Lorna describes herself as a retired single woman, age 65, living in Toronto. She has one child who is 22 and away at university.
After a career in health care, Lorna has a defined benefit pension of $76,020 a year, indexed to inflation, which makes up the bulk of her retirement income. She is also collecting Old Age Security benefits.
Short term, she wants to buy an electric car and spend more time and money travelling. She plans to live in her condo as long as possible.
She wonders which of her savings and investment accounts she should draw down first. “Will my money last until age 95, assuming long-term care might be needed for five years?” Lorna asks in an e-mail. “What might be left when I die?” She also asks if she can afford to help her daughter financially.
Lorna’s after-tax spending goal is $68,000 a year.
We asked Anita Bruinsma of Clarity Personal Finance in Toronto to look at Lorna’s situation. Ms. Bruinsma holds the chartered financial analyst (CFA) and Accredited Financial Counselor Canada (AFCC) designations.
What the expert says
Lorna is in a good financial position, Ms. Bruinsma says. “Ideally, she’d like to increase her travel budget from the current $6,000 per year, so I’ve added an additional $5,000 for travel, bringing her after-tax income needs to $73,000. However, she can afford to spend more than this.”
Lorna would like to account for long-term care costs. “I’ve assumed $6,000 a month for LTC starting at age 90 (in today’s dollars),” the analyst says. Lorna’s after-tax income needs will stay about the same before and after moving into long-term care. Her biggest lifestyle expenses, such as food and shelter, will be included in the $6,000 monthly charge.
Lorna’s defined benefit pension provides about 80 per cent of her pretax income requirements. She has already started receiving OAS, but to achieve her desire to spend more on travelling, she needs a little more income, Ms. Bruinsma says.
Lorna has three options to increase her income: 1) take money from her tax-free savings account and defer Canada Pension Plan benefits; 2) start withdrawing from her registered retirement savings plan and defer CPP; or 3) start taking CPP now and leave her RRSP money until age 71 (when she has to convert her RRSP to a registered retirement income fund and begin making mandatory withdrawals).
Option 1 – withdrawing from her TFSA now and deferring CPP benefits – would keep Lorna’s tax bill lower today because TFSA withdrawals are not taxed. But doing so would result in higher taxes later on because her CPP payments would be 42 per cent higher at age 70 than if she took them at 65. CPP payments are taxable income. Drawing on her TFSA rather than her RRSP or RRIF means her mandatory minimum RRIF withdrawals at age 71 would be higher because the balance in her plan would be higher.
Keeping the money in her TFSA would mean a lower tax bill upon death if she leaves her TFSA in her estate. That’s because, unlike money in an RRSP or RRIF, the TFSA is not considered taxable income. “Therefore Option 1 probably isn’t the best,” she says.
Options 2 and 3 are about equal in terms of the taxes payable, but Option 2 has a specific benefit: Deferring CPP until age 70 and using Lorna’s RRSP to top up her income needs gives her the most flexibility. This is because taking CPP means she has no choice about how much income she receives every year.
However, if Lorna chooses to top up her income with withdrawals from her RRSP instead, she might find that in some years she doesn’t need as much income as in others, allowing her to keep her money tax-sheltered longer and potentially reducing the OAS clawback.
In her forecast, the analyst assumed an inflation rate of 2.5 per cent, average annual investment returns of six per cent to age 70 and three per cent thereafter, and house price inflation of 2.5 per cent.
“One caveat here is that some people, if they have the choice, might feel afraid of taking money from their RRSP, worrying that they won’t have enough later,” Ms. Bruinsma says.
To counteract this tendency, Lorna should prepare an income schedule that goes out to age 95, showing all her sources of income to demonstrate that she will indeed have enough. This plan can be revisited every two or three years to account for any changes in her life or in the value of her investments.
Lorna is wondering whether she should continue to make TFSA contributions. “Certainly, in the years that she has surplus income – which will happen at age 71 when she is receiving both CPP and RRIF income – she should be maximizing her TFSA contributions,” the analyst says. Assuming Lorna adds $6,500 a year from age 71 to 95, she could accumulate about $550,000 in her TFSA, which could go to her estate.
Lorna wants to stay in her condo as long as possible. “I’ve assumed she stays there until age 90, when she moves into long-term care,” the analyst says. If Lorna sells the condo at age 90, she could net about $1.9-million in 2047, equivalent to just over $1-million in today’s dollars.
If she saves the rest of her surplus income in a non-registered account, plus adds in the amount from the sale of her home, she would leave about $3.5-million, equal to $1.7-million in today’s dollars.
If Lorna would like to increase her spending to even more than $73,000 a year, she can do this. For example, she can withdraw $15,000 from her TFSA every year until age 80. In addition, she’ll have money in her non-registered account and equity in her condo, giving her lots of options to increase her lifestyle.
Lorna is wondering if she can afford to help her daughter financially now. “Once Lorna has to start taking money from her RRIF (in the year she turns 72), she’ll have more income than she needs,” Ms. Bruinsma says. This money will go to her TFSA and non-registered savings, which will grow in line with the RRIF withdrawals. “This means she will have more money to gift as time goes on.”
The Person: Lorna, age 65, and her daughter, 22.
The Problem: Determining if she can afford to spend more money on travel without running short in her later years. Can she afford to help her daughter financially?
The Plan: Start withdrawing from her RRSP (or RRIF) now and defer CPP benefits to age 70. Continue contributing to her TFSA.
The Payoff: A better understanding of her options and what to draw upon first.
Monthly net income: $5,540.
Assets: Cash $8,000; stocks $136,000; TFSA $110,000; RRSP $297,000; condo $1,100,000. Total: $1.65-million.
Monthly outlays: Condo fees $1,080; property tax $365; utilities $90; maintenance, garden $115; transportation $525; groceries $700; clothing $200; gifts, charity $190; travel $500; dining, drinks, entertainment $420; personal care $100; club membership $20; pet expense $260; subscriptions $15; health care $60; life insurance $60; cellphone $175; TV, internet $215; TFSA contribution $540. Total: $5,630.
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Some details may be changed to protect the privacy of the persons profiled.
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