Situation: Couple with $2.3 million in real estate plus savings and a pension doesn’t have the cash flow to retire
Solution: Downsize house, build financial assets and improve bookkeeping
A couple we’ll call Norm, 64, and Teri, 58, make their home in B.C., where inflated real estate prices have become the norm. A carpenter and a public library worker, respectively, they own a $1.7 million house on a well landscaped lot — it’s a nice home, but the sort of place that would sell for perhaps a half to a third of that price in other areas. They also have a $600,000 cabin. On paper, with $2.3 million in property, they are wealthy. The reality is they will have trouble living up to millionaire status when they retire in two years and their take-home income declines.
“We could use some advice on our spending habits,” Norm confides. “We bring in $7,600 and change every month but find it difficult to save.”
On the positive side, their three children are grown, gone and have families of their own. Norm and Teri have no debts. Their allocations are well within their means, though, as we’ll see, there are accounting issues that need to be addressed. They want to have $6,500 per month after tax in retirement.
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Family Finance asked Owen Winkelmolen, a fee for service financial planner who runs PlanEasy.ca in London, Ont., to work with the couple.
“The problem in this case is that 80 per cent of the couple’s assets is tied up in real estate and a car which produce no income,” he explains. “The remaining $630,325 in financial assets may not be enough to support them. There is going to be an income gap and it will have to be closed if Norm and Teri are going to be able to maintain their way of life.”
A present, Norm and Teri together earn $120,334 per year but save nothing other than $7,200 per year in RRSPs.
In retirement, they want to travel in a recreational vehicle at an estimated cost of $6,000 per year, which would cover payments for a used RV, operating costs and insurance.
Downsizing the house
Generating that much cash after tax is going to be very difficult unless Norm and Teri master their spending by rigorous expense tracking. Currently, their spending records cover $4,739 per month but do not account for $2,878 of untracked expenses. Those untracked expenses are 38 per cent of their monthly take-home pay. They will need to improve their bookkeeping in order to ensure they remain within their means.
They also need to either downsize their house or sell the cottage. Selling the house and moving into a $900,000 condo would liberate about $715,000 after five per cent selling costs, while the cottage might yield them $522,000 after costs and capital gains taxes. Selling the house would also save them $6,000 in property taxes, enough to pay for the estimated cost of the RV.
Norm and Teri prefer to keep their cottage and downsize their house. The cottage will then be their principal residence. The B.C. Property Tax Deferral program for those over 55 years old could save them about $2,000 in annual property taxes at a small cost — currently 1.95 per cent of assessed tax and periodically adjusted to a discount from prime rate. The annual loan is repayable when the property is sold.
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In retirement, the couple will have several income sources.
Assuming Norm and Teri downsize their house by the time Norm is 66 and starting retirement, the $715,000 after costs, generating 3 per cent per year after inflation, would yield $36,180 per year for 29 years.
Their $145,577 of RRSPs growing at six per cent per year less three per cent for inflation will become $154,443 in two years and support payments of $7,814 for 29 years from Norm’s retirement at age 66 for 29 years to his age 95.
Norm’s group RRSP with a present value of $420,000 with two years of employee contributions at $7,200 per year and two years of employer contributions at $5,560 per year, all growing at three per cent per year after inflation, would become $471,481 in 2019 dollars and generate taxable income of $23,855 per year for 29 years.
The couple’s existing TFSA balances, with a combined present value of $18,000 growing at 3 per cent per year for two years after inflation will rise to $19,100 with no further contributions.
Their non-registered accounts with a present value of $46,748 and no further savings will increase to $49,595 in two years. These funds, which generate taxable income, should be shifted to their TFSAs where they have ample space. The total, $64,748, growing at three per cent per year after inflation for two years to Norm’s retirement, would become about $68,700. It will support yearly payments of $3,476 for 29 years.
At 65, Norm will qualify for estimated $13,440 annual Canada Pension Plan benefits, while Teri’s will be $440 per month when she reaches that milestone.
They will each have $7,290 Old Age Security benefits at 65.
Teri will have a small work pension from a former job that will pay her $1,250 per month or $15,000 per year to 65 and $810 per month after 65.
Adding up benefits, when Norm is 66, the couple would have $36,180 from downsizing their house, $7,814 from RRSPs, $23,855 from Norm’s group RRSP, $3,476 from TFSAs, $15,000 yearly from Teri’s work pension, $13,440 from his CPP, and $7,290 from his Old Age Security. That sums up to $107,055 yearly. With splits of eligible income and no tax on TFSA cash flow, after 15 per cent average tax they would have $7,600 per month to spend. That’s over their $6,500 monthly retirement income target.
When Teri turns 65, her job pension will drop to $9,720 per year. Her CPP will provide $5,280 and OAS $7,290 per year. Total annual income will become about $114,345. With no tax on TFSA payments, splits of eligible income and 16 per cent average tax, they would have about $8,050 monthly to spend. With surplus cash, they would be secure.
Retirement stars: Two ** out of five
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