Tina and Tom live with their two children, ages 6 and 8, in a house they rent from Tina's mother. He is 47, she is 43.
Both work as self-employed consultants in the education field, and so have no company pensions. Debt free and with money to spare, Tom and Tina are wondering whether they should buy their home or if doing so would leave them short of retirement savings.
Complicating the issue from a tax perspective is the fact that Tina is an American citizen. If they invest rather than buying the house, "leaving our retirement savings at the mercy of the markets over the next 20 years," they wonder whether Tina's citizenship will "throw a wrench into any tax considerations," Tom writes in an e-mail.
"Should we begin to use a registered retirement savings plan for her and continue to avoid tax-free savings accounts, as is our understanding?" he asks.
Their household income fluctuates, with Tom averaging $110,000 a year and Tina $20,000. They have some investments, including $50,000 in raw land and $27,000 in a registered education savings plan for their children. Tom is saving about $35,000 per year. They wonder, too, whether they are in "decent shape" to retire in 20 years.
We asked Ron Graham, a chartered accountant and certified financial planner in Edmonton, to look at Tom and Tina's situation.
What the expert says
Tina and Tom currently rent their home for $1,260 a month. Tina's mother is willing to sell it to them for $400,000. The couple has about $333,000 in savings outside Tom's registered plans, $90,000 in his registered retirement savings plan and another $30,000 in his tax-free savings account.
They have been avoiding registered plans in Tina's name because RRSPs and TFSAs do not reduce U.S. income tax payable, Mr. Graham says.
Tom and Tina want to retire at age 65 – which would be 18 years from now for him and 22 years for her – with an annual spending target of $60,000 a year. They can achieve this goal even if they cash in $100,000 worth of their non-registered investments for a down payment as long as Tom saves at least $25,000 per year for retirement, the planner says. But their monthly expenses would be higher with the house, leaving less money to save.
For example, they could take a $300,000 mortgage loan at 3.5 per cent a year amortized over the 18 years until Tom plans to retire. The monthly payment would be about $2,100 for principal, interest and taxes, $840 a month more than they are paying now in rent. They would also face costs for maintenance and improvements. Buying the house will reduce their savings ability by at least $10,000 per year, making it more difficult to meet their retirement, education and other goals.
To avoid the complexities of Tina's U.S. tax filing, Tom is paying more tax on his investment income, Mr. Graham says. (Investment income earned in an RRSP must be reported on the U.S. tax return unless an exemption is requested by the taxpayer, in which case the tax is deferred until the money is actually withdrawn from the RRSP.)
They may find it is worthwhile for Tina to take advantage of the Canadian tax shelters and report the income on her U.S. tax return.
Because she is in a much lower tax bracket, Tina should build non-registered savings in her name rather than Tom's, Mr. Graham says.
"Even if she had to pay U.S. tax, it would be less than Tom's Canadian tax," he notes.
When Tom and Tina retire at age 65, they will begin collecting Canada Pension Plan benefits, and at age 67, Old Age Security. Mr. Graham assumes CPP of $11,215 a year for Tom and about $3,300 for Tina. At age 67, he assumes OAS of $6,553 for Tom and $4,751 for Tina. Tina likely will receive U.S. Social Security benefits, which would make up for some of her reduced CPP and OAS.
When Tom retires, he should transfer his RRSP into a registered retirement income fund and begin to withdraw at least the minimum amount to take advantage of the lower tax bracket (on income of up to $43,561 a year), Mr. Graham says. He can share the RRIF income with Tina to cut his taxes even further.
"If the minimum amount is less than needed to use up the lowest tax bracket, Tom should consider withdrawing more than the minimum," the planner says. If Tom continues to invest outside of his registered plans, Mr. Graham recommends tax-efficient investments such as Canadian dividend-paying stocks.
"In his tax bracket, he will pay 36 per cent tax on interest, foreign dividends ... and other income, but only 15 per cent tax on eligible Canadian dividends."
Tom, 47, Tina, 43, and their children, ages 6 and 8.
Trying to figure out if they can afford to buy the house they are renting without jeopardizing their retirement security given that they do not have work pensions. Also wondering how Tina's citizenship will affect their tax planning.
Look long and hard at the higher monthly payments needed to buy the house as well as the ongoing cost of maintaining it. They can afford to buy if they put $100,000 down and ensure the mortgage is paid off by the time Tom retires. Build non-registered portfolio in Tina's name.
Financial security, a home of their own if they so choose, and the assurance that their financial affairs are arranged in a tax-efficient way.
Monthly net income
Bank deposits $30,000; stocks $193,000; land $50,000; mutual funds $60,000; his TFSA $30,000; his RRSP $90,000; children's RESP $27,000. Total: $480,000
Rent $1,260; utilities $260; transportation $420; groceries $600; clothing $150; gifts $50; charitable $50; vacation, travel $100; miscellaneous cash outlays $1,000; personal discretionary (grooming, dining out, entertainment) $400; dentists, drugs $100; health and dental insurance $141; life insurance $188; disability and critical illness $197; telecom, cable, Internet $180; RRSP $1,000; RESP $400; TFSA $500; other savings $1,000. Total: $7,996
Special to The Globe and Mail. Want a free financial facelift? E-mail firstname.lastname@example.org. Some details may be changed to protect the privacy of the persons profiled.