How to afford retirement after a drastic cut in income - Financial Post

Severe illness forced a man we?ll call Maurice, 58, out of a series of ever more responsible jobs in wholesale supply management. Having risen to middle management in a national company, back problems forced him out. After several years on disability, he returned to work. The corner office was history. He got a clerical job in an Alberta retail store.

His wife ? we?ll call her Simone ? is 54 and works part-time in marketing. Their combined take-home income, $4,000 a month, is far below what Maurice made at the height of his career, but it matches their expenses. They lowered their horizons long ago, but wonder if, with drastically reduced incomes, they can have a comfortable retirement.

We are not looking for a lavish retirement but one where we do not have to worry about money on a daily basis

The couple?s $694,500 of financial assets provide a foundation for retirement, yet they worry they do not have enough money to last. Their two children, both in their twenties, are financially independent.

?We are not looking for a lavish retirement but one where we do not have to worry about money on a daily basis,? Maurice says.

Family Finance asked Graeme Egan, a portfolio manager and financial planner at KCM Wealth Management Inc. in Vancouver, to work with Maurice and Simone.

Their near-term goal is for Maurice and Simone to keep working until Maurice retires from full-time work at age 61 in three years. Then they would hope to make $24,000 a year with part-time work for another four years, at which time Maurice would be 65. He would then retire fully and Simone would continue working, bringing home perhaps $12,000 a year for four more years until she is 65.

?They have no debts, so what remains as a planning problem is to figure out a way to generate income,? Mr. Egan says.

Managing assets

The strategy for the couple is to postpone the time at which they have to begin drawing down their retirement capital. To do that, Mr. Egan suggests Maurice take Canada Pension Plan benefits at his retirement at age 61. His penalty would be 30% of the age 65 benefit, but that is outweighed by the value of the time this plan buys. In that time, their registered assets, which are over 90% of total financial assets, will grow. More importantly, those assets won?t need to be tapped until Maurice is 65.

CPP will pay about $700 a month and Maurice can continue working part-time. At this point, combined family income would be about $24,000 from part-time work plus his CPP benefits for total income of $32,400 a year. Assuming they pay 10% average income tax, they will have $2,430 to spend a month. That would not support present spending of $4,000 or, net of $400 RRSP and other savings, $3,600 a month.

Maurice and Simone have $52,800 of non-RRSP investments. If they can get 2.5% in annual capital growth and 2.5% in dividends, they would have $61,125 in three years. The money should then be used from Maurice?s age 61 to his age 65. That would produce income of $15,300 a year for four years, pushing total income up to $47,700 a year before tax. After tax at an average rate of 10%, they would have about $3,600 a month to spend. That would match current spending net of savings.

The couple has $641,700 in their RRSPs and TFSAs. If that capital grows by 5% a year for the next seven years until Maurice is 65, it would be worth $900,000 with no further contributions. If this portfolio were to be drawn down to zero by the time Simone is 95, it would allow $55,000 annual draws from Maurice?s age 65.

Starting pensions

At 65, Maurice will be able to obtain Old Age Security benefits of $6,540. He will be able to add his $8,400 annual CPP benefits for total income before tax of $69,940. If this income were taxed at an average rate of 15%, the couple would have $4,954 a month. When Simone reaches 60, she can add her estimated CPP reduced benefit of $4,452 a year to bring total family income to $74,392 before tax or $5,269 a month after tax. At age 67, she can add $6,540 OAS for total income of $80,932 before tax or $5,733 a month after 15% average income tax. All figures are in 2012 dollars.

The couple is in better financial shape than they thin

There remain substantial risks to this financial plan. Maurice and Simone are dependent on their savings for all income other than CPP and OAS. After age 65, their investments will have to provide almost 70% of their total income. There is not much room for error. They have their $525,000 house, which they could downsize. That might be opportune when one partner dies, for pension income will no longer be splitable.

At present, their investment portfolio is about 73% in individual stocks and 27% in fixed-income assets. They have two dozen stocks in their accounts, mostly blue chips with healthy dividends. For this selection, they are paying an advisor 1.75%, which is in the usual fee range for portfolio management. If the couple wishes to manage the portfolio, they could save perhaps 1.5% by using exchange-traded funds. If that option is appealing, they would be well advised to invest a good deal of time in studying capital markets, Mr. Egan cautions.

?The couple is in better financial shape than they think,? Mr. Egan says. ?Using conservative assumptions to predict income, it is fairly clear that Simone will not have to work after Maurice reaches 65.?

Need help getting out of a financial fix? Email andrewallentuck@mts.net for a free Family Finance analysis.

Source: http://business.financialpost.com/2012/11/02/how-to-afford-retirement-after-a-drastic-cut-in-income/

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