tax-free transfer of the decedent’s RRIF, he explains. As each man reaches age 65, he can claim Old Age Security. Currently, OAS clawbacks begin at $57,879. Mr. Cherney assumes that the clawback threshold will increase at 3 per cent a year parallel to the rate of inflation, so that each man will not be affected by the clawback, which will begin at $136,396 in 30 years when Guy reaches 65. By 2033, the couple should have a total income of $232,000 a year in future dollars. “Considering that these two men live modestly and, to date, have invested fairly wisely, it appears that they will be able to have a very comfortable retirement,” Mr. Cherney says. “I feel that Mr. Cherney has confirmed the validity of what Claude and I have been doing,” Guy says. “It is good to have an affirmation that we are on the right track. Now our problem is to achieve at least the minimum returns that Mr. Cherney has said that we require.”

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