As his 43rd birthday nears, Paul is thinking about his future. He’s single with no dependants. Short-term, Paul wants to move to a larger condo on a quiet street in his same Vancouver neighbourhood and later, buy a sailboat. Longer term, he wants to pay off his mortgage and retire from work at age 55.
Paul earns more than $100,000 a year in his management job, “but only cracked six figures in the past two years,” he writes in an e-mail. He has no work pension, but he lives frugally and has managed to save a tidy sum. “I have always been a diligent saver,” Paul writes. He wonders whether he should sell or rent out his existing condo when he buys a larger one.
After his father fell ill, Paul resolved not to spend all of his best years working. When he retires, he plans to loosen the purse strings a bit so he can do some travelling and perhaps buy a car. His greatest fear is running out of savings. His retirement spending goal is $42,000 a year after tax.
“Am I on track to retire around age 55?” Paul asks.
We asked Aaron Hector, a vice-president and financial planner at Doherty & Bryant Financial Strategists in Calgary, to look at Paul’s situation.
What the expert says
Paul keeps his expenses “very lean,” Mr. Hector says. Paul does not have a car, spends $60 a month on phone, internet and Amazon Prime Video and has no home insurance.
Paul intends to retire at age 55 with a spending goal of $3,500 a month after tax. This is much more than the $1,528 a month he is spending now after subtracting mortgage payments and savings, the planner says.
Paul’s top priority is moving to a condo nearby on a less busy street some time in the next two years. Buying a sailboat is of “slightly lower importance.” The sailboat would cost $30,000 to $40,000 and potentially add $600 to $900 a month in continuing docking and operating expenses, Mr. Hector says.
As it stands, Paul’s current home (with a value of $440,000) represents 57 per cent of his total asset base, the planner says. “The move to the new $600,000 condo is within his means, but if he were to do that and keep his existing condo as a rental, then Vancouver real estate would account for more than 75 per cent of his asset base,” Mr. Hector says.
“Such exposure would put him at risk of a potential downturn in real estate values, not only from the Greater Vancouver Area, but also from his local neighbourhood.” The potential income from the rented condo would not be attractive enough to offset the risk of being so overweighted in real estate, the planner says.
Because Paul will be shopping for a new condo, he should ensure that he keeps his finances as flexible as possible, Mr. Hector says. Paul has a healthy safety net of cash built up in a high interest savings account – money he will need for the condo purchase when the time comes. When his mortgage comes up for renewal next January, he should ensure that the refinancing terms include a portability option that would allow him to transfer his remaining balance to the new condo without prepayment penalties. “He may even wish to explore an open mortgage to have full payment flexibility,” the planner says.
As to Paul’s sailboat purchase: “I think he needs to really think long and hard about this,” Mr. Hector says. He compares two forecasts, one in which Paul buys the sailboat and one where he does not. In both forecasts, the planner assumes Paul buys the larger condo, sells the existing one, earns a rate of return of 4.5 per cent on his investments and is subject to an inflation rate of 2.1 per cent for future expenses.
“The scenario without a boat purchase shows that he would be able to retire at age 55 and sustain his retirement spending goal of $42,000 per year out to his late 80s or early 90s with a high probability of success,” the planner says. In the second scenario, Paul buys a sailboat for $40,000, keeps it for 20 years and then sells it. This adds $900 a month to his costs. “With these factors built in, his retirement at age 55 would allow him to sustain a level of spending of $42,000 (inflation adjusted) only out to his late 70s,” Mr. Hector says. Paul would still have his condo.
Given the more generous budget Paul is allowing himself when he retires, he may decide to go ahead with the sailboat purchase and compensate for the potential shortfall by either adjusting his retirement spending goal downward or, alternatively, adjusting his retirement age upward, the planner says; that is, spending a little less or working a little longer. “Paul should carefully review these alternatives and contemplate what is truly most important to him prior to making any boat purchase.”
When Paul retires, he will be living off his non-registered savings, where withdrawals are, for the most part, not subject to income tax. To take advantage of his basic federal and provincial income tax credits (about $12,000 for 2019), he should withdraw enough from his RRSP each year to use these credits up.
Once Paul’s non-registered savings are exhausted, he could look to balance his withdrawals from his RRSP (taxable) and tax-free savings account (not taxable), ensuring that he doesn’t move himself beyond the lowest tax bracket unnecessarily. He should defer Canada Pension Plan and Old Age Security benefits at least to age 65.
One risk that could derail Paul’s plans is his lack of insurance. The planner recommends Paul buy condo insurance. If he ultimately becomes a landlord, sits on his condo board, or buys a sailboat, an umbrella insurance policy would make sense as well because it would provide additional insurance against potential claims that might exceed his basic policy coverage. “Liability claims, while rare, are the type of black swan events that can completely derail a retirement plan if they occur without adequate insurance coverage.”
The person: Paul, who is about to turn 43
The problem: Can he afford to move to a home in a better location and buy a sailboat for $40,000 without derailing his goal to retire by age 55?
The plan: Keep finances flexible in the short term to assist with a new condo purchase. Think long and hard about what is most important, both now and in the future, before buying a sailboat.
The payoff: Retirement at age 55 with a lifestyle that is well thought out.
Monthly net income: $5,730
Assets: House $440,000; cash, $38,718; non-registered stocks $3,721; RRSP $196,122; locked-in retirement account $28,720; TFSA $59,768. Total: $767,049
Monthly distributions: Mortgage $1,350; property taxes $395; condo fee $270; electricity $25; transportation $50; groceries $260; clothing $10; charitable $60; cellphone $25; internet $27, Amazon Prime Video $8; entertainment, dining out, drinks $220; pet expenses $100; medical and dental $80; RRSPs $1,040; TFSA $885; dividend reinvestment plan $35. Total: $4,840Surplus of $890 goes to savings and is then invested as a lump sum.
Liabilities: Mortgage $111,990
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