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FINANCIAL FACELIFT: This 72-year-old’s portfolio is 97% in stocks. Is she taking on too much risk as retirement nears?

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Below you will find a real life case study of an individual who is looking for financial advice on how best to arrange their financial affairs. Their name and details have been changed to protect their identity. The Globe and Mail often seeks the advice of our VP, Wealth Advisor, Matthew Ardrey, to review and analyze the situation and then provide his solutions to the participants.

gam-masthead
Written by:
Special to The Globe and Mail
Published April 26, 2019

After a long and successful career, Ellen has retired from consulting and is winding down her corporation. She is 72, single and well off.

Still, she has concerns. She has roughly $1.8-million in savings and investments, the lion’s share of which is in stocks. She does her own investing, choosing stocks that pay steady and rising dividends with good management and solid earnings.

“I understand the risk is high,” Ellen writes in an e-mail. “If a recession like the one in 2008 hits, it will greatly reduce the asset value,” she adds. “Any advice on the portfolio and risk management would be much appreciated.”

Ellen is healthy and active and aims to do her best to stay that way so she can continue to travel extensively. Yet aging will impose constrains on travel, Ellen acknowledges, so she’ll likely be spending less on travel over time. “Other emerging issues,” such as health care, will increase the demands on her savings in her later years.

She is concerned about having enough money to “live in a first-rate senior residence and eventually a first-rate nursing home if necessary,” Ellen writes. Her retirement spending target is $65,000 a year after tax, although her actual spending is lower.

We asked Matthew Ardrey, vice-president of TriDelta Financial in Toronto, an investment counselling firm, to look at Ellen’s situation.

What the expert says

First, Mr. Ardrey looks at Ellen’s income. She plans to wind the corporate account down over 10 years to minimize the taxes owing on the withdrawals. To do this, she will need to withdraw about $38,500 a year, which will be taken as taxable dividends. She had been drawing a bit less than $10,000, so this will increase her income.

Ellen gets $7,121 in Old Age Securities benefits and $7,872 in Canada Pension Plan benefits, numbers that will rise in line with inflation. She also makes mandatory minimum withdrawals from her registered retirement income fund (RRIF) and receives dividends from the stocks in her taxable investment accounts.

Ellen’s lifestyle spending is $40,500 a year, plus $10,000 a year for travel. Her only savings is the maximum annual contribution to her tax-free savings account (TFSA).

Looking ahead, Ellen figures she’ll sell her Toronto condo when she is 80 or so and move into a high-end retirement residence that will allow her to transition onsite to a nursing home if need be, Mr. Ardrey says. In drawing up his forecast, he assumes she sells the condo for $589,000 at the age of 80, minus 10 per cent for selling costs, and the balance is added to her investment portfolio. Her living costs rise from about $50,000 to $72,000 a year in current-year dollars.

Now for her portfolio. A full 97 per cent of Ellen’s investment assets are in stocks. If she leaves it as is, she could earn 6.4 per cent a year on average, the planner estimates. He assumes an inflation rate of 2 per cent a year.

“Based on these factors, Ellen will have more than enough to retire,” Mr. Ardrey writes. “In fact, she has a substantial financial cushion.” To illustrate, if she keeps her spending roughly the same, she would leave an estate of $3.4-million at the age of 90, he says. If she wanted to spend it all, she could increase her spending by a whopping $90,000 a year, more than double what she is spending now. That would mean an increase in her current spending from $50,000 to $140,000, and her spending after she moves into a retirement home from $72,000 to $162,000.

Still, the plan as it stands has considerable risk, Mr. Ardrey says. Of the 97 per cent in stocks, Ellen has 6 per cent in one U.S. holding. The remaining 93 per cent is in Canadian stocks. Seventy per cent of her holdings is invested in just four stocks.

If the stock market dropped in the near future the way it did in 2008-09, “it could have a substantial impact on her portfolio and her retirement plans,” Mr. Ardrey says. The main Toronto stock index lost 35 per cent of its value in 2008 and did not return to its former high until 2014, he notes.

To help manage risk, the planner suggests a portfolio that is diversified geographically and by sectors. He also recommends asset class diversification by adding both fixed-income (bonds) and alternative income investments that are carefully vetted by an investment counsel firm for sale to its clients.

“The ones we would recommend for Ellen are more on the conservative side, focusing on income-generation strategies through private debt, accounts receivable factoring and global real estate,” Mr. Ardrey says. “These strategies have been shown to add value to portfolios by increasing returns over traditional fixed income while having little to no correlation to stock markets.”

If Ellen shifts to a portfolio of 50-per-cent stocks, 20-per-cent fixed income and 30-per-cent alternative income, she could expect a rate of return of about 6.5 per cent a year, the planner says. “She would be earning that return with substantially less risk.” She would have investment costs of about 1.25 per cent, 60 per cent of which would be tax-deductible in her non-registered and corporate accounts, he says.

She’d leave an estate of $2.7-million, or if she wanted to spend it all, she could increase her spending by $81,000 a year. That would mean an increase in her current spending to $131,000 a year, and her spending after she moves into a retirement home to $153,000.

“Ellen is in excellent shape to enjoy her retirement,” Mr. Ardrey says. “In fact, I would encourage her to enjoy it more!”

Client situation

The person: Ellen, 72

The problem: How to reduce the risk in her overly concentrated portfolio.

The plan: Diversify by country, industry and asset class. Cut stock holdings and add fixed-income and alternative income securities.

The payoff: Greater peace of mind.

Monthly net income: $6,655

Assets: Cash and short-term $16,180; taxable investment accounts $679,506; corporate account $310,579; TFSA $98,426; RRIF $680,627; condo $505,000. Total: $2.29-million

Monthly outlays: Property tax $240; home insurance $30; utilities $70; condo fee $645; handyman $40; transportation $490; groceries $250; clothing $430; gifts, charity $90; vacation, travel $800; personal care $300; dining, drinks, entertainment $285; subscriptions $31; study courses $100; health care $190; phones, internet, TV $179; TFSA $500. Total: $4,670. Surplus of $1,985 goes to travel, spending that might be underestimated and investment account.

Liabilities: None

Want a free financial facelift? E-mail finfacelift@gmail.com.

Some details may be changed to protect the privacy of the persons profiled.

Matthew Ardrey
Presented By:
Matthew Ardrey
VP, Wealth Advisor
matt@tridelta.ca
(416) 733-3292 x230

Q1 TriDelta Investment Review – Everything is good again….isn’t it?

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Overview


After double digit declines in Q4 2018, Q1 2019 saw a significant bounce back.

We saw double digit increases in the TSX at 12.4% and in Canadian dollar terms, the S&P500 at 10.8%, with a 7.1% gain in the Euro Stoxx 50 and 2.8% in Japan.

Leading the way in gains in Canada was the ‘Health’ sector which is primarily Cannabis names, which were up 45.9%!! I.T. was up 27.3% in Canada and 20.5% in the broad U.S. market. While the gains were fairly broad, not surprisingly, many of the biggest gains came from more volatile sectors that saw the biggest declines in the fourth quarter of 2018.

The key question is where does this leave us?

Can we relax and look for another 5% to 10% gain in stocks through the rest of the year?

Are we headed for a third straight quarter of extreme volatility?

Where do we see things today and what are we doing about it?

The last couple of quarters, we have focused on 5 factors moving markets. If we review them as of April 2019, they are now telling us the following:

  • Interest rates/bond yields – after meaningful increases in the first half of 2018 on both the overnight rates and longer term rates, the mood has definitely shifted with long term rates declining meaningfully, and short term rates seemingly on hold for a while. A stable interest rate environment gives investors the confidence to take advantage of cheap borrowing costs and increase allocations to equities, pushing the stock market higher.
  • Fears of higher inflation – in part due to lower growth expectations globally and in part due to lower wage growth in the U.S., the fear of higher inflation has meaningfully pulled back. One more fear that has eased and allowed stocks to pull forward.
  • U.S.-China Trade Wars (and broader trade conflicts globally) – The stock market has responded well to confident statements from Trump and more frequent high level meetings between the countries on trade. While there remains real uncertainty, we believe that there will be tangible improvement on this front, including an announced agreement with small ‘victories’ for both sides.
  • High US stock market valuations and earnings expectations – Today, with higher valuations and mixed earnings reports, equity valuations are becoming a little more expensive again. Forward earnings are trading about 4% higher than the long term average multiples.
  • Global Growth – Investor concerns about continued slow global growth have resurfaced, particularly after the IMF (International Monetary Fund) cut its 2019 global growth forecast this week to a mere 3.3%. Growth rates were closer to 4% just 2 years ago. The IMF stated that the world economy faces downside risks brought by potential uncertainties in the ongoing global trade tensions, as well as other country- and sector-specific factors.

So if we look at this little scorecard, three of the five are pointing more positively for stock market returns, and the last two are more negative.

Stocks

Where that leaves TriDelta after the very good returns in the first quarter, is that we have become a little more cautious. In early January, we went from higher cash levels in our funds to being fully invested in stocks. Today we are holding some cash taking a small amount off the table from Canadian and global stocks. We are not overly negative; just a little more cautious than early in the year. We are also monitoring technical indicators to see if further defensive measures should be taken.

We are also lowering our small exposure to energy after a strong increase in oil prices this quarter.

Interest Rates

U.S. – The Federal Reserve is not likely to lower rates unless we see a significant slowdown in growth. This is in part because they don’t see a strong case for lowering rates at this point, and they don’t want to send a negative signal to the marketplace. Medium and long-term rates have already come down meaningfully. We see this likely coming to an end, although medium and longer-terms yields are not necessarily rising back up for the time being.

Canada – There is a little more concern about slowing growth in Canada and the need for the Bank of Canada or the government to provide some form of stimulus. We don’t see short term rates falling in the near term, but there could be a drop later in 2019. The mid and long-term rates have already fallen meaningfully and we don’t believe there is room for much more of a decline unless the economy slows down dramatically.

Preferred Shares

We are currently leaning a little more towards straight, fixed rate preferred shares, as they offer dividend yields of over 5%, should benefit from the lower long-term bond yields and are much less volatile. Rate reset preferred shares continue to be undervalued with yields often over 5.5%, but they have shown greater volatility for longer periods than would be expected, and this could continue.

Alternative Investments

As this sector grows, it becomes even more important to understand the managers and those that have a longer track record of success. At TriDelta, we are sticking pretty close to the few managers that have delivered very steady returns and who we believe will be best able to adjust to a low interest rate environment, while strategically adding additional managers that we think can enhance portfolio returns, add stability to a portfolio or reduce volatility.

An Inverted Yield Curve – what is it and should we fear it today?

There has been a lot of talk about inverted yield curves and that it is a precursor to a recession.

An Inverted Yield Curve is one where short term yields are higher than long term yields.

Traditionally if you put money into a 5 year government bond you would expect a higher return than in a 30 day T Bill. This is due to a couple of main reasons. The first is that you will not have use of your money for 5 years vs 30 days, so there is a premium paid for locking in your funds. The second is that there is a bit of an uncertainty premium. If you invest for 5 years and interest rates go up, you are missing out on participating in those higher potential yields.

In an inverted yield curve, you have a situation where you are getting paid more for a short term investment than a long term one. This is not that common, and it is often caused by concerns about future growth, disinflation and expectations of future interest rate declines.

What creates the situation is when the market believes that interest rates will be moving lower, i.e. an expectation of future interest rate cuts by the central bankers, and there is demand to lock in longer term rates at higher yields before they decline. As more long bonds are bought, it pushes the yield down and continues until the market decides that these lower yields are no longer appealing. The end result can be an inverted yield curve. One other action that creates an inverted yield curve is when the Federal Reserve raises short term rates at a fairly fast pace and longer term rates don’t keep up.

The chart below lists the last 9 Yield Inversions in the US and duration until the subsequent recession. The average time lapse before a recession starts is 14 months in the 7 cases where there was a recession following a yield curve inversion.

Date of Inversion Time to a recession
April 11,1968 19 months
March 9, 1973 7 months
August 18, 1978 16 months
September 12, 1980 9 months
December 13, 1988 18 months
February 2, 2000 12 months
June 8, 2006 17 months
Late 1966 No recession for 3 years
June 1998 No recession for 2.5 years

 
If we keep in mind that there will always be a recession at some point in the future, and that there was not a recession for at least a year in 7 of the past 9 instances of inverted yield curves, we do not believe a recession is imminent in the U.S. If the Federal Reserve or US government react to declining growth rates, the economy can continue to grow in 2020 as well. Economists forecast that the U.S. grew at about a 1.5% pace in the first quarter of 2019 but expect 2.4% for the full year.

In Canada the current growth forecast for 2019 is down to 1.5% and could see further downside if there are negative developments on trade, housing or the energy industry. We will continue to monitor the data, but continued growth, albeit at a slow rate is our current expectation.

Overall, an inverted yield curve does not meaningfully concern us for the rest of 2019.

How Did TriDelta do in Q1?

Overall, most clients had returns in the 4% to 7.5% range on the quarter depending on their individual asset mix.

Our 2019 Q1 returns were as follows:

TriDelta Pension Pool (Stocks) 8.4%
TriDelta Growth Pool (Stocks) 8.4%
TriDelta Fixed Income Pool 2.6%
TriDelta High Income Balanced Pool 5.8%
TriDelta’s Selection of Alternative Income Funds 1.5% to 2.3%

 
Other news and items of interest:

  • Taxes – if you or your Accountant have any questions, please don’t hesitate to ask.
  • Tax Refunds – if you are receiving a tax refund it can be a good source of funds for doing 2019 contributions to RRSPs, RESPs, RDSPs and other savings vehicles.
  • World Trade – in January 2019 trade was down 0.4% year over year. It has averaged a year over year gain of 5.1% over the past 25 years.
  • Growth of Middle Class in Emerging Markets – Today India’s middle class represents 14% of the population (up from 1% in 1995). This is expected to grow to 79% by 2030 according to the Brookings Institute.
  • Retirement Savings Gap – According to a U.S. study from 2017 by the Employment Benefits Research Institute, 64% believe that they need over $500,000 for retirement. Actual savings for the average 65 to 74 year old was $126,000.
Summary

Q4 2018 was much worse than it should have been in markets, and Q1 2019 was much better than it should have been.

This leaves us at the moment with lower interest rates, low unemployment, a little lower growth, continued trade issues and slightly elevated market valuations. Overall, that puts us in a ‘not too hot and not too cold’ place where we are fairly comfortable. We don’t believe that a U.S. recession will happen this year, and expect low to middle of the range stock market returns for the near future.

At TriDelta we will continue to be nimble while focused on the client’s long-term plans. Portfolios are designed to provide a diversified asset mix that is built appropriately for the goals of each client, with an eye on tax minimization.

Here is to a beautiful spring for everyone.

 

TriDelta Investment Management Committee

Cameron Winser

VP, Equities

Ted Rechtshaffen

President and CEO

Anton Tucker

Exec VP and Portfolio Manager

Lorne Zeiler

VP, Portfolio Manager and
Wealth Advisor

FINANCIAL FACELIFT: Should this couple sell their house for a better retirement?

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Below you will find a real life case study of a couple who are looking for financial advice on how best to arrange their financial affairs. Their names and details have been changed to protect their identities. The Globe and Mail often seeks the advice of our VP, Wealth Advisor, Matthew Ardrey, to review and analyze the situation and then provide his solutions to the participants.

gam-masthead
Written by:
Special to The Globe and Mail
Published March 29, 2019

“Will we have to sell our house to finance our retirement years?” Tom and Tilly ask in an e-mail.

It’s a question that comes up frequently from people nearing that age when they plan to leave the workforce for good. Tom is 59, Tilly 60.

They’ve had conflicting advice from their current and former financial advisers. Their former adviser said they’ll have to sell their Hamilton-area home in 10 years. The new one says that won’t be necessary.

Tom earns about $137,000 a year working for a non-profit. Tilly has gone back to school to satisfy her love of learning and potentially give her part-time income later on. Her tuition is covered by a scholarship.

They wonder whether Tom can afford to hang up his hat in three years or so. He has a group registered retirement savings plan to which he and his employer both contribute. Tilly has a defined-benefit pension plan from a previous employer that will pay $12,090 a year starting at age 65, indexed to inflation.

Their retirement spending target is $75,000 a year after tax, about $15,000 of which is for travel. Before then, they need to fix up their house a bit and replace one of their cars.

“Are we on track?” they wonder.

We asked Matthew Ardrey, a vice-president and financial planner at TriDelta Financial in Toronto, to look at Tom and Tilly’s situation.

What the expert says

Tom is saving $1,100 a month to a group RRSP, to which his employer contributes $630 a month, Mr. Ardrey says. They are each saving $700 a month to their tax-free savings accounts. Mr. Ardrey assumes they continue saving this amount until Tom retires, after which the RRSP savings cease and the TFSA contributions fall to $500 a month each.

They have a cash-flow surplus of about $1,400 a month, which they are saving to pay for $25,000 of home renovations and to replace a car for another $25,000.

The planner assumes they begin collecting Canada Pension Plan and Old Age Security benefits at age 65, about 70 per cent of maximum CPP for Tilly and 90 per cent for Tom. He recommends they apply to share their CPP to help lower their taxes. At age 65, Tilly will begin collecting her pension.

Because parents of both Tom and Tilly lived well into their 90s, Mr. Ardrey assumes they will both live to age 95.

Looking at their investments, their asset mix has a historical rate of return of 4.4 per cent, with an average management expense ratio of 1.3 per cent, for a net return of 3.1 per cent.

“Based on these assumptions, Tom and Tilly can meet their retirement spending goals but with minimal financial cushion,” Mr. Ardrey says. That assumes Tom, who turns 60 later this year, retires at age 63. If they spend all of their investment assets, leaving only real estate and personal effects, they will have a cushion of only $2,400 a year.

“This is right on the line of success or failure,” the planner cautions. “Any one large, unexpected expense could have a significant impact on their retirement plan.”

If they sold their house, now valued at about $675,000, and downsized to a $400,000 condo at Tom’s age 85, “they would greatly increase their financial flexibility,” Mr. Ardrey says. This would give them a financial cushion of $9,000 a year. It would also give them the option of retiring earlier than planned.

An alternative would be to try to improve their investment returns. They are investing mainly through mutual funds. Given the size of their portfolio, they could benefit from using the services of an investment counsellor – particularly one who offers alternative income strategies as part of their overall asset mix, Mr. Ardrey says.

Although investment returns are not guaranteed, alternatives to stocks and bonds – funds that specialize in such things as private debt, global real estate and accounts receivable factoring – could potentially enhance returns on the fixed-income side of their portfolio while having little or no correlation to stock markets, Mr. Ardrey says. “They represent a unique diversifier.”

Their current asset mix is 40-per-cent fixed income, 20-per-cent Canadian, 15-per-cent U.S. and 25-per-cent international stock funds. He recommends 25-per-cent fixed income, 25-per-cent alternative income and 50-per-cent globally diversified stock funds. “With this new asset mix in place, we would expect a return of 6.5 per cent and investment costs of 1.5 per cent, for a net return of 5 per cent a year.”

If Tom and Tilly achieved this rate of return and downsized their house when Tom is 85, they could have a substantial cushion, the planner says: $19,200 a year. If they wanted to, they could retire when Tom turns 61 in 2020 and still have a cushion of $9,000 a year.

Client situation

The people: Tom, 59, and Tilly, 60

The problem: Will they have to sell their house to finance their retirement?

The plan: Try to improve investment returns, but keep an open mind to selling the house and downsizing in 25 years or so.

The payoff: Retiring as planned with a comfortable financial cushion.

Monthly net income: $8,455

Assets: Cash in bank $60,000; his personal and group RRSPs $395,000; her RRSP $245,500; his TFSA $44,500; her TFSA $37,000; estimated present value of her DB pension plan $187,250; residence $675,000. Total: $1.6-million

Monthly outlays: Property tax $460; home insurance $90; utilities $285; maintenance, garden $75; transportation $580; groceries $650; clothing $205; gifts, charity $250; vacation, travel $700; other discretionary $50; dining, drinks, entertainment $600; personal care $100; subscriptions $30; dentists, drugstore $20; life insurance $185; phones, TV, internet $270; his group RRSP $1,100; TFSAs $1,400. Total: $7,050Surplus $1,405

Liabilities: None

Want a free financial facelift? E-mail finfacelift@gmail.com.

Some details may be changed to protect the privacy of the persons profiled.

Matthew Ardrey
Presented By:
Matthew Ardrey
VP, Wealth Advisor
matt@tridelta.ca
(416) 733-3292 x230

FINANCIAL FACELIFT: To buy or rent a condo? Montreal couple search best route for saving towards retirement

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Below you will find a real life case study of a couple who are looking for financial advice on how best to arrange their financial affairs. Their names and details have been changed to protect their identities. The Globe and Mail often seeks the advice of our VP, Wealth Advisor, Matthew Ardrey, to review and analyze the situation and then provide his solutions to the participants.

gam-masthead
Written by: CHRISTINNE MUSCHI
Special to The Globe and Mail
Published March 8, 2019

To buy or not to buy, that is the question for Ron and Rosemary, a couple living and renting in the Montreal area.

Ron is 43 and works as a project manager, Rosemary is 35 and works for a non-profit. Together they bring in about $190,000 a year. They’re considering a condo rather than a house because it would require less upkeep. They have no plans to have children.

Their question: Which is better, buying a condo in the $600,000 range “or continuing to rent throughout our lives?” Rosemary asks in an e-mail. “If we continue to rent, we would definitely be looking at renting a unit in a newer building with all of the amenities we want, possibly pushing the rental price per month to $2,500 or higher,” she adds.

Longer term, they are concerned about saving for retirement. Their postwork spending goal is $100,000 a year after tax, rising with inflation.

We asked Matthew Ardrey, a vice-president and financial planner at TriDelta Financial in Toronto, to look at Rosemary and Ron’s situation.

What the expert says

First, Mr. Ardrey looks at a scenario in which they continue to rent. They would move to a building with better amenities, increasing their rent by $500 a month to $2,500 a month, he notes. All other expenses would remain the same. The planner’s assumptions are based on a life expectancy of 90 for both.

Ron is contributing $645 or 8 per cent of his salary to a defined contribution pension plan with a 6-per-cent company match. Rosemary is contributing $475 a month to an RRSP with a $475-a-month match from her employer. They are stashing away another $1,000 a month in a bank account.

If they decide not to buy, the planner assumes they would transfer the $39,900 they have in their bank account to their tax-free savings accounts. Their budget allows for additional TFSA contributions of $500 a month each, money that is now going toward a down payment.

Ron plans to retire at 65 and Rosemary at 70. When they do, they will receive Canada Pension Plan and Old Age Security benefits. Because Ron is an immigrant to Canada, the plan assumes he will get 80 per cent of maximum CPP and OAS. Rosemary will receive 100 per cent. In addition, her monthly CPP benefit will be 42-per-cent higher than if she had started receiving it at 65.

Mr. Ardrey looks at the couple’s investments. Based on their current portfolio structure, they have a historical average rate of return of 4.4 per cent. The average investment cost of their portfolio, excluding Ron’s DC pension plan, is 1.7 per cent, leaving them a net return of 2.7 per cent. After inflation, forecast to be 2 per cent, their real rate of return is 0.7 per cent.

In retirement, Rosemary and Ron want to spend $100,000 a year. “Based on the assumptions above, they fall slightly short of their goals, running out of funds near the end of Rosemary’s life,” Mr. Ardrey says. If they cut their spending a bit, they could reach their goal, but they would have “zero financial cushion.”

Now he looks at a scenario in which they buy a condo for $600,000. They have almost $40,000 saved, so they will need a mortgage for $560,000 at an estimated 3.5 per cent, amortized over 25 years. Their payments would be about $2,570 a month.

Offsetting the mortgage expense is the fact they would no longer be paying rent. Living expenses in retirement would be $76,000 a year after the mortgage is paid off, substantially less than if they were still paying rent. Any budget surplus is assumed to be saved to the TFSAs each year.

“Based on these assumptions, Rosemary and Ron can reach their retirement goal,” Mr. Ardrey says. Not having to pay rent when they retire “is a major factor,” he notes. This cost reduction more than offsets the reduction in savings.

If they decided to spend all of their investment assets, leaving only their real estate and personal effects, they could increase their spending by $1,000 a month, inflation adjusted, the planner says.

“So of the two scenarios, the decision to purchase the condo is the financially preferred one,” he concludes. “In addition to the cash flow numbers being stronger, Rosemary and Ron would also have a real estate asset that in an emergency they could borrow against or sell if need be.”

Finally, Ron and Rosemary should review their investment strategy to improve their investment returns and lower their costs, Mr. Ardrey says. Their current asset mix is about 90-per-cent stocks and stock funds, and 10-per-cent cash and fixed income.

Instead, he recommends 65 per cent stocks and stock funds, 25 per cent alternative income investments and 10 per cent fixed income. Alternative income funds – which can be bought through an investment counselling firm – include strategies such as private debt, global real estate and accounts receivable factoring. “This would broaden their diversification into an asset class that has historical returns of 7 to 9 per cent a year and little to no correlation to equity markets,” the planner says.

Making this change could increase their returns to 6.5 per cent and reduce investment costs to 1.5 per cent.

The difference would be material. “If they remain renters, then they go from falling just short to being able to increase their retirement spending by $18,000 per year,” the planner says. In the condo scenario, the potential for extra spending would be even greater.

Client situation

The people: Ron, 43, and Rosemary, 35

The problem: Should they rent or buy?

The plan: Go ahead and buy the condo, but review investments to diversify their holdings, potentially improve returns and lower investment costs.

The payoff: Retirement goals met with a financial cushion besides.

Monthly net income: $10,800

Assets: Cash $39,900; her TFSA $5,470; his TFSA $5,300; her RRSP $88,030; his RRSP $79,030; market value of his defined contribution pension plan $10,000. Total: $227,730

Monthly outlays: Rent $2,000; tenant insurance $25; utilities $180; furnishings, decorating, maintenance $350; transportation $605; grocery store $900; clothing $320; gifts, charity $1,000, vacation, travel $1,000; dining, drinks, entertaining $900; personal care $350; pets $115; sports, hobbies $490; dentists $50; drugstore $10; phones, TV, internet $340; his DC pension plan $645; her RRSP $475. Total: $9,755 Surplus goes to saving.

Liabilities: None

Want a free financial facelift? E-mail finfacelift@gmail.com.

Some details may be changed to protect the privacy of the persons profiled.

Matthew Ardrey
Presented By:
Matthew Ardrey
VP, Wealth Advisor
matt@tridelta.ca
(416) 733-3292 x230

Retirement Shouldn’t be a Taxing Transition

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When people think of retirement, they make think of relaxing at the cottage, traveling the world, or maybe with the recent blasts of winter we have been receiving, spending some time in warmer climates. What most people don’t think about is how my taxes are going to change. Yes, with April just around the corner, it is time to think about taxes and how they will affect you in retirement could be the difference from lying on a beach in February and shoveling your driveway for the fifth time this week.

If like many Canadians, you are a couple where both spouses work, the opportunities to split income are few and far between. In retirement that changes for the better. A number of years ago the government introduced legislation that allows pension income to be split between spouses. If you are already the lucky recipient of income from a defined benefit (DB) pension plan, you can further benefit by splitting up to 50% of this income with your spouse. The obvious benefit to this is the lower income spouse would pay less tax on the pension income than the higher income spouse.  Also, he/she would now receive the pension credit, which is a non-refundable federal tax credit that maxes out at $2,000. So depending on the disparity of the tax rates between spouses and size of the pension, this could be a material benefit to their tax returns saving thousands of dollars a year in taxes.

Ok, that is great for those Canadians who have a pension, but what about the rest of us?

Once a taxpayer is over the age of 65, they can split life annuity, RRIF and LIF income in the same manner as DB pension income. This can lead to some interesting tax planning for someone who is doing a RRSP meltdown strategy. If one spouse has a much larger RRSP/RRIF than the other, they can double the meltdown amount by taking it from a RRIF instead of a RRSP after the age of 65. In doing this, the RRSP (or RRIF in this case) meltdown strategy could be extended to age 70, with CPP and OAS deferrals.

Other benefits to income splitting include being able to claim the age amount tax credit and possibly reducing or eliminating OAS clawback.

The mechanism for doing this in your taxes is relatively straightforward and does not have to be implemented until you file your taxes the following April. There is a form T1032 in your tax return where you make the pension election. Most tax software these days will do the calculation for you. Once all of your other information is entered for you and your spouse, the software will optimize the pension splitting between spouses. Even if you both have a pension, it can do this for you.

The topic of income splitting continues with your government pensions. Though OAS is not eligible to be shared, the CPP is. You and your spouse can apply to share your CPPs. You both have to be contributors at some point in your lives and both be receiving the pension. The amount eligible to share is based on your joint contributory period, which is just a fancy way of saying the time you were married or cohabitating. The benefit increases with the difference between CPP payment amounts.

While we are on the topic of CPP, I thought it was important to mention the child rearing drop out provision. Unlike the general drop out provision, which is calculated automatically, the child rearing must be applied for.

How does it work?

Let’s take you back to grade school where we learned about fractions. The CPP you receive is a fraction of the maximum payable, ignoring any early penalties or deferring benefits. The total number of years is 47 (age 18-65). The general drop out provision eliminates the lowest eight, making the denominator 39. Any year you make the maximum contribution you get a 1 in the numerator and if not, then a number between 0 to less than 1.

The child rearing drop out provision allows a spouse who may have stopped or reduced their work due to child care, to eliminate up to seven years per child (no double counting years if you have children close in age). The benefit is any year that has less than a 1 in the numerator that is eliminated, will increase the overall CPP payable to you.

Another tax surprise for many retirees is tax installments. If you were self-employed, you will be familiar with these, but many salaried employees are not. Tax installments are requested by CRA once your taxes payable less your taxes deducted at source exceed $3,000. While working, your employer took taxes at source. In addition, you probably had RRSP deductions and other things that reduced your taxes or generated you a refund. Now with RRIF payments, CPP, OAS and other incomes, you may end up owing taxes.

CRA wants to get its taxes earlier rather than waiting until April. So it will request them of you in four quarterly installments over the year. This is CRA’s estimate of what you will owe this year based on previous years’ filings. You can choose to pay what they request or not if you feel your situation is different this year. But be warned, if you underpay your taxes you will be charged installment interest. If you overpay them, CRA does not pay you any interest on the overpayment. Nice work if you can get it!

After all this talk of taxes, maybe all you do want to do is lie on a beach or somewhere warm.

When you do, if you are like many Canadians, you will head to our neighbours to the south. However, before you do, consider some of the tax implications of doing so.

If you fall in love with the warm weather, you may be tempted to purchase a vacation home in the U.S. In doing so, you have opened yourself up to U.S. Estate Tax exposure. By owning U.S. real property, you are considered to have U.S. situs property, which falls under the U.S. estate tax laws. The likelihood that you will end up paying any estate tax these days is low because of the increase threshold limits, but consult someone familiar with the rules before making a purchase.

Another exposure with spending time in the U.S., is actually the time you spend in the U.S. The U.S. has a substantial presence test where they could deem you a resident for U.S. tax purposes if the calculation shows you spent over 182 days there in the past three years.

Consider the calculation for someone who spends 4 months (120 days) in the U.S. per year.

Current Year each day counts as 1 = 120 X 1 = 120
Previous Year each day counts as 1/3 = 120 X 1/3 = 40
Second Previous Year each day counts as 1/6 = 120 X 1/6 = 20

Thus, by spending four months in the U.S., this person’s substantial presence test calculation is at 180 days, very close to the threshold.

In cases, where you plan to spend a significant amount of time in the U.S. each year, you should file a U.S. form 8840, Closer Connection Form. This form establishes that even though you spend a substantial amount of time in the U.S., your connection to and therefore tax filing obligation is to Canada.

So thought the pressures of work may be days gone by, the tax complexity often ramps up in retirement. Make sure you are set up to optimize your tax situation in retirement, as proper planning can allow you to have your fun in the sun instead of being left out in the cold.

Matthew Ardrey
Written By:
Matthew Ardrey
VP, Wealth Advisor
matt@tridelta.ca
(416) 733-3292 x230

FINANCIAL FACELIFT: With ambitious retirement goals, will this couple have enough to meet their lifestyle needs?

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Below you will find a real life case study of a couple who are looking for financial advice on how best to arrange their financial affairs. Their names and details have been changed to protect their identities. The Globe and Mail often seeks the advice of our VP, Wealth Advisor, Matthew Ardrey, to review and analyze the situation and then provide his solutions to the participants.

gam-masthead
Written by: DIANNE MALEY
Special to The Globe and Mail
Published January 18, 2019

Shawn and Sharon plan to retire together in a year or so, leaving jobs that pay a combined $195,885 a year. He is 59, she is 56.

Shawn has a defined benefit pension plan that will pay him about $21,000 a year starting in 2020. Both have substantial sums in defined contribution pension plans, which depend on financial market performance for their value. Shawn’s is from a previous employer.

They have a house in Saskatchewan with a mortgage and two grown children, one of whom is living at home. They are helping one of the children pay off a student loan.

Their retirement goals are ambitious: winters down south, frequent trips to visit family and some overseas travel, as well. This leads them to a spending target of $90,000 a year for the first 10 years, falling thereafter. Their plan to retire early would require them to draw heavily on their DC pension plans in the first few years.

We asked Matthew Ardrey, a vice-president and portfolio manager at TriDelta Financial in Toronto, to look at Shawn and Sharon’s situation.

What the expert says

Mr. Ardrey looks at how Shawn and Sharon would fare if they retired in a year and a half – on June 1, 2020 – and deferred Canada Pension Plan benefits to age 65 as planned.

Further saving potential is limited. While they show a surplus in their cash-flow statement, this money is going to travel and helping their son pay off his student loan, the planner notes.

When Shawn retires, he will get $21,000 a year from his DB pension plan. They will retire with a mortgage and line of credit outstanding, Mr. Ardrey notes. The mortgage of $126,000 is scheduled to be paid off by November, 2024, and the $10,000 line of credit by October, 2020.

“Once they retire, they will need to draw on their registered assets almost immediately,” Mr. Ardrey says. Their DC pension plans are a bit different from most. Usually DC pension plans are converted into locked-in retirement accounts (LIRA) when a person retires and then to a life income fund (LIF) when they begin drawing a pension. Sharon’s DC plan can stay with the Saskatchewan government’s Public Employees Pension Plan administration and be transferred to what is known as a variable pension benefit account. Or it can be transferred out to what is known as a prescribed registered retirement income fund (PRRIF). Shawn’s locked-in retirement account (from his DC plan) can be transferred into a PRRIF as well.

The advantage of a PRRIF is that you can take locked-in money from a pension (a LIRA) between the ages of 55 and 72 instead of putting it into a LIF, which has maximum withdrawal restrictions. “So essentially, it is allowing locked-in money to be used like regular RRIF money” from an RRSP, the planner says.

“The advantage here is that there are no maximum withdrawals in these accounts, allowing them the necessary financial flexibility to draw on their savings,” he says.

But are their savings enough to last a lifetime?

Shawn and Sharon are currently spending about $76,000 a year once debt repayment and savings are subtracted. They would like to raise this to $90,000 a year when they retire to allow for additional travel in the first 10 years.

“Based on these assumptions, Shawn and Sharon will not be able to achieve their goal,” Mr. Ardrey says. They will fall short in their later years, when Shawn is about age 85. They would still have their house, which they could sell, but “I much prefer to leave the home intact as a financial cushion to cover unexpected expenses,” the planner says.

They could alter their plans, working longer, saving more and spending less in retirement. Or they could take steps to improve their investment returns after fees. Leaving their goals intact, Mr. Ardrey looks at how they might fare if they sought professional investment management for their entire portfolio, their personal savings and their combined work pension money.

As it is, their RRSPs are 75 per cent in stocks, which is high, given how close they are to retiring, he says. Instead, the planner suggests they add some alternative income investments to their portfolio, something they can do by hiring an investment counsellor (portfolio manager) with expertise in the area. Alternative income funds include such strategies as private debt, accounts receivable factoring and global real estate.

Doing so should boost their investment returns to about 6.5 per cent, or 5 per cent a year after subtracting investment costs of 1.5 percentage points. “In Shawn and Sharon’s case, the value [in alternative investments] is not only the increased return, but also the reduction in equity exposure, reducing the overall portfolio volatility.”

This compares with historical returns of 4.25 per cent before fees of 0.5 per cent on their DC pension money and 4.55 per cent before fees of 2.2 per cent on their personal savings. “After inflation of 2 per cent, there is very little real return in their personal strategy,” the planner says.

The effect of a 5-per-cent net return on their retirement plan would be dramatic, Mr. Ardrey says. “Instead of falling short of their goal and running out of money when Shawn is 85 they would have more than enough to meet their lifestyle needs.” They would even be able to increase their spending by $9,000 a year if they chose to.

Client situation

The people: Shawn, 59, and Sharon, 56

The problem: Can they afford to retire early and travel without running out of savings?

The plan: Either adjust the goals or take steps to improve their investment returns after fees by hiring a professional money manager.

The payoff: With higher returns, they could well meet their original goals.

Monthly net income: $10,800

Assets: Cash $5,000; his TFSA $10,000; his RRSP $90,000; her RRSP $25,000; his DC pension plan $420,000; estimated present value of his DB pension plan $435,755; her DC pension plan $585,000; residence $450,000. Total: $2-million

Monthly outlays: Mortgage $1,980; property tax $330; home insurance $125; utilities $305; car lease $650; insurance, fuel $350; grocery store $700; clothing $100; line of credit $500; gifts, charitable $245; vacation, travel $800; dining, drinks, entertainment $1,450; personal care $350; pets $350; other personal $60; health, life, disability insurance $185; phones $160; TV, internet $150; TFSAs $400. Total: $9,190. Surplus of $1,610 goes to student loan and travel spending.

Liabilities: Mortgage $126,000; line of credit $10,000. Total: $136,000

Want a free financial facelift? E-mail finfacelift@gmail.com.

Some details may be changed to protect the privacy of the persons profiled.

Matthew Ardrey
Presented By:
Matthew Ardrey
VP, Wealth Advisor
matt@tridelta.ca
(416) 733-3292 x230
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