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  (Dushan Milic for The Globe and Mail)

 

(Dushan Milic for The Globe and Mail)

Portfolio makeover

Sheila took the package – can she retire for good? Add to ...

After more than a decade of working for a company that was sold, Sheila was “packaged off” this year. She saw it coming: The 62-year-old widow knew the organization was on the verge of bankruptcy and that major changes were inevitable.

Sheila, who worked in human resources, now finds herself not employed for the first time in 40 years. She likes it.

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“I get together with friends, see my family, read a lot, and stay fit,” Sheila says. “I’d really like to know if I can retire right now without changing my life too much.”

In addition to receiving a healthy severance package, she’s built up a nest egg in the form of cash, RRSPs and mutual funds. But she doesn’t have a company pension, and she worries about her monthly costs, which include mortgage payments and hefty condo fees. She’s expecting an inheritance worth approximately $300,000, but she’s also loaned money to her three adult children.

“I have some decent savings, but my expenses are also high,” she says. “I don’t foresee any big expenses in the future, but I just don’t know if I can retire for good.”

To see if she can indeed shelve her résumé, we consulted certified financial planner Brad Mol, senior wealth adviser at Toronto’s TriDelta Financial Partners , and Toronto certified financial planner Frank Wiginton, author of How to Eat an Elephant: Achieving Financial Success One Bite at a Time.

The good news? Both advisers say Sheila can relax. There’s no need for her to return to work.

The basics

Assets

– Condo: $800,000

– RRSPs: $172,000

– Mutual funds: $70,000

– U.S. cash: $222,000

– Canadian cash: $200,000

– Income until the end of 2013: $5,800 a month (from her severance package)

– CPP and survivor’s pension: $1,172 a month

Liabilities and expenses

– Line of credit: $25,000

– Mortgage payments: 1,060 a month on a $215,000 mortgage

– Condo fees: $1,200 a month

– Property taxes: $400 a month

– Other costs, including hydro, phone, cable, Internet, car plus insurance and gas: $1,300 monthly

Mr. Mol’s tips

1. Maximize tax shelters and income.

There are a couple of ways Sheila can do this, Mr. Mol says. First, since her continuance and survivor pensions put her in a marginal tax rate (MTR) of just over 43 per cent, she should use the rest of her retirement savings plan (RSP) room ($18,000) in this tax year. “In retirement, her MTR is in the 24- to 31-per-cent range, so she makes a gain on the difference plus the funds grow tax sheltered,” he explains.

Sheila should also take advantage of a tax-free savings account (TFSA), in which funds grow tax-sheltered and there is no tax on withdrawals or to one’s estate. “She should catch up – $25,500 this year – and make maximum contributions annually,” Mr. Mol says. “Funds can be moved from her non-registered accounts.”

Going forward, Mr. Mol says Sheila is on track to keep her current lifestyle. “Sheila can maintain the level of spending indicated by her budget. She has significant real-estate capital that can be utilized. For example, she may opt to sell her home at some point in the future and rent.”\

2. Pay off her mortgage.

Mr. Mol suggests doing this at renewal to avoid a penalty by using some of her non-registered investments or expected inheritance.

“Given Sheila’s non-registered investment and mortgage balances, she would’ve benefited from implementing a strategy called the Smith Manoeuvre in years past, effectively making the interest on her mortgage tax-deductible,” Mr. Mol notes. “Looking at it today, however, the benefits aren’t likely to outweigh the tax costs of the transactions required to set it up. I recommend she set up a HELOC [home equity line of credit] on her home as a means of tapping into the equity in the future if required.”

3. Overhaul the portfolio.

“It’s hard to determine what the underlying strategy or philosophy is in her portfolio,” Mr. Mol says. “It’s mostly individual stocks with some mutual funds mixed in. Holdings range from blue-chip stocks to speculative ones. Overall, her portfolio is approximately 80 per cent invested in the equity market, with 15 per cent in cash and only a very small amount in fixed income courtesy of her mutual funds.

“The current asset mix doesn’t provide much in the way of diversification of asset classes,” he adds. “If there is a shock to equity markets, she is very exposed. Given she is transitioning from earning a paycheque to depending on her portfolio for income, closer attention should be paid to risk and volatility.”

Adding a greater fixed-income component will provide diversification and help cushion the portfolio from downturns in the equity market, Mr. Mol says. He also suggests setting aside $60,000 to $90,000 from her portfolio in a high-interest cash account as an emergency fund.

“The remaining portfolio should be more balanced, perhaps a range of 60 to 70 per cent in equities, depending on market conditions,” he says.

Mr. Wiginton’s tips

1. Restructure assets and liabilities.

Mr. Wiginton suggests Sheila pay off her line of credit, maximize contributions to a TFSA, forgive the loans to her children, and “buy her own” mortgage.

“Sheila can use cash savings and some of her non-registered investments to pay off the line of credit and accelerate her mortgage payments,” he says. “The accumulated money in the non-registered investment accounts, along with the addition of the loan repayment from the children, will only lead to an increase in taxable investment income. Consider using a portion of the inheritance to pay out the mortgage. If she desires, she may remortgage the property to purchase investments, thereby making the mortgage interest tax-deductible, although this is not necessary.”

Although she still has a mortgage, car loan, and line-of-credit payments on top of her lifestyle expenses, Sheila doesn’t have to worry about a lack of funds. “She has more than enough income and assets to support a much higher lifestyle,” Mr. Wiginton says.

2. Transition her investments to a higher level of investment management.

“With over $700,000 in investment assets, Sheila can demand a higher quality of investment management,” Mr. Wiginton says. “At this level, mutual funds are of little value, and her portfolio should be made up of actual stocks and bonds. She should find an investment counsel firm that will work with her to create a portfolio that focuses on asset preservation and income generation. This should be done in conjunction with tax planning, as a large portion of her investments are non-registered.”

3. Consider advanced estate and tax planning.

Sheila could look at gifting more money to her heirs prior to her death, as well as several charitable-giving options, using insurance and other tax-advantaged wealth-transition strategies to reduce her taxes during her lifetime and her estate and probate taxes on death. “All of this should be done through a comprehensive financial plan to assess the value of each strategy,” Mr. Wiginton says.

You can get your portfolio reviewed by the experts, too. Send a confidential e-mail to portfoliomakeover@globeandmail.com. If we profile your portfolio, your identity will not be revealed.

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