Client situation
In Toronto, two men we’ll call Kevin and Steve have been in a committed relationship for more than a decade. Kevin, 50, is a vice-president at a major company. Steve, 39, was laid off from his management job in transportation nearly a year ago. Together, they take home $9,700 a month; consisting of Kevin’s pay plus Steve’s employment insurance benefits. “We’d like to retire in five years, but Steve’s unemployment is a problem,” Kevin explains. “We also like to travel to exotic destinations. We already spend $15,000 a year on trips. Can we do it all?”
What our expert says
Facelift asked Toronto-based financial planner Michael Cherney to work with Kevin and Steve.
“They have to balance their wish to maintain their present way of life with the impact early retirement will have on savings. They have an expensive way of life, and there is a fundamental fact they must understand: The longer they work, the shorter the period during which they will draw down their savings.”
The foundation for the couple’s plans is Kevin’s job. It pays $165,000 a year or $8,400 a month after tax. Steve’s EI benefits, $1,300 per month, will run out in August. Their financial future therefore rests on Kevin’s income, their $475,000 house, and financial assets of $756,000. They have no debts other than credit card bills that they pay in full each month.
For planning purposes, it is useful to assume that 1) Steve finds another job in his field at $50,000 a year, 2) Kevin continues to add at least $21,000 a year to his RRSP, 3) Kevin and Steve each put $5,000 into Tax-Free Savings Accounts every year beginning in 2009, and 4) investments grow at a real annual rate of 3 per cent a year.
With these assumptions, the men would have $1,175,250 in assets in their RRSPs, Tax-Free Savings Accounts and non-registered assets by the time Kevin wants to retire at age 55. These assets could produce $46,054 a year for the 46 years from Kevin’s retirement in five years to Steve’s age 90, the planner estimates.
After Kevin’s retirement at age 55, the men would have total pretax income of $96,054. If their average tax rates are 25 per cent a year, they would have combined after-tax income of $72,040 a year. That’s less than their present spending of $116,400 a year, which includes such things as $30,000 a year on home renovations, Mr. Cherney notes. Large spending cuts, including slashing travel costs, would be in order.
To avoid having to reduce their standard of living, both men should work to their respective age 60. By doing that, their portfolio would grow to $1,586,642. The men would have investment income of $65,795, plus Steve’s expected annual salary, for a total of $115,795 before tax in 2009 dollars, the planner estimates. Kevin would be able to draw Canada Pension Plan benefits at 60 of $7,633 a year, which would be the maximum $10,905, less a penalty of 6 per cent per year for each year prior to age 65 at which benefits begin, the planner estimates.
Their total pretax income would have risen to $123,428 in 2009 dollars. At a 25-per-cent tax rate, they would have $92,571 left to spend. This after-tax income would cover expenses including travel at current rates, provided that the men have ended their house renovations at a cost of $2,500 a month. When Kevin reaches 65, he will receive Old Age Security benefits of $6,204 a year at current rates, making pretax income $129,632. After 25-per-cent average tax, they would have $97,224 a year to spend.
If Steve quits work at age 60, his earned income would cease. He would be eligible for early Canada Pension Plan benefits, but would be hit by the early retirement penalty. The men’s household income would decline from $129,632 to $79,632. Steve’s age 60 estimated CPP benefits could be $7,633, boosting total income to $87,265 a year. At 65, Steve will receive Old Age Security benefits of $6,204 a year, pushing total household income to $93,469, Mr. Cherney says.
Given Steve’s present unemployment, his Canada Pension Plan benefits are not dependable. But their investment income should be stable until Kevin passes away, assumed to be at age 90, at which time the couple will lose Kevin’s Old Age Security and his Canada Pension Plan benefits. Investment assets would roll over to Steve without tax. Steve, who for planning purposes will also live to age 90, would in turn exhaust his financial capital. If Steve were to live beyond age 90, he would still have a house that he could sell, Mr. Cherney notes.
The validity of this plan depends on Steve being able to find work at $50,000 a year. If he never finds work, the plan will fall short of its goals. However, a job that pays at least $30,000 or more a year would allow the men to have a comfortable retirement, provided they make appropriate spending cuts before quitting work, Mr. Cherney explains.
“If the men delay retirement and terminate house repairs, they can have the travel they want,” Mr. Cherney says. “This analysis is about choices and they are in the men’s hands.”
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