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FINANCIAL FACELIFT: The mortgage is paid, income is good but budgeting is hit-and-miss

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Below you will find a real life case study of a couple who are looking for financial advice on when they can retire and how best to arrange their financial affairs. The names and details of their personal lives 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 Friday, May 19, 2017

Mike and Jade are raising three children on a single – albeit good – salary in an Ontario town where real estate prices are not especially high.

He is 45, she is 51. Mike earns $125,000 a year in a managerial job while Jade stays home with the children, who range in age from 8 to 11. Jade and Mike have paid off their mortgage, but they’re still having trouble getting ahead.

“I am well paid,” Mike writes in an e-mail, “yet I never seem to have any free cash flow.” His extended family has helped, gifting him and Jade money to invest 20 years ago when they were just starting out. Another relative lent them money to buy a vehicle.

“I want to pay back my $16,000 family loan,” Mike writes, but instead he is wrestling with a $29,500 line of credit that seems to keep going up rather than down.

“All of my peers are jetting off to vacations in the Caribbean, talking about their tax-free savings account performance, and making plans to spend the summer at their cottages,” Mike adds. “Why do I feel like a financial lightweight?”

We asked Matthew Ardrey, a vice-president and financial planner at TriDelta Financial in Toronto, to look at Mike and Jade’s situation. Mr. Ardrey holds the certified financial planner (CFP) designation.

What the expert says

Jade and Mike’s problems with budgeting and debt management are growing more common, Mr. Ardrey says. Short term, they want to repay their debts and at the same time spend money on the roof (at least $5,000), eye surgery ($5,000) and a vacation ($15,000).

“These two cannot be achieved simultaneously.”

They do not have a good handle on where the money is going, the planner says. “The budget is a key concern for me with this couple. From their comments, they seem to have a real desire to keep up with the Joneses, but what they really need to focus on is getting their own financial house in order.” The first step is to track their spending and prepare a detailed income and expense statement.

To repay the family loan, they could liquidate some of their non-registered investments, the planner says. They could sell about $4,000 a year for two years, which would pay off half the loan. With some budgeting, the remaining $8,000 could be paid off at the rate of $2,000 a year for four years.

In his calculations, the planner assumes the couple borrow on their line of credit to cover their short-term spending goals such as the roof, eye surgery and the vacation.

This “does not address the real problem of cash-flow management,” Mr. Ardrey says. Without a detailed cash-flow plan in place, they will “end up right back where they started.”

The next goal is the children’s education savings. They are saving $500 a month and the planner assumes they allocate their $500 surplus to the RESPs as well. As it is, the plan falls short of meeting total education costs for three children. That assumes costs of $20,000 a year for each child, rising with inflation.

Once the children begin studying, the planner assumes no further RESP contributions, so Jade and Mike will be able to use the money that had been going to the RESPs to help pay for the additional education costs. They could borrow to cover any shortfall. After the children graduate, the couple can direct their attention to paying off the line of credit.

With no surplus cash flow, the only way they can take full advantage of their substantial unused TFSA contribution room would be to shift some of their non-registered investments to TFSAs. Mr. Ardrey suggests Mike use the two accounts (he has three) with the least capital gains to fund the tax-free savings accounts: $45,500 split evenly between them this year and $49,500 in 2018. From 2019 onward, they can sell enough from their more profitable dividend fund to make annual TFSA contributions of $5,500 each.

Jade and Mike plan to retire at the age of 65. Mr. Ardrey assumes that Mike will get full Canada Pension Plan benefits at the age of 65 and that Jade will get 25 per cent of the maximum. Both will begin collecting Old Age Security at the age of 65. They will have Mike’s work pension, their RRSPs and their non-registered investments to draw from.

They will be in good shape financially, but they could do better if they upped their anticipated rate of return and lowered their cost of investing, Mr. Ardrey says. They are invested mainly in bank mutual funds, which can have relatively high management fees.

Based on their current spending (less savings) and adding a buffer in case their spending is understated, Mr. Ardrey figures the couple can spend at least $5,000 a month, or $60,000 a year, when they retire. By following the saving and budgeting plan noted above, they could increase their retirement spending to $90,000 a year from $60,000.

Given that they have about $750,000 outside of Mike’s work pension, the couple can afford to hire an investment counsellor to create a personalized portfolio strategy that would likely increase their returns, lower their risk and cut investment costs, Mr. Ardrey says. If, for example, they could earn 6.5 per cent with investment costs of 1.5 per cent, they would have more than twice as much as the original $60,000 target to spend in retirement.

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The people: Mike, 45, Jade, 51, and their three children.

The problem: Trying to figure out where the money is going so they can pay off their loans and meet some short-term spending goals.

The plan: Track their spending carefully and draw up a detailed list of income and expenditures.

The payoff: A better understanding of how to get from here, where they’re feeling pinched, to a future where they will be financially comfortable.

Monthly net income: $7,185

Assets: Cash $1,750; non-registered investment portfolio $278,600; his RRSP $268,800; her RRSP $203,200; market value of his DC pension plan $144,000; RESP $89,000; residence $315,000. Total: $1.3-million.

Monthly outlays: Property tax $500; home insurance $30; utilities $380; maintenance, garden $175; transportation $570; groceries $450; child care $75; clothing $150; line of credit (varies) $300; personal loan $100; gifts $125; charity $250; vacation, travel $100; dining, drinks, entertainment $250; grooming $100; clubs $10; pets $45; subscriptions $25; children’s activities, special needs $300; vitamins $25; life insurance $180; disability insurance $210; telephone, cellphones, cable $280; RRSPs $1,500; RESP $500. Total: $6,630. Surplus: $555

Liabilities: Line of credit $29,500 at 3.7 per cent; personal loan $16,000 at no interest. Total: $45,500

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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: At start of big earning years, couple face lack of retirement savings

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Below you will find a real life case study of a couple who are looking for financial advice on when they can retire and how best to arrange their financial affairs. The names and details of their personal lives 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 Friday, Dec.30, 2016

retirement_planningAfter nearly a decade in grad school toiling as a research assistant, Chris has reached his big earning years. He is 39 and grosses about $180,000 annually as a self-employed medical consultant.

“I began my private practice one year ago,” Chris writes in an e-mail. It has taken off and is generating a lot of money, he adds – so much that his wife, Rachel, stepped away from her job “and is now trying to forge a career as an author,” Chris writes. Rachel, who is 40, is also taking care of their three children, whose ages range from 10 to 13.

In the fall, after a generous gift from their parents, they bought a house large enough to accommodate a family of five and a writer. Over the next few months, they want to buy a new car, renovate their bathroom and put in a gas fireplace. They have not yet begun to save for retirement in any meaningful way and are concerned about that. They’d also like to travel.

“How much should we allocate to our RRSPs and tax-free savings accounts to make up for the years when we didn’t contribute?” Chris asks. “How aggressively should we pay down our mortgage, and how do we balance this against our dream of purchasing a cottage within the next 10 years?”

We asked Matthew Ardrey, vice-president at TriDelta Financial in Toronto, to look at Chris and Rachel’s situation. Mr. Ardrey holds the certified financial planner (CFP) designation.

What the expert says

Chris and Rachel want to renovate their bathroom and put in a gas fireplace at a combined cost of $35,000. Mr. Ardrey assumes they will use part of their $83,000 in savings to pay for this. As for the car, they could finance the purchase at or near zero interest and pay the loan off over five years.

Because they live in Quebec, their children’s tuition fees for postsecondary education will be much lower than in other provinces. Rachel and Chris are saving $2,500 a child a year to their registered education savings plan, which has a balance of $51,000. Mr. Ardrey assumes a cost of $10,000 for each child a year to cover additional costs such as textbooks and the like. So their savings should be enough to cover the majority of the costs of four-year undergraduate degrees for each of their children, the planner says. They will fall a little short in the final year of schooling for the youngest child and will need to add about $8,500 of their own money.

To meet the couple’s travel goal, Mr. Ardrey doubled their travel budget to $14,000 a year starting in 2018 when the home renovations are complete.

So far, Rachel and Chris have almost no retirement savings. Chris has $34,000 of unused RRSP contribution room and Rachel has $61,000. Both have the maximum TFSA contribution room available.

Given their cash holdings and surplus of income over expenses, Chris should be able to make up his unused RRSP contribution room in the coming year as well as make the maximum contribution for 2017 and ensuing years. No RRSP contributions are factored in for Rachel because she has no income at the moment.

For the TFSAs, they can catch up on past contribution room by 2021. From 2021 onward, the planner assumes they make the maximum TFSA contribution every year. Both contributions will be made from Chris’s income. Because the money is going to a TFSA, the investment income from her TFSA will not be attributed back to him.

In preparing his forecast, the planner assumes it will take five years before Rachel starts earning an income from her writing equivalent to $20,000 in today’s dollars. Because Chris will be making substantially more than Rachel, Mr. Ardrey assumes that she saves all of her gross earnings to her non-registered investment account. The resulting investment income will be taxed at her lower marginal tax rate. In addition, Chris can pay any income tax Rachel might owe to allow her to save more.

Starting in 2021, Chris and Rachel will have some additional cash flow because they will have caught up on their TFSA contributions. Mr. Ardrey assumes they direct $1,100 a month to paying down their mortgage from 2021 to when they buy the cottage. He assumes they buy a cottage in 2028 for $400,000 in today’s dollars, adjusted for inflation. The make a down payment of 10 per cent from Rachel’s non-registered savings. The remainder of the purchase price is financed by a mortgage at 5 per cent. In 2037, when the mortgage on the principal residence is fully retired, they can increase the principal repayment on the cottage mortgage by $30,000 a year to retire the debt in 2043, in advance of their retirement in 2047.

Chris and Rachel plan to retire at the age of 70. Their savings and government benefits will be more than enough to meet their $55,000 a year after-tax spending goal, Mr. Ardrey says. He has factored in $20,000 a year for travelling until Chris is age 85. The planner’s forecast assumes a 5.4-per-cent rate of return on their investments, falling to 4 per cent once they have retired, an inflation rate of 2 per cent, and that they both live to the age of 90.

+++++++++++++++++

The people: Chris, 39, Rachel, 40, and their three children.

The problem: How to allocate the income from Chris’s growing consulting business. Can they buy a cottage?

The plan: Catch up on unused RRSP and TFSA contribution room, then shift to repaying the mortgage. Once the mortgage on their principal residence is paid off, they can shift the money to the cottage mortgage and have it paid off before they retire.

The payoff: A clear road map to a financially comfortable retirement with all their goals achieved.

Monthly net income: $9,380

Assets: Cash in bank $83,000; his RRSP $1,200; her RRSP $1,200; RESP $51,000; residence $765,000. Total: $901,400

Monthly disbursements: Mortgage $1,850; property tax $140; home insurance $140; utilities $175; transportation $335; grocery store $1,150; clothing $100; gifts $50; vacation, travel $585; dining, drinks, entertainment $260; grooming $60; pets $50; subscriptions $135; doctors, dentists $50; life insurance $75; disability insurance $20; cellphones $90; Internet $150. Total: $5,415. Surplus available for saving and investing: $3,965

Liabilities: Mortgage $417,000

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

What is a Locked-in Retirement Account (LIRA)?

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pension

LIRAs are registered accounts that are funded with assets from a pension plan. These types of accounts are very similar to the RRSP but with some significant restrictions.

Recently I was quoted in an article written by Jon Chevreau for the National Post. about LIRAs. As I am finding that more and more of my clients are holding LIRAs, I thought this would be a good opportunity to explain what they are and how they work.

Before I get into the details of the account itself, I think it would be useful to gain some understanding of why these accounts are becoming so prevalent in today’s workforce. The world of pensions and employees has changed significantly in the past 10 years or so. It used to be that there were many more employers in the private sector that offered their employees defined benefit (DB) pension plans. These days, to find a private sector employer with a DB pension plan is increasingly rare. If a company does offer a pension today, it is more likely to be a defined contribution (DC) pension plan.

In addition to there being less DB pension plans, employees are less likely to remain at their current employer their entire careers than they were in the past. If these employees leave and have a pension, the balance of the DC pension plan or as an option, the commuted value of the DB pension plan, will be transferred out to a LIRA.

Finally, those who did decide to commute (or take the cash value) of their DB pension mention reasons for their decision like wanting control over the investment strategy and having more flexibility over the withdrawals in retirement versus the traditional pension payout. This is due to changing attitudes about investing and personal finance.

What is a LIRA and how does it work?

As I mentioned above it works almost exactly like an RRSP but with additional restrictions. The first of these is you cannot access the funds in the account except under very specific circumstances I will discuss below. As these funds are from a pension plan, the government wants to ensure that they are used for retirement. Contributions are also restricted, as the LIRA can only be funded with pension assets.

Once you have made the decision to transfer your assets out of the pension plan, you would open a LIRA at your financial institution and transfer the assets there using form T2151. If you already have an existing LIRA you can combine them if they are under the same pension jurisdiction. After the transfer is complete, you can invest these assets in the same manner that you would invest your RRSP assets.

How can I get the money out of a LIRA?

Even when you reach the point where you are ready to retire and draw on your LIRA, your ability to draw on these assets are still limited. First they can be converted into an annuity, where a future stream of payments are made based on the value of the LIRA and other factors such as estimated mortality.

If you choose not to go the route of the annuity, then your LIRA will be transferred into a Life Income Fund (LIF) no later than the year in which you turn 71, much like the RRSP becomes a RRIF. As with the RRIF, each year you will be required to take a minimum payment from your LIF. Where it differs is the LIF also has a maximum payment each year which cannot be exceeded.

With the increase in the amount of LIRAs the government has made a major change to increase the flexibility for those who rely on these accounts for their retirement income. They now allow for a one-time unlocking of up to 50% of your LIRA into another tax-deferred vehicle, such as an RRSP or a RRIF, once you have reached the calendar year in which you turn 55. With half of the balance unlocked, this portion will no longer be subject to the maximum withdrawal limits allowing greater financial flexibility for Canadians. This provision is now also available in some provinces. Check with your province if your LIRA is provincially regulated.

Are there ways to unlock the account before retirement?

There are situations under which a LIRA may be unlocked. Again I am going to go over the federal rules. These may vary by province.

If you are 55 or older and have only a small balance in the LIRA, you may unlock it. A small balance is defined as less than 50% of the current Year’s Maximum Pensionable Earnings (YMPE), $27,450 for 2016. If the balance in the LIRA is less than this figure, it may be unlocked and moved to an RRSP.

Next is becoming a non-resident. If you are a non-resident of Canada for two consecutive years, you can unlock your LIRA.

Third is for health reasons. If you have been diagnosed and certified by a doctor to have a shortened life span, you may unlock your LIRA.

If you are experiencing financial hardship you may unlock up to 50% of the current YMPE. To reach the maximum you must have no income. If you have some income, but it is still low, there is a formula to calculate how much you can unlock. Once your income reaches 75% of the current YMPE, the amount you may unlock reaches zero.

As the LIRA becomes more commonplace, understanding how it works will be more common knowledge like how the RRSP works. Until that time you may have questions about it. If you do, please send me a note at matt@tridelta.ca or give me a call at (416) 733-3292 X230 and I would be happy to discuss your situation with you.

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

FINANCIAL FACELIFT: Can travel plan blossom if she works part-time?

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Below you will find a real life case study of a couple who are looking for financial advice on when they can retire and how best to arrange their financial affairs. The names and details of their personal lives 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 Friday, Oct. 14, 2016

At age 39, Barbara and John are mortgage-free with money in the bank, good professional jobs, a young child and a strong desire to see the world.

John earns about $97,000 a year, while Barbara brings in $39,120, on average, working part-time. They wonder whether she can continue to work part-time until John semi-retires at age 55, and then spend the next 15 years travelling the world together and working part-time.

“We think the world is going to change and travel will become an extreme luxury item,” Barbara writes in an e-mail, adding, “international travel will not be a valid option after 70.”

fotolia_119537068_xs2The Ontario couple have already given in to their wanderlust, travelling extensively over the past two years, but they realize they have to pare back a bit. They need to do some work on their house and save for their daughter’s postsecondary education.

“Are we okay if Barbara works part-time from now until full retirement at age 70?”

We asked Matthew Ardrey, a vice-president and financial planner at TriDelta Financial in Toronto, to look at Barbara and John’s situation. Mr. Ardrey holds the certified financial planner (CFP) designation.

What the expert says

First, Mr. Ardrey looked at the couple’s short-term financial goals. They want to spend $18,000 in 2017, $6,000 in 2018 and $6,000 in 2019 on travel, plus $10,000 for new floors in 2018 and $10,000 for a new furnace and air conditioning unit in 2019. They show a surplus of $20,700 a year, more than enough to cover these expenses. “So there is no need for Barbara to work more hours to cover their short-term spending needs.”

When they semi-retire at age 55, they plan to spend $60,000 a year after tax in today’s dollars, close to what they are spending today after savings are removed, Mr. Ardrey says, plus an additional $20,000 a year in today’s dollars on travel.

John is saving 4 per cent of his income, plus a 4-per-cent matching contribution from his employer, to his defined-contribution pension plan, adding $2,400 a year to his tax-free savings account and $7,200 a year to his registered retirement savings plan. Barbara is contributing $6,000 to her TFSA and $1,200 to her RRSP. The planner assumes all savings end when they semi-retire.

They will both receive Old Age Security at age 65 and Canada Pension Plan benefits at age 70. John will get full CPP, but the planner assumes Barbara will get 70 per cent of the maximum. He further assumes a rate of return on their investments of 5 per cent, an inflation rate of 2 per cent and that they will both live until the age of 95.

Based on these assumptions, the couple will be able to meet their retirement goals, Mr. Ardrey says. They would leave an estate of about $800,000 on top of their real estate and personal effects.

But a couple of items need to be addressed, the planner says. The first is budgeting and saving. After the large expenses are addressed in the next few years, they will have a budget surplus of $30,000 a year.

“They should take a good look at their budget to ensure this surplus is really there because their ability to make large expenditures without taking on additional debt depends upon it,” Mr. Ardrey says.

If they do have a big surplus, “it would be good to save at least half of it to their TFSAs and RRSPs.”

The second item concerns the investment costs they’re paying. For their assets outside of John’s defined-contribution plan, they are investing in mutual funds, which can come with high fees. “Depending on the level of service and planning this couple is receiving, those costs may or may not be justified,” Mr. Ardrey says.

To illustrate how these suggestions could make a big difference, the planner ran a second retirement plan. In it, John and Barbara increased their savings by $15,000 a year until they semi-retired and lowered their cost of investing by half a percentage point a year. It could make a big difference. “Their estate, excluding real estate, would more than double to about $1.98-million.”

Meanwhile, to fully cover their daughter’s postsecondary education costs, assumed to be $20,000 a year in today’s dollars, John and Barbara will need to increase their education savings by $175 a month from now until their daughter is 18. As it is, they will only cover about 70 per cent of this cost. Finally, he suggests they both take out disability insurance.

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The people: Barbara and John, both 39, and their daughter, 6.

The problem: Can Barbara continue to work part-time without jeopardizing their long-term travel plans?

The plan: Once short-term expenses are paid, review spending to get a firm handle on surplus. Consider saving half of it to RRSPs and TFSAs. Review investment fees.

The payoff: A clear road map to their financial destination.

Monthly net income: $8,445

Assets: Cash $7,160; her TFSA $5,090; his TFSA $31,440; her RRSP $154,185; his RRSP $107,440; his DC pension plan $51,220; RESP $22,960; residence $350,000. Total: $729,495.

Monthly disbursements:
Property tax $310; utilities $180; home insurance $70; maintenance, garden $190; transportation $485; groceries $750; child care $250; clothing $360; gifts $220; charitable $130; vacation, travel $325; other discretionary $500; dining, drinks, entertainment $365; grooming $50; pet $100; sports, hobbies $250; doctors, dentists $150; life insurance $45; cellphone $17; Internet $60. RRSPs $700; RESP $210; TFSAs $700; his pension plan contributions $300. Total: $6,717. Monthly surplus: $1,728.

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

CPP – When is the Right Time for You to Take It?

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CPP is the one defined benefit pension plan that every Canadian employee receives, so it is not surprising that I am often asked about when is the right time to take it.

I was asked about my thoughts on this very question by MoneySense Magazine.

This article expands on those thoughts and reviews when it is the right time to start receiving your CPP.

Is it better to take CPP at 60 or 65?

To answer this question, let’s take a look at the math, assuming the maximum pension is received either at 60 or 65. Based on the reduction factors for taking CPP early, the pension is reduced by 0.6% per month, or 7.2% per year, to a maximum of 36%. Ignoring the effects of inflation, the cumulative payment of CPP at 65 exceeds that at 60 around the age of 74. Putting it simply, if you live past age 74 you are better off taking CPP at 65 than 60.

cpp60vs65f


If I stop working at 60, should I take CPP at 60 or 65?

Again let’s take a look at the math behind this analysis. CPP works like a fraction with 47 years between ages 18 to 65. This is your denominator (bottom of the fraction). The numerator (upper part of the fraction) is based on your work history. You receive a “one” for every year you maximize CPP and a “zero” for every year you do not contribute at all. The rest of the years get a percentage between one and zero. These are added up and divided by 47 to get your percentage of maximum CPP payable.

However, the calculation does not end there. Everyone is entitled to the general dropout provision, which allows you to drop your eight worst years automatically, making the CPP fraction out of 39 not 47. For example, consider you retire at 60 with eight years of zero CPP contributions. You would receive the maximum CPP at age 60. If you wait until age 65, you will have five years with zero contributions. To determine which option is better, you only need compare the reduction in CPP. If you take it at 60, you will have a 36% reduction in CPP. If you take it at 65, you will have five zero years and a 13% reduction in CPP (100 – 34/39). Ignoring the effects of inflation, the cumulative payment of CPP at 65 exceeds that at 60 around the age of 78 in this example.

cpp60vs65d

What other things can I do to maximize my CPP?

Other than the general dropout provision, which is automatically given to everyone, there is also a child-rearing dropout provision. The child-rearing dropout provision allows the primary caregiver to drop up to seven years of CPP contributions, following the birth of a child, that have earnings less than the maximum. If multiple children are born there may be some years which overlap. These can only be counted once. Unlike the general dropout provision, you must apply for the child-rearing dropout provision

You may share your CPP with your spouse or common-law partner. The portion of the pension that is available to share is based on the number of months you cohabitated while eligible to contribute. To share your CPP, both of you must be eligible to receive CPP and apply for it. This measure does not change the total amount of pension received by the couple; rather, it changes who the pension is paid to and subsequently how it is taxed.

What other considerations should factor into my decision?

What other sources of income do you have during the years you will not be receiving CPP. For many people the decision to defer CPP to 65 is no decision at all, as they need the pension to cover their everyday costs of living.

If your spouse or partner is much older than you, you may benefit from having the extra income now to enjoy with them. Your expenses will potentially decrease as your older spouse can no longer enjoy these activities or passes on.

How does your income compare to the OAS and GIS thresholds. By taking the CPP earlier, it may keep you below these thresholds in the future.

It may be beneficial to defer taking the CPP if you have RRSP assets to draw upon and no other income. You can draw down your RRSP and lower tax rates and the overall lower balance in the RRSP will reduce your future RRIF payments as well.

If your family has a history of longevity, you should include that in your decision. All other things being equal, the longer you expect to live, the more you should lean towards deferring.

The math favours waiting until age 65 to take your CPP for many people today. If you can afford to do so, it is preferable. That being said, you need to look at your personal circumstances and how this choice will affect you and your lifestyle. There is no single answer that is right for everyone.

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

Financial Facelift: Couple with high incomes needs tighter budgeting to meet their goals

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Below you will find a real life case study of a couple who are looking for financial advice on when they can retire and how best to arrange their financial affairs. The names and details of their personal lives 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 Friday, Sep.02, 2016

Rose and Ron are feeling squeezed financially despite their high income. Ron, who will be 37 this year, makes $120,000 a year in marketing, while Rose, who will be 40, earns $175,000 working in the health-care field. But they want to renovate their basement and send their children to summer camp. Then there’s the $2,890 a month in child-care expenses and the $2,600 a month in mortgage payments.

They have two children, ages 5 and 2. Their expenses – which they track loosely – seem to eat up nearly every dollar they make.

“How do we put aside enough money for both our kids’ education and our RRSPs while still meeting our monthly obligations?” Ron writes in an e-mail.

“Currently, we do not save any money each month for emergency funds,” Ron writes. “I’m worried that if we have a major home issue, we won’t be able to cover the costs,” he says. “How do we curb our spending? It feels like there’s a never-ending stream of expenses.”

Earlier this year, Rose set up a professional corporation. “With the corporation, how would it be best to shelter income and withdraw it when needed?” Rose asks.

We asked Matthew Ardrey, a vice-president and wealth adviser at TriDelta Financial in Toronto, to look at Rose and Ron’s situation. Mr. Ardrey holds the certified financial planner (CFP) designation.

What the expert says

Fotolia_76895572_XSaThe couple’s three short-term goals are mostly in hand, Mr. Ardrey says. They have borrowed against their house to pay for the basement renovation. With a rate of 2.2 per cent a year and payments of $1,200 biweekly, their $170,000 mortgage will be paid off in five years.

As for retirement savings, Ron and his employer contribute to Ron’s defined contribution pension plan, so he has no extra RRSP room. Rose’s corporation offers a more tax-efficient way of saving for retirement than an RRSP, but more about that later.

They are saving about $2,000 a year to their children’s registered education savings plan (RESP), mainly through gifts. If they top this up to the annual maximum of $5,000 for their two children, they will have enough to pay for a four-year degree for each child, assuming an annual education cost of $20,000 a year for each child, adjusted for inflation, Mr. Ardrey says. “As there is no surplus in their budget, these savings will need to come from a reduction of other expenses.”

As well, they would like to raise their travel budget to $1,000 a month and send each child to summer camp starting when they reach Grade 1. The eldest starts two years from now. The cost initially is $2,500 for Grades 1 and 2, and escalating from there as the children get older.

“By the time they have both children in camp, they will have paid off their mortgage and the funds will be readily available without any further budget constraints,” Mr. Ardrey says.

A major concern for the couple today is budgeting. They have a lifestyle with more than $3,000 a month in discretionary spending alone, plus $1,000 a month in travel costs, the planner says. To achieve all of their short-term goals, they will need to make some adjustments to the expense side of their budget or find a way to increase their income. “The crucial years will be the next five until the debt is paid off,” Mr. Ardrey says. “As they are tight against their budget, they will need all of Rose’s income from the corporation to make ends meet.”

Rose can take dividends instead of salary from her corporation, which will save some tax. Her children (in trust), husband and mother are also shareholders. She might also be able to pay dividends to her mother (depending on her mother’s income), which could further reduce her tax bill.

After five years, when the mortgage debt is paid off, Rose will be able to reduce her draw from the corporation by $50,000 a year and they will still be able to meet their budget, Mr. Ardrey says. This will allow these funds to be taxed at the lower tax rate of a CCPC (Canadian-controlled private corporation) and accumulated for retirement inside the corporation.

When Rose retires, these savings will create a future dividend income stream of $65,000 per year, assuming equal payments from her corporation starting when she retires at 65 and lasting until she is 90. At that time, Rose should look at the income of her adult children to determine if there is any tax advantage to paying them the dividends instead of her, the planner says. “She would pay their reduced tax bill and then take home the larger after-tax income amount.”

When they retire, the planner assumes Rose and Ron will begin collecting maximum Canada Pension Benefits at 65. Their Old Age Security benefits will be clawed back because of their high income. He assumes the rate of return on their investments is 5 per cent a year and the inflation rate that affects their expenses is 2 per cent. He further assumes that they both live until the age of 90.

They plan to spend $85,000 a year in retirement, very close to their spending today once savings, debt repayment, child care and travel expenses are removed, Mr. Ardrey notes. They would like to spend an additional $20,000 a year on travel, inflation adjusted, in today’s dollars, from when Ron retires till he is 80.

Based on these assumptions, they will not only meet their retirement goal, but have a substantial financial cushion. They currently have retirement investment assets of about $1.4-million, and with contributions and growth over the next 25 years those assets will grow to more than $6.5-million, the planner says. They will be able to spend $178,000 a year in current year dollars on an inflation adjusted basis over and above their travel budget. In addition, at the age of 90 they will still own their house.

There are some risks to consider, Mr. Ardrey says. The first is job loss. Though Rose, as a medical professional, wouldn’t likely lose her position, it is conceivable that Ron may lose his job. If that happens it may have a significant effect on their financial plan. Next is insurance risk. Rose has a healthy amount of coverage at more than $2-million, but Ron’s is much smaller at $652,000.

He also suggests some changes to their investment portfolio, which is 28 per cent in cash and 45 per cent invested in Canada. A better approach would be to shift their cash into fixed-income investments and diversify their equity holdings geographically.

Finally, the planner explores how to get funds out of Rose’s corporation tax efficiently. Because the corporation has multiple classes of shares, Rose and Ron can allocate dividends to themselves or their children. Providing dividends to adult children is one way to pay for education or other expenses tax efficiently, Mr. Ardrey says.We recommended Levitra to patients who have erectile dysfunction. Once the child is an adult, the attribution rules no longer apply. Thus, dividends can be paid to the adult child directly when they are in a low tax bracket.

Insurance can also be a useful tool, Mr. Ardrey says. Rose could insure her mother on a policy paid for and owned by the corporation. The policy benefit would be paid to the corporation tax-free. Any amount in excess of the adjusted cost basis would be credited to the capital dividend account (CDA) in the corporation and the funds in the CDA could then be paid out tax-free to the shareholders. If Rose’s mother is in good health, this policy would likely pay out close to Rose’s retirement. “This would provide her with a lump-sum, tax-free payment at or near retirement,” Mr. Ardrey says. “This is one of the most tax-efficient ways to get money out of the corporation.”

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The people: Rose, 40, Ron, 37, and their two children.

The problem: How to deal with short-term financial pressures and still save. Longer-term, how to take best advantage of Rose’s corporation to shelter tax.

The plan: Look for ways to cut spending now. Use corporation’s share structure to make dividend payments to adult children to help cover higher education costs. Consider using an insurance policy to generate tax-free income for Rose. Review insurance and investments.

The payoff: All their goals achieved with plenty of money to spare.

Monthly net income: $15,250

Assets: GICs $72,000; equities $899,000; his TFSA $61,000; her TFSA $30,890; his RRSP $166,000; her RRSP $188,000; market value of his pension plan $40,300; RESP $37,400; residence $882,000. Total: $2.4-million

Monthly outlays: Mortgage $2,600; property tax $580; water, sewer, garbage $70; property insurance $108; electricity $150; heating $145; security $35; maintenance $250; garden $400; transportation $560; groceries $1,250; child care $2,890; clothing $150; gifts $20; vacation, travel $750; dining, drinks, entertainment $880; miscellaneous shopping $250; grooming $250; sports, hobbies $125; subscriptions $15; uncategorized personal spending (children’s activities, house cleaning; gifts, vet bills) $1,500; dentist, drugs $70; vitamins $35; health, dental insurance $100; life insurance $475; disability insurance $250; cellphone $65; Internet $65; TFSAs $900; his pension plan contributions $350. Total: $15,288

Liabilities: Mortgage $170,000

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