Can this Manager Afford to Marry... and Retire Early?
Andrew Allentuck
Solution: Add up pensions and incomes from registered and non-registered savings, bulletproof assets
I am tired of working. I have seen friends and family die or have serious health issues. I want to enjoy my life now while I am in good health and able to enjoy the fruits of my labour. — George, 54, a Manitoba resident
George, 54, is ready to retire after a 30-year career with a large manufacturing company in Manitoba. Retirement at 54 is early, but as George explains, he has issues of spiritual and physical exhaustion.
“I am tired of working,” George explains. “I have seen friends and family die or have serious health issues. I want to enjoy my life now while I am in good health, and able to enjoy the fruits of my labour.” George has the luxury of early retirement, because he has saved zealously, he has a company pension, and he has had only himself to support. But changes, including marriage, are coming. He worries these changes could derail his plan.
George is preparing a new stage of his life, with a woman who is 41. He can sell his home, a 600-square-foot starter house with a current estimated price of $210,000, then live with his lady and her two children, ages 9 and 11, and eventually they’ll buy a larger home together.
Planning To Quit
Family Finance asked Derek Moran, head of Smarter Financial Planning Ltd. in Kelowna, B.C., to work with George to assess his readiness. “George has annual take-home income composed of salary and dividends from his taxable investments of $87,276,” Mr. Moran notes. His expenses net of savings are just $20,724 a year. “He actually seems addicted to saving, but there is tax planning that we can do.”
On retirement, George will have a company pension of about $70,000 a year. That’s the result of the common retirement plan, which multiplies 2% of final income, about $120,000 now, by years of service.
George could split income when he retires with his new wife to take advantage of the new family tax credit, though the tax savings for these parents of children under 18 will be modest. Her earned income of about $100,000 a year will exceed his income but not by much. He would pay more tax, she would pay less. When both are retired, the children will be over 18 and the tax break will vanish.
Entering into a union with his spouse-to-be, who is 13 years younger, offers a significant tax advantage, because he can set the minimum distributions from his RRIF on her age rather than his. If he had no spouse, his distribution rate would be 7.48% of RR IF assets. Using her age, it is about 3%.
He is effectively cutting the initial payout by about half, keeping what is not paid out in the RRIF still growing, paying tax on about half the money he would have had to take without the spouse, and extending the life of his RR IF, Mr. Moran notes. The minimum distribution rate will climb, but her age will provide a discount for decades.
Costs and Benefits
If George does buy a house with his fiancée, he needs to put his name on the title. He will then be entitled to share provincial homeowner tax refunds. Manitoba currently provides persons over 65 a cash refund of $235 a year, on top of as much as $1,100 a year in property tax credits already available to seniors. By marrying, he is taking on family obligations. She will pay most of the costs of raising her two young children and paying for their educations, but she might outlive him and collect his pension benefits for decades. George has to weigh the cost of giving up 100% of his pension, taking 70% to 80% of that amount instead to provide for his wife. Given that her income is nearly as much as his earnings, taking a survivor option is not essential, Mr. Moran says.
Retirement Income
Drawing income from his $610,000 of non-registered investments and $37,000 TFSA is not important for the time being. George’s retirement income will exceed his probable spending, even with the additional costs of a shared family life.
George’s portfolio has an Achilles heel, that is, a concentration on stocks that could plummet in hard times. He has several mutual funds constructed to harvest dividend income and a portfolio of U.S. large caps and Canadian financial services companies, but hardly any government bonds. He needs to add some to provide for an extended market decline.
When stocks are falling, government bonds tend to gain value, as investors rush for guaranteed payment of income and repayment of principal. Long bonds with terms up to 30 years, though exposed to loss should interest rates rise several per cent, have recently generated huge gains, driven by pension funds and insurance companies. Swapping energy stocks for bonds in low-fee mutual funds or ETFs would be worth considering, Mr. Moran says. A 30% allocation to bonds and 70% to equities would be a sensible balance. However, given that George’s income from defined benefit and government pensions is secure, he could lower the allocation to 20% bonds.
When retired, George will have his $70,000 pension and $18,300 of income from non-registered assets generating 3% a year after inflation for total income of $88,300 a year. After 30% average tax, he would have $61,810 a year to spend. He will likely continue to add to his TFSA but keep it intact as a rainy-day fund, which at age 71 would have a balance of $184,500 with the 3% after-inflation growth assumption. CPP benefits of $12,780 at 2015 rates, at age 65, would push his total annual income to $101,080. After tax at about 30%, he would have $70,756 a year to spend.
A year later, at 66, he could add $6,765 annual OAS in 2015 dollars, but probably lose all of it to the clawback — the exact loss dependent on the level of dividends from non-registered stocks.
At 72, his RRSP — having grown at 3% a year for 18 years from $64,000 at retirement to $106,000 in 2015 dollars — packaged in a RRIF could begin payments based on his wife’s age at about $3,200 a year, making final pre-tax income about $104,300 a year. After application of age-based tax credits and pension income credits and average tax of 35%, he would have about $67,800 a year to spend. Were he to draw 3% a year from his TFSA, it could add $5,500 a year in untaxed income for total disposable income of $73,300 a year.
Estimating his future wife’s retirement income at age 65 is speculative. If she continues to work for 25 years, she might add $60,000 of pre-tax job pension income plus full CPP and OAS benefits to family income.
“This case shows what being frugal can do for a retirement,” Mr. Moran says. “George’s spending never rose to match his income. As a result, he will have a reserve for a long and probably pleasant retirement.”
(C) 2015 The Financial Post, Used by Permission