One of the country’s top experts on retirement says it’s okay for young adults swamped by mortgage and daycare costs to save little or nothing for retirement.
Using Fred Vettese’s new Rule of 30, they can catch up later. Mr. Vettese, a widely respected actuary, has written two books for people planning their retirement – Retirement Income For Life and The Essential Retirement Guide. His latest book is for a much younger audience – people balancing the cost of homes and raising a family with the need to save for the future.
The new book is called The Rule of 30: A Better Way to Save for Retirement. What follows is a Q&A with Mr. Vettese about the Rule of 30, and retirement in general. The conversation has been edited for clarity and length.
Let’s start with the Rule of 30 – how does it work?
The Rule of 30 says that the amount of money you pay for your mortgage and save for retirement, plus other very special kinds of expenses like daycare, ought to be about 30 per cent of gross income. This means that early on in your career – when your pay is lower, mortgage payments are high and daycare takes up a chunk of your pay – you have very little room left over to actually save for retirement. That’s okay because you’re going to be able to make up for it later, when you no longer have a mortgage to pay off and no kids to support.
How does the Rule of 30 square with owning a home? Mortgage lenders are okay with you spending as much as 39 per cent of your gross pay for housing-related costs. But you’re saying that the combined total of mortgage payments plus daycare plus retirement savings should max out at 30 per cent. How does that play out?
What this is going to mean is that some people are simply not going to be able to put any money toward retirement when they’re 30 or 35 years of age. But it also speaks to the point that you only can afford to put so much money toward housing.
So a big mortgage may not be compatible with sufficient retirement saving?
If you want to have some kind of balance in terms of spendable income before retirement and after retirement, then the only answer – the inevitable answer – is that you have to spend less on housing.
What mix of stocks and bonds do you suggest for someone who is using the Rule of 30 over the years?
I start off in the book with 60-40 (stocks-bonds). But I enhance this later on to say that if you’re age 25 through 30, then you ought to be putting 100 per cent in stocks these days. There should be a little bit less in stocks at age 35, a tiny bit less than that again at 40 and so on until you get to 60-40 eventually. As always, it’s a good idea to keep your investment fees as low as you possibly can.
What is the optimum age for adopting the Rule of 30? Is it ever too late to start?
I think a great age for adopting it would be 25 to 30, but 35 is still fine if you plan to work until 65 or somewhere in that vicinity. The rule is based on about 30 years’ worth of saving. I do have an example in the book where somebody was actually in their 40s and I found that even then it kind of works because they’re past the stage where they have to worry about daycare expenses, and they also should have somewhat higher income relative to people in their thirties.
Does the Rule of 30 factor in Canada Pension Plan retirement benefits and Old Age Security?
Yes, but not necessarily the full amounts. People shouldn’t ignore those two sources of income in retirement when they try to figure out how much money they have to save.
How do I adapt the Rule of 30 if I have a company pension for a good piece of my career?
If you’ve got a public sector defined benefit pension and you’ve been in that plan for most of your career, then you don’t really have to worry about very much. Otherwise, your pension contributions would be part of the Rule of 30. If you and your employer are each putting in four per cent of pay, then you only have to focus on the other 22 per cent, which just might all go toward the mortgage and daycare.
Does the Rule of 30 work equally well for people with low, middle and high incomes?
It’s really geared toward people with middle and high incomes. To be honest, people with low incomes are really not going to be saving very much money in their careers, simply because they won’t have the disposable income. My calculations show that if someone is just around the first quartile of all income levels in Canada, they’re probably going to have more disposable income in retirement simply from OAS and CPP combined than they had during their working lives.
One of the ways to take the pressure off retirement savings is to work past age 65. How is the Rule of 30 affected if you plan to do that?
Except maybe in the public sector, most people really haven’t got the choice of being able to work full-time past 65. Also, most people don’t want to work full-time past 65. So I would just say be realistic, don’t expect that somehow you’re going to still be working full-time until 72.
How do you suggest tax-free savings accounts and registered retirement savings plans be used in conjunction with the Rule of 30?
When your income is lower, like in the early part of your career, it’s better to put more money into TFSAs. Later on, when your income is has gone up, use RRSPs as your main retirement vehicle.
Let’s say that, because of the way my brain works, I prefer to save a constant percentage of my income specifically for retirement. If you had to recommend a constant percentage, what would it be – the old 10-per-cent standby or something new?
Twelve per cent. That’s just based on my prognosis for things like the stock market, bond returns, inflation and so forth. Lower prospective returns are partly offset by a bigger CPP benefit. This won’t help today’s 60-year-olds, but it will be very important to 30-year-olds.
Any final words for young adults who can’t seem to find any room to save for retirement?
They ought to look really hard at how they’re spending their money. I’m not telling them to completely defer living until they’re 60 or 70 – nobody wants to do that. But at the same time, they have to be very careful to see if they are crowding out their ability to save for retirement.
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