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FINANCIAL FACELIFT: How can this couple save for their son’s higher education and their own retirement?

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September 28, 2020 Matthew Ardrey Financial Facelift, RESP, Retirement Planning, RRSP

Below you will find a real life case study of a couple who is looking for financial advice on how best to arrange their financial affairs. Their names 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.

Written by: Dianne Maley
Special to The Globe and Mail
Published September 25, 2020

Since coming to Canada from India in 2016, Sanjay and Maya have found well-paying jobs, bought a large condo in Toronto and had a child. He is age 35, she is 32.

Both are professionals, bringing in a combined $300,000-plus a year in salary. Sanjay earns another $15,000 a year in income from his business, which he hopes to expand.

“We have assets across Canada and in India, spanning equities, bonds and real estate,” Sanjay writes in an e-mail. While they are both well educated, “financially, we believe there’s so much more we can and should do,” he writes. “The last few years were so unpredictable in the stock market that most of the time we spent on the sidelines.”

Their questions: “What should be our portfolio structure to achieve our goals?” Sanjay asks. Their long-term goals include saving for their son’s higher education and for their own retirement. Their retirement spending target is $6,500 a month or $78,000 a year. “How much should we be saving on a monthly basis?” As well, “what products are we missing that are unique to Canada and which can give us some tax benefits?”

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

What the expert says

Now that they are settled, Sanjay and Maya would like to take stock of their lives and ensure they are on the right path for their financial future, Mr. Ardrey says.

“Sanjay’s goal is to work at his own business full-time once his income from it is sufficient, which he figures will take another two years.” In preparing his forecast, Mr. Ardrey assumes that for the next two years (2021-22) Sanjay will earn $15,000 a year from his business and in 2023 will start working there full-time, earning $150,000 a year.

After communicating with the couple and analyzing their income and expenditures, the planner discovered some holes in their budget. They appear to have a larger surplus than their numbers indicated, he said. Although some of the difference can be attributed to RRSP refunds, “Sanjay and Maya need to review their budget thoroughly,” Mr. Ardrey says.

The next step is for Sanjay and Maya to open a registered education savings plan for their son, who was born in 2018, to take advantage of the Canada Education Savings Grant, the planner says. The grant adds 20 per cent to the first $2,500 in contributions made to an RESP each year up to a maximum of $7,200. “To maximize the grant, they should look at contributing $5,000 for this year and next (to catch up with missed contributions) and then $2,500 a year afterwards,” he adds.

The savings will not be enough to cover the expected future cost of postsecondary education, estimated at $20,000 a year for a student living away from home, Mr. Ardrey says. Including investment returns, they would be able to cover off about 55 per cent of the expected costs. The remainder would have to come from the child’s work income, student loans or other family savings or current income.

In addition to their above-mentioned savings, Maya will be enrolled in a defined contribution pension plan by the end of the year, the planner says. Starting in 2021, she will contribute 6 per cent of her salary, matched by her employer. In addition, Maya makes the maximum contribution to her RRSP annually. Mr. Ardrey assumes that after he leaves his job to run his own business, Sanjay will maximize his RRSP contribution room each year as well.

Next, the planner looks at the couple’s investment portfolio, which has an asset mix of 95 per cent equities and 5 per cent fixed income, with most of the stock portion in U.S. and international markets. Aside from bank accounts, all of the non-registered investments remain in investment accounts in India, with the bulk in mutual funds, he says. The historical return for a portfolio with this asset mix is 5.6 per cent a year, with an average investment cost of 1.25 per cent, Mr. Ardrey says. When they retire, his analysis assumes their rate of return is reduced by one percentage point as they add more conservative investments to their asset mix.

Both Sanjay and Maya plan to retire at the age of 65. Based on their time in Canada, they would get 85 per cent and 93 per cent of Old Age Security benefits, respectively. If they continue to work at their current income levels, then they would get 87 per cent and 95 per cent of Canada Pension Plan benefits, respectively.

“Based on the above assumptions, Maya and Sanjay can meet their retirement goals with ease,” Mr. Ardrey says. At Maya’s age 90, they would have $3-million in investment assets, largely in RRSPs or other registered accounts, and $4-million in real estate value, he says. If they decided to spend that investment value, they could increase their spending by $4,500 a month, in addition to the $6,500 a month in planned spending.

“With that kind of financial cushion in place, Sanjay and Maya may want to look at retiring earlier than 65,” Mr. Ardrey says. He did a projection with a retirement age of 60 for Sanjay and age 57 for Maya. Even if they retired sooner they can still meet their goal, though the additional spending room would fall to $1,000 a month more than the $6,500-a-month target.

Despite this rosy picture, there are things that Sanjay and Maya can do to improve their financial picture, Mr. Ardrey says. First is to open tax-free savings accounts and contribute the maximum allowable. “Being able to save an additional $6,000 each and every year tax-free will greatly benefit them in retirement,” he says. Unlike RRSPs, withdrawals from TFSAs are not taxable.

As well, a considerable amount of their investments remain in Indian rupees, which adds foreign-exchange risk to their investment portfolio, the planner says. They should look to move those investments to Canada where they can form part of an overall investment strategy, he says.

Because Sanjay plans to run his own business, they might want to consider a less volatile asset mix, the planner says. Given low interest rates and turbulent stock markets, they could add some private income-producing investments such as a private debt fund or a global real estate fund, Mr. Ardrey says. “These funds would be designed to supplement their returns while reducing the volatility risk of the equities.”

Client situation

The people: Sanjay, 35, Maya, 32, and their son, 2.

The problem: How best to chart a path to a solid financial future.

The plan: Open an RESP for the child to take advantage of the government grant. Open TFSAs for both of them so their earnings can grow tax-free. Consider lowering risk in their investment portfolio.

The payoff: A brighter financial future than they may be anticipating.

Monthly net income (budgeted): $19,000

Assets: Bank accounts: $32,700; stocks $72,000; mutual funds $145,000; Indian mutual fund $27,900; his RRSP $37,000; her RRSP $49,000; his DC work pension $6,300; residence $1.25-million. Total: $1.6-million

Monthly outlays (forecast): Mortgage and property tax $4,200; condo fees $750; home insurance $70; electricity, heating $150; maintenance $240; transportation $400; groceries $800; child care $1,880; clothing $540; gifts, charity $200; vacation, travel $600; other discretionary $1,000; dining, drinks, entertainment $700; personal care $100; club memberships $150; sports, hobbies $150; subscriptions $40; other personal $100; prescriptions, supplements $100; health, life insurance $105; phones, TV, internet $215; his group RRSP $830; her RRSP $2,160. Total: $15,480. Surplus of $3,520 goes to unallocated spending and saving.

Liabilities: Mortgage $850,000

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

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

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

Taking a pension’s commuted value can leave some Canadians wealthier

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August 31, 2020 Matthew Ardrey Commuted value, Defined Benefit Pension

For Canadians who are planning to retire or have perhaps lost their jobs and who have a defined-benefit (DB) pension plan, there has never been a better time to review the age-old question of whether they should keep the pension or take the commuted value (CV).

That’s because of the way the CV – or the amount of money that the pension plan would need to have today to pay out the future stream of income benefits at the pension holder’s retirement – is calculated. Specifically, an implied rate of return, which is determined considering the interest rate on the seven-year Government of Canada bond and the long-term Canada bond, is needed to determine the CV. The lower the interest rate on this bonds, the greater the CV. Incidentally, the rate of the seven-year bond is now at a paltry 0.48 per cent.

So, how does this all work to determine the CV? The lower the interest rate, or implied return, the larger the capital base needed to generate a given annual income stream or pension.

To make an informed decision, the pension holder must get information from the pension plan. Unfortunately, pension plan providers have been making that more difficult. In many cases, they’re refusing to provide that information to pension plan members, making it virtually impossible to make an informed decision about their financial future.

In addition to this roadblock, the Office of the Superintendent of Financial Institutions (OFSI) placed a portability freeze on all federally regulated pension plans. That includes industries such as aviation and airlines, banks, broadcasting and telecommunications, interprovincial transportation, marine navigation and shipping and railways. The only way these pension plan members can take the CV is if they’re eligible for early retirement. OSFI’s freeze has not affected provincially regulated pension plans. (Note: OSFI lifted the portability freeze on Aug. 31, subject to certain conditions, days after this article was published.)

Despite these obstacles, now still may be an opportune time to take a pension’s CV for those who are able to do so. That’s because according to the Canadian Institute of Actuaries’ Actuarial Standards Board, changes to the interest rate and retirement age assumptions will be implemented on Dec. 1 that will cause the CV to be lower.

Assuming that a member has access to the CV and it makes financial sense to take it, what happens next? The CV typically comes out in two pieces. First, there’s a maximum amount that’s transferred to a registered locked-in retirement account (LIRA) and remains in a tax-deferred state. Then, the excess amount comes out as a cash payment and is fully taxable to the pension plan holder in the year it’s received.

Although that initial tax payment scares some people away from this strategy, it still makes financial sense to take the CV over the pension in many cases. Examples include if a pension plan member has considerable contribution room to shelter the cash portion of the payment in their registered retirement savings plan (RRSP) or if the rate of return needed on the CV to exceed the pension payment is not excessive.

Once the funds are out of the pension plan, they should be invested in a responsible and conservative manner. In doing so, it’s still possible to earn an annual yield of 5 per cent or more. If we’re more focused on income and ignore the stock market’s gyrations, there are many options for earning such a yield.

One strategy is to invest in Canadian dividend-paying stocks that can produce a consistent, ongoing yield. Examples include Canadian Imperial Bank of Commerce (CM-T), which has a yield of 6.01 per cent, Enbridge Inc. (ENB-T), with a yield of 7.44 per cent, and BCE Inc. (BCE-T), with a 5.87-per-cent yield. In addition, Canadian dividend payments are tax preferred. In Ontario, there are no taxes on dividends until approximately $48,500 of income is generated; then, taxes are less than 7 per cent on amounts below about $78,700 – assuming no other income.

Another consideration is alternative income managers, available to high-net-worth individuals, that invest in sectors like private debt or global real estate. During the COVID-19 crisis, these managers’ income payments have been largely unaffected. Depending on the fund, the target yield usually ranges between 5 and 8 per cent. As the income from these funds is interest, it’s best to place these investments in registered accounts to shelter the income.

Beyond the financials, the CV often offers better security for the pension plan member’s family and estate. If a pension holder dies with a spouse, then there’s a spousal pension. If they both die, there’s nothing remaining for the estate. If the CV is taken and the individual dies, then the assets in that individual’s LIRA would transfer to the spouse’s RRSP. If they both die, the after-tax value become part of the estate.

Although DB pension plans were once the golden path to retirement security and no one would ever dream of cashing it in for the CV, times have changed – and financial strategies should change along with them.

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

FINANCIAL FACELIFT: Lucinda wonders how to organize investments after the coronavirus accelerated her decision to sell her house

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August 11, 2020 Matthew Ardrey Budgeting, Financial Facelift, Retirement Planning

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 names 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.

Written by: Dianne Maley
Special to The Globe and Mail
Published August 7, 2020

At the age of 60, Lucinda is going from being without contract work and collecting the Canada Emergency Response Benefit to wondering how to invest and manage about $1.5-million – the net proceeds from her house sale in downtown Toronto. The deal, for a total of $1.7-million, is set to close in September.

“The [COVID-19] pandemic accelerated my decision to sell my house in case of a significant drop in housing prices,” Lucinda writes in an e-mail, and because contract work in communications is now hard to come by.

“I fear I won’t be able to find work anymore, meaning I might need to cut into my savings, which I wanted to avoid. So now I need guidance on how to map out my retirement savings strategically,” she adds.

“My plan had been to take a few months off to attend to house repairs and then look for another contract in the spring,” Lucinda writes. “Then the pandemic hit and the contracting job market – combined with my experience level – led me to conclude it may take a very long time, if ever, for me to be employed again.”

She has no plans to buy another place and has rented an apartment for September. A key goal is to help her daughter, her only child, who has just graduated from university, to get established.

A self-directed investor who uses a mixture of mutual funds and exchange-traded funds, Lucinda wonders how best to structure her investments to last a lifetime. She also wants to leave as much as possible to her daughter. She wonders, too, when to begin collecting Canada Pension Plan benefits. Her target retirement spending goal is $45,000 a year after tax.

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

What the expert says

“Like many Canadians these days, Lucinda’s working life has been cut short by COVID-19,” Mr. Ardrey says. “So taking stock of her financial picture today and where it is going in the future is a prudent exercise.”

Lucinda estimates she will net $1,474,000 from her house sale after she pays off her mortgage and covers closing costs, the planner says. Her existing portfolio is a mixture of ETFs and mutual funds with an asset mix of 48-per-cent stocks and 52-per-cent cash and fixed income. The stocks are slightly overweight to Canada, but are otherwise well diversified geographically, he says.

“The historical returns on her portfolio asset mix are 4.39 per cent, with investment costs of 0.79 per cent, leaving her with a net return of 3.6 per cent,” Mr. Ardrey says. If inflation is assumed to be 2 per cent, this leaves her with 1.6 per cent above inflation, he adds.

If Lucinda sticks to her modest spending target of $45,000 a year to the age of 90, she would leave an estate of about $2.4-million in 2050, the planner says. She could spend another $42,000 every year before exhausting her capital. “That being said, I would not recommend this level of spending unless it is nearer to the end of her life, because there is no real estate to fall back on as a cushion.”

Lucinda has expressed concern about the direction of the stock market and low returns on fixed-income securities, the planner says. “She certainly has justification for her concerns.” The five-year Canadian government bond yield is a scant 0.31 per cent. “Though bond [prices] have had a great 2020 so far, in part due to interest-rate cuts, the long-term future of this asset class is definitely in question,” Mr. Ardrey says.

First off, Lucinda may want to look to an actively managed bond fund portfolio with solid yields that she can continue to hold for the coupons (interest payments), Mr. Ardrey says. Actively managed funds tend to do better in difficult markets. She is holding bond ETFs, most of which passively track market indexes.

With her increased wealth, Lucinda should consider hiring an investment counselling firm, which is required by law to act in the best interests of its clients, he says. (For a list of such firms, see the Portfolio Management Association of Canada website at https://pmac.org/.)

These firms can “create a strategy for her that will provide solid, ongoing income from both traditional and alternative asset classes,” the planner says. He recommends an asset mix of 50-per-cent equities, 20-per-cent fixed income and 30-per-cent alternative income – a class that includes funds that invest in private debt and income-producing real estate. The addition of alternative income investments, which do not trade on public markets, has the potential to boost fixed-income returns while offsetting the volatility of stock markets.

“The next couple of years will continue to be volatile in stocks,” he says. “But if she can ignore the volatility and focus on the dividend payments, she can use that income to pay for her lifestyle (with government benefits) without drawing on her capital.”

Lucinda should invest her new capital gradually, especially when it comes to buying stocks, Mr. Ardrey says. “I would not want to see Lucinda invest a substantial amount of capital, only to have the markets fall 20 per cent the following month.”

As for when to start taking Canada Pension Plan benefits, the planner suggests Lucinda wait until she is 65. “If Lucinda took her CPP at age 60, she would get $7,848 a year. So by the time she turned 74, she would have collected a cumulative total of $109,872 ($7,848 multiplied by 14 years).”

If she waited until age 65, Her CPP would be $12,144 a year. In 9 years, she would have collected $109,296.

“So, if Lucinda lives beyond age 74 and a few months, she would be better off taking CPP at age 65 than 60,” the planner says. Getting the larger amount starting at 65 would overtake the advantage of getting the smaller amount earlier starting in her 74th year, he adds.

Client situation

The people: Lucinda, 60, and her daughter, 26.

The problem: How to invest the proceeds of her house sale to last a lifetime and leave an inheritance for her daughter. When to take CPP.

The plan: Start CPP at 65. Consider hiring a professional investment counselling firm. Enter the stock market gradually. Consider actively managed bond funds and alternative fixed-income investments to potentially boost returns and lower volatility.

The payoff: The comfort of knowing she may be able to spend a little more than she plans and still leave a substantial estate.

Monthly net income (budgeted): $3,750.

Assets: Bank accounts $52,000; mutual funds $48,400; TFSA $61,500; RRSP $374,600; net proceeds of house sale $1.5-million. Total: $2-million.

Monthly outlays (forecast): Rent $1,650; home insurance $15; electricity $50; transportation $150; groceries $400; clothing $50; vacation, travel $300; personal discretionary (dining, entertainment, clubs, personal care) $500; health care $230; phone, TV, internet $90; miscellaneous future discretionary spending $315. Total: $3,750.

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.

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

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