Once Miranda is finished paying off her mortgage, she will turn her attention to saving for the day a few years hence when she can retire early from the work force at the age of 53.Christopher Katsarov/Globe and Mail
Miranda has been focused on paying off the mortgage on her Toronto condo by her 48th birthday next spring.
Once that’s done, she will turn her attention to saving for the day a few years hence when she can retire early from the work force at the age of 53. Her goal is to have $40,000 a year after tax to spend. She earns $75,000 a year plus bonus.
Miranda also has a home-equity loan on which she is paying interest only – money she borrowed to invest.
Fuelling her sense of urgency is insecurity about her employment and the awareness that her age might make it difficult for her to find another job – particularly for the same compensation – if she were to lose her current one.
“I am hearing rumblings that I will be made redundant, and given my age, I feel I’m unlikely to secure alternative employment,” Miranda writes in an e-mail.
“If I were to be laid off today with a lump-sum payout of $100,000, and paid off my mortgage in full, would I be able to stop working?” she asks. If she is able to work for another five years, is she on track for a “reasonably comfortable” retirement?
We asked Ian Calvert, a financial planner and associate portfolio manager at HighView Financial Group in Toronto, to look at Miranda’s situation.
What the expert says
Miranda is right to make paying off the mortgage on her home a top priority, Mr. Calvert says. Once that’s done, she wonders where to direct her savings.
Miranda has a defined contribution pension plan at work to which her employer makes matching contributions. The combined contributions will show up as a pension adjustment in box 52 of her T4 slip. The pension adjustment reduces the amount of registered retirement savings plan (RRSP) contribution room Miranda will have each year. In Miranda’s case, the pension adjustment is about $10,000 a year.
Given Miranda’s marginal tax rate of 33.89 per cent, she should contribute to her RRSP first because the tax refund will be valuable during her working years, Mr. Calvert says. Once her RRSP and tax-free savings account (TFSA) room is fully utilized, she should save funds in her non-registered portfolio, he adds.
The working years between 2019 and 2023 (when she will have no mortgage payments) will be “extremely important” to Miranda’s retirement plan, Mr. Calvert says. “She needs to make sure she uses the surplus cash flow effectively.”
Miranda has about $76,000 of unused RRSP contribution room from previous years. She should take advantage of this during her final working years, the planner says, as it will reduce her taxable income and her marginal tax rate. If she continues to receive her annual 15-per-cent bonus, which would increase her total income to more than $86,000, using the bonus toward her unused RRSP contribution room would be advisable.
Will Miranda be on track for a reasonably comfortable retirement if she stops working at the end of 2023?
She’s on track to have a net worth of $1,350,000 – that is, if she continues to contribute to her work pension plan, and to save her surplus income in her RRSP, TFSA and non-registered portfolio, in that order. This number assumes an investment rate of return of 5 per cent.
With these assumptions, Miranda would meet her spending goal of $40,000 a year while still preserving her capital. “A global balanced portfolio structure with a strong dividend yield would be advisable for meeting this goal.”
As it is, Miranda has a hodge-podge of investments – some being high-cost mutual funds with deferred sales charges (DSC). She says she would like to consolidate them into a single account, “but since my cousin is the sales rep, that may prove a bit tricky.” Thanks to her employee share purchase plan, she has a substantial amount of her company’s stock. She also has three separate TFSAs.
“First, Miranda’s cousin should be doing a better job of looking after her,” Mr. Calvert says. “Stopping all contributions to DSC mutual funds would be the first step.” The locked-in period for DSC funds will create substantial hurdles and fees when she needs to access the money in a few years, the planner says.
Second, Miranda needs to determine what asset allocation will be needed to fund her goals. Her portfolio comprises more than 80 per cent stocks and one large position in her employer’s shares, Mr. Calvert notes. Given the big run up in stock prices recently, this mix has likely served Miranda well, he says. But as she nears retirement and begins drawing from the portfolio, she should consider a more balanced approach that includes some fixed income and more diversification in her stock holdings, he adds.
Getting that 5-per-cent rate of return is important. If Miranda earns only 2.5 per cent a year, her investable assets would be depleted around the age of 90, Mr. Calvert says. However, she would still have the value of her condo to fall back on.
When she retires from work, Miranda should make blended withdrawals from her RRSP and non-registered portfolio to take advantage of her new, lower tax rate. “The goal is not to aggressively withdraw from her RRSP, but to withdraw early and spread her payments over a larger number of years to melt down her RRSP.”
What if Miranda is laid off?
Her severance pay would be taxable, so the net amount wouldn’t leave enough to completely pay off the mortgage and the line of credit, Mr. Calvert says. As well, she would lose the high income, no-debt years between 2019 and 2023, so her savings would fall short. She would lose the matching pension plan contribution and be faced with a reduced Canada Pension Plan (CPP) benefit.
“If this scenario were to take place, finding other employment income for four to five years would be a high priority for Miranda.”
Client situation
The Person: Miranda, 47.
The Problem: Can she live comfortably if she works another five years? If she is laid off?
The Plan: Redirect mortgage money first to her RRSP, then her TFSA, then to non-registered savings. Structure a balanced portfolio with a view to generating dividend income.
The Payoff: A better appreciation of how to achieve her goals and what to do if something goes wrong.
Monthly net income: $4,615.
Assets: Cash $15,000; stocks $255,000; TFSA $26,500; RRSP $151,000; defined contribution pension plan $165,600; residence $425,000. Total: $1-million.
Monthly outlays: Mortgage $1,750; condo fees $60; property tax $130; home insurance $30; utilities $75; maintenance $50; transit $50; groceries $300; clothing $40; line of credit $300; gifts, charity $95; vacation, travel $200; personal care $30; dining out $50; subscriptions $15; doctors, dentists $50; drugstore $75; health, dental insurance $180; phone $20; RRSP $120; TFSA $40; pension plan contribution $345; unallocated expenses $200. Total: $4,205. Surplus $410.
Liabilities: Mortgage $12,500 and LOC $83,000. Total: $95,500.
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