Oonah recently earned a professional designation that she hopes will allow her to raise her billable rate by 10 per cent.Justin Tang/The Globe and Mail
Oonah has done well for herself as a self-employed consultant, increasing her gross income gradually to $92,000 a year.
Recently, she earned a professional designation that she hopes will allow her to raise her billable rate by 10 per cent.
"My goal is to keep winning contracts at the higher rate over the next five or six years," Oonah writes in an e-mail. After that, she plans to hang up her hat. She is 58 and concerned about generating income in retirement. Her spending goal is $40,000 a year after tax.
She is drawing $60,000 a year from her corporation, $25,000 in salary and $35,000 in dividends. Arranging things this way has helped lower her tax bill because dividends are taxed at a lower rate than income. The flip side is that the contribution room to her registered retirement savings plan is fairly low because it is based on income.
Oonah wonders if she should remain self-employed or try to find a job paying roughly the same. "Would I be better off becoming an employee of some company or organization?" she asks. If she remains self-employed, she asks if she should increase the amount of money she draws as income so she can save more in her RRSP and contribute as much as possible to the Canada Pension Plan?
She is eyeing her largest asset – her house – to see how it might help.
"Should I sell my house?" she asks. She could invest the proceeds and rent. Or she could sell and buy a house with a rental unit. "I could downsize without finding it too much of a hardship if I found the right alternative," Oonah writes.
We asked Linda Stalker, a financial planner and director of wealth advisory services at Henderson Partners LLP in Oakville, Ont., to look at Oonah's situation.
What the expert says
Oonah's goal is to have her line of credit paid off by August, 2018, Ms. Stalker says. Oonah's strategy is to use the annual $60,000 withdrawal from her corporation to pay down her line of credit and then gradually draw out her living expenses of $37,000. She pays tax of $5,000 personally and the difference of $18,000 goes to pay down the loan. "In order to meet her goal, Oonah must be disciplined and stick to her budget," the planner says.
Oonah should continue on as self-employed, Ms. Stalker says. "She has been able to increase her billable rate year over year, and therefore has more control over her earnings," the planner says. "From a pure tax perspective, Oonah is better off to grow the funds in the corporation, using it as her retirement fund, and paying herself dividends only." The RRSP deduction does not help her much because her tax rate is so low.
There is a downside to the dividend-only strategy, Ms. Stalker says. "Paying yourself dividends only does not allow you to grow your CPP entitlement." As well, an RRSP is creditor-proof while the funds in her corporation are not. "Perhaps the most important consideration is that the funds in the corporation are easily accessible so discipline is key," the planner says. Oonah's current "hybrid" strategy – drawing some income and some dividends – allows her to benefit from the advantages offered by both.
After she quits working, Oonah thinks that she will be comfortable with a monthly income of $3,333 or $40,000 a year after tax. Her retirement income will consist of CPP benefits of $520 a month and Old Age Security of $563 a month. The balance will come from her RRSP, which she will convert to a registered retirement income fund, and a dividend annually from the corporation.
With her current strategy, Ms. Stalker's projections show that Oonah will run out of investment assets, corporate and RRIF, at the age of 82.
"At that point, she would need to use her principal residence to generate income, either by taking out a reverse mortgage or selling the property, investing and living off the proceeds."
Of the housing options Oonah is considering, the best may be to sell her home when she retires. She could invest the sale proceeds and rent an apartment for $1,600 a month, or buy a house that has income potential, the planner says.
"Selling the house and investing the proceeds would generate enough income to cover her lifestyle expenses until age 85, at which point she would need to draw on some of the capital," she adds.
"Much of the capital would be intact and provide what she needs for her lifetime."
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Client situation:
The person: Oonah, 58.
The problem: How to financially make the most of her final six years of work.
The plan: Continue on as self-employed, pay off home-equity line of credit by 65. Possibly sell existing home and buy one that generates rental income.
The payoff: A comfortable retirement
Monthly net income: $4,500
Assets: House $375,000; RRSPs $147,850; TFSA $50; corporate investments $116,500. Total: $639,400.
Monthly disbursements: Housing (property insurance and repairs) $1,068; transportation, gas, car insurance, maintenance, parking $300; groceries $450; clothing/dry cleaning $215; charitable $70; phone, Internet, cable $60; vacation $100; entertainment, dining out, drinks, hobbies, personal care $215; health-care expenses (vitamins, supplements, drugs, dentist) $290; helping a family member $200; RRSP contributions $140; annual RRSP fee $12; Home equity line of credit paydown $1,380. TOTAL: $4,500
Liabilities: Home equity line of credit $90,000.
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