Nearly Broke With a Negative Net Worth, this Middle-aged B.C. Couple Needs to Start Slashing Debt Now

Andrew Allentuck
Richard and Kayla are entering middle age with debt twice their annual take home income. They have no regrets for where they are, yet they have no financial assets except for a Registered Education Savings Plan for their children, a small RRSP, life insurance with modest cash value and $2,000 of cash in the bank. 
Doctor starts practice in early 40s with family, debts and negative net worth
Rely on rising medical practice income to pay debts, kids’ education and retirement
In B.C.’s Lower Mainland, a couple we’ll call Richard, 41, and Kayla, 39, are just getting started on their financial lives. They are nearly broke.
A physician, Richard completed his residency in mid-2013, having started medical school at the age of 34, putting ten years of elite amateur swimming competition and several prizes behind him. Then he used student loans to pay for his medical training. Today, he owes $146,000 for his medical education. Kayla, who is a self-employed management consultant, and their children ages 6 and 8 make up the family. Their present after-tax income is $5,890 a month. Trouble is, Kayla’s consulting work will end in May, leaving the family dependent on Richard’s $4,200 monthly take home income.
Richard and Kayla are entering middle age with debt twice their annual take home income. They have no regrets for where they are, yet they have minimal financial assets except for a Registered Education Savings Plan for their children, a small RRSP, life insurance with modest cash value and $2,000 of cash in the bank. Their net worth is negative to the tune of $102,313, yet Richard is at the jumping off point of what is likely to be a career of much personal satisfaction and, potentially, a good deal of income.
Richard’s prospects for earning a six figure income are very good, though at the moment their budget is strapped just to pay $1,475 monthly rent, to keep their 15-year old subcompact car running and to provide day care while Kayla is at work.
Their goal is to have $85,000 a year in retirement, Kayla says. They want to buy a home of their own, pay off the med school bills, fund their children’s RESPs, and finally save for retirement.
Family Finance asked Derek Moran, head of Smarter Financial Planning Ltd. in Kelowna, B.C., to work with Richard and Kayla.
“Yes, they are behind, financially speaking, but they can catch up quickly,” he says. “Physicians have the capacity to make a good living once their practices bloom.”
Budget Management
Their first challenge will be to pay off the $146,000 line of credit. It was consolidated from several student loans carrying higher interest rates of 5%. Now, with interest of 3%, which is a net 2% reduction from the higher rate, Richard cannot take a tax credit for loan interest. Still, the decision to consolidate was a good one, Mr. Moran notes.
At present, Richard pays $365 a month interest on the loan. He can continue to pay these carrying charges, $4,380 a year or perhaps or more as rates rise, or pay off the balance. If he pays $1,079 a month with 4% interest as rates rise, he would have the loan discharged when he is 56. That paydown rate not supportable on present income, but should be workable as his income rises.
The two children have a Registered Education Savings Plan with a balance of $16,252. If Richard and Kayla put just half the maximum $2,500 a child annual amount which qualifies for the Canada Education Savings Grant into a family plan for 11 years to the time that the elder child is 19 and the younger is 17, they will qualify for 20% of total contributions for 10 years at $500 a year and $250 for one additional year when the elder child is over 17, total $5,500. On top of the present balance and assuming growth at 3% over the rate of inflation, the RESPs would have a balance of $64,825 in 2025. Each child would have about $32,500 for university. That would cover tuition and books. The kids would have to live at home or supplement their income with summer jobs.
Richard and Kayla want to buy a house. They should begin by building up their RRSPs, which have a current balance of $14,435, to $25,000 each, Mr. Moran says. Those accounts, from which funds can be withdrawn via the Home Buyers’ Plan, can then be used for a down payment. To avoid high ratio loan interest premiums, the couple’s parents might to help with the down payment. A modest house far from Vancouver’s frothy property market carrying a $450,000 price tag could have a $90,000 conventional down payment. If they get a 3.5% mortgage, it would take $2,088 a month to be mortgage free in 20 years when Richard is 61. That is a jump of $613 a month over their current rent. They would have to add property taxes of perhaps $350 a month.
Richard should be able to earn an income in the neighbourhood of the average family physician in B.C. Two years ago, a survey showed family physicians in the province billed $240,356 before deduction of overhead at as much as 40%. That would leave gross income of $144,213.
Richard, like other physicians, has a medical corporation. He can use it to pay Kayla some income if she does work for the business, thus lowering his personal tax rate to perhaps 25%. That would leave about $9,000 a month to support his family. That income would cover paydown of the student loan, contributions to the kids’ RESPs, home mortgage payments and still leave money for RRSP contributions. Childcare costs of $750 a month will end soon, boosting potential savings which they can hold in Tax-Free Savings Accounts. As of 2014, they each have $31,000 of contribution room.
Looking ahead to retirement, Richard can receive salary or dividends. Dividends are taxed at a lower rate than salary income. Salary is the better choice in order to generate CPP credits and RRSP contribution room and to fund spousal RRSPs for Kayla.
The RRSP contribution limit for 2014 is $24,270. Richard can’t afford that now. However, as an illustration of what contributions add up to in 29 years at his age 70, based on a present RRSP balance of $14,435 and growth of 3% per year over inflation, he would have $1,164,400 in 2014 dollars. With growth maintained at the same rate, the fund could provide an annual indexed income of $76,000 for 20 years to his age 90. It is not essential to begin RRSP contributions immediately, for the space is carried forward.
Both Richard and Kayla can receive Old Age Security when each reaches 67. Deferring benefits to age 70 would increase the payments by 0.6% a month for each month which payments would start and make OAS benefits $8,047 each. They could add estimated Canada Pension Plan benefits which would be 42% higher than the age 65 benefits at age 70. On this basis, Richard would have $17,693 and, by assumption that she might get half that, Kayla would have $8,847 a year. Their total income, including investment income, at age 70 would therefore be $118,634 in 2014 dollars. With splitting of qualified pension income, they would have $7,900 a month or $95,000 a year to spend after 20% average income tax. They would have beaten their retirement income target by a wide margin.
“They have a long road ahead,” Mr. Moran says. “However, when Richard develops his practice, then family income and net worth will grow and make this analysis a reality.”
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