Situation Couple in their fifties need to shed debt, build retirement funds
Strategy As children finish university, reroute tuition costs to savings
Solution An adequately funded retirement, no drop in standard of living
In Alberta, a couple we'll call Lars, 57, and Phyllis, 56, waited until their late thirties to have children. Not long after, Lars lost his job with a multinational company, forcing him to retrain for a new profession. Phyllis had an illness that curtailed her career and made her a stay-at-home mom doing part-time work. But they adapted.
Today, one child is in university and one is about to start. The couple has six figures of debt and no capacity to save after paying all their bills out of $7,450 monthly combined take-home income.
With no more than eight years to go to Lars' planned retirement at 65, they wonder how can they finish paying the university bills and retire with financial security. They dream of having spare cash. "In retirement, can we afford a $6,000 holiday each year?" Phyllis asks. "We plan to live modestly, as we do now, with one or two meals out each month. But are we on track for a retirement income of about $5,000 per month?"
Lars works for a large communications company, Phyllis for a management consulting firm, still on a part-time basis. They are paying down their $100,000 line of credit at $36,000 a year so that it will be eliminated by the time Lars is 60. Then it will be possible to finish building their savings for retirement.
They plan to boost retirement income by taking advantage of high real estate prices in Alberta. They want to sell their $450,000 house and move to the Maritimes, where, they think, they can buy a similar house for $225,000. The difference would add to their retirement capital.
Before the kids started university, they had accumulated financial assets of $289,000, not counting their kids' RESPs. Lars expects an annual company pension of $4,800. The kids have $31,000 in RESPs — half for the older child, who is midway through his undergraduate courses, and half for the younger. The sums are enough for tuition and books. The kids live at home.
Family Finance asked Derek Moran, head of Smarter Financial Planning Ltd. in Kelowna, B.C., to work with the couple to assess their finances
"This is a hard-working and downto-earth couple," Mr. Moran says. "They have planned a modest retirement with lower income in a smaller house. But there are ways to build up more savings with fairly low risk."
For now, however, they are subsidizing the tuition costs of one child at $585 a month. That will go on for four years to 2016 when Lars is 61.
The couple will have to rely on savings to boost pension income. Their $256,000 of RRSPs can be increased by shifting some money or shares as an in-kind contribution from $18,000 of company shares held outside of Lars' RRSP. The shift from taxable to registered would constitute a disposition that triggers tax on any capital gains.
Either way, Lars could maximize his RRSP contribution up to his $14,098 limit for 2012. That would produce a refund of $4,511 at his 32% marginal rate. Once the RRSP limit is used, additional sums can go to the couple's tax-free savings accounts.
Many of the couple's investments are in mutual funds with annual fees of as much as 3%. They would do well to consider less expensive funds or exchange-traded funds with fees averaging a sixth of those they now pay.
If they can save $12,000 a year in their RRSPs, including savings after they pay off their debts and cease to subsidize tuition costs, they will attain a $431,000 balance by the time Lars retires in 2020, and if the proceeds grow at 3% over the rate of inflation for 26 years to the time that Phyllis is 90, the capital could support payouts of $24,110 a year in 2012 dollars.
If they liberate $225,000 from selling their $450,000 house and buy another at half that price, then, ignoring selling and moving costs, they could invest the proceeds.
If they can obtain a 3% return over the rate of inflation to Phyllis's age 90, they could withdraw $12,586 a year in 2012 dollars.
Their total income at age 65 would therefore be $24,110 from their RRSPs, $11,840 from Lars' CPP benefits, $6,180 from Phyllis's CPP, two $6,540 OAS benefits, Lars' $4,800 annual pension, and $12,586 from income from investing $225,000 from their home downsizing for total annual pre-tax income of about $72,600. After tax at a 15% average rate, they would have $5,142 a month to spend. They will need only about $3,650 a month for expenses after eliminating debt service, tuition and other expenses for their kids.
They will have retired with nearly $1,500 discretionary monthly income for travel or other pleasures. The $6,000 annual holiday will be affordable out of a retirement income larger than they expected, Mr. Moran says.
Inflation will reduce the future purchasing power of Lars' nonindexed company pension. As well, depending on which Maritime province they select for their retirement home, they are likely to pay higher taxes than they do in Alberta. Nevertheless, they will have financed their retirement in a fashion that does not require a reduction of their present standard of living, Mr. Moran concludes.
Lars and Phyllis will be able to have a comfortable retirement in spite of the late start they have made in building their savings. Had they been able to begin saving aggressively in their thirties, they would probably have twice the savings they can now expect when they begin retirement, Mr. Moran adds.
(C) 2012 The Financial Post, Used by Permission