DUAL CITIZENSHIP COMPLICATES COUPLE’S PLAN
A Vancouver couple we’ll call Harold, 66, and Tess, 64, are in transition from busy lives — she as a civil servant, he as a retired marketing consultant with a bit of contract work — to full retirement. They have a child, Louis, 23, and assets of almost $900,000. Yet two thirds of their net worth is their $610,000 condo, currently rented out for $1,000 a month. It has a mortgage with an $89,500 balance. Tess is a dual U.S./Canadian citizen, while Harold has only Canadian citizenship. The issue is when they can retire fully. At present, they bring home $7,536 a month.
“Can we afford to retire completely when I am 66?” Tess asks. “And when I retire, should I turn my retirement savings into an annuity to ensure the income stream? Finally, when the condo is paid in full and we no longer have to pay the mortgage of $1,410 a month, should we sell it in preparation for moving to a lower-cost place to live?”
Family Finance asked Graeme Egan, a portfolio manager and financial planner who heads Castle Bay Wealth Management Inc. in Vancouver, to work with the couple.
INCOME ESTIMATES
Their problem — can they retire and maintain their present way of life with a pension from her current employer of $1,310 a month at retirement, another pension from a former employer which currently pays $233 a month, OAS of $579 each a month for Harold, and Tess, and Canada Pension Plan benefits of $806 for Tess and $333 a month for Harold. At age 66, Tess can have U.S. Social Security Benefits worth about C$1,667 a month for herself including a spousal benefit for Harold. They own a condo, presently rented out for $1,000 a month after expenses. That income will end if, as they plan, they move into the condo when they retire.
Tess will receive a $26,000 separation payment from her employer when she retires. Tess also has a U.S. defined contribution retirement investment account that will pay the equivalent of $800 a month, and the couple has investment income from $225,485 of present financial assets under their control. They can add her $26,000 separation payment worth about $18,000 after tax, raising the total to $243,485. That capital, invested at 3 per cent after inflation and paid out beginning in 2018 when Tess retires at 66 for 29 years to her age 95 would generate $12,690 a year or $1,057 a month, would boost their total income to $6,564 a month or about $78,768 annually in today’s dollars. If eligible pension income is split and age and pension income credits applied, they would pay tax at an average rate of 12 per cent and have $5,776 a month to spend. That would be less than present allocations of $7,536 a month.
EXPENSES & TAXES
In retirement, Egan notes, there will be expense changes. They can stop paying rent at $2,025 a month after they move into their condo. Their condo mortgage which costs $1,410 a month, would be paid by February 2020.
They operate two cars. One might do, saving another $100 a month in gas and insurance. One car lease ends in a few months, saving $355 a month. Total savings would be $3,890 a month. Their expenses would be down to $3,646 a month. Based on retirement after-tax income of $5,776 a month and a plan to live in the condo they now rent out, they would have a monthly surplus of about $2,130. It would give them comfort and allow more travel or other pleasures.
Harold and Tess have tax complications due to Tess’ American citizenship. Tax treaties and government agreements require her to file a U.S. tax return. The U.S. does not recognize tax- free savings accounts. The U.S. would tax TFSA payouts even if Canada does not. She also has to observe and comply with various Treasury rules that require her to report her investments and bank relationships. Keeping tax accounts parallel is important. Tess pays no U.S. income tax but she has a $3,000 annual accounting costs to comply with American law.
Harold and Tess have considered moving out of Vancouver to a less expensive place in B.C. Their condo, which will have income property before they occupied it, will expose them to payment of a Canadian capital gains tax. The condo’s cost for tax purposes is $146,000. The most recent estimate of market value is $610,000, which implies a capital gain of $464,000. The Canadian tax exposure would be half the gain, $232,000, resulting in tax of about $100,000, assuming the top rate of tax. There are U.S. gain exclusions as well. If they move into the condo, their tax liability would be postponed to the time of sale.
BOOSTING INCOME
Harold and Tess can increase their retirement income. Tess, whose capital is almost entirely within registered plans, considers using annuities offered by insurance companies. Annuities are always heavily invested in government bonds so that their income can be guaranteed. The recipients of the annuity income have no investment risk, but they give up a great deal of capital for what, due to today’s low interest rates on government bonds, is little income. It is possible to purchase annuities with a guaranteed number of payments so that if the annuitant dies prematurely, the income can be paid to another beneficiary for a defined period of time. There are also limited features to protect assets from creditors, but, on the whole, a well-managed Registered Retirement Income Fund’s flexibility is a better choice, Egan suggests.
At present, the couple’s investments are almost entirely invested in mutual funds. Mutual fund fees tend to average 2.6 per cent of assets under management for equity funds and 1.5 per cent for bond funds. Exchange Traded Funds are a less expensive alternative to mutual funds —the savings could be 2.2 per cent per year or about $8,300 a year. “Harold and Tess could reduce costs by cutting accounting fees from $3,000 a year, but the complexities of dealing with the U.S. Internal Revenue Service make it prudent to get U.S. returns and Canadian tax credits and compliance right,” Egan adds. Financial Post e-mail andrew. allentuck@gmail.com for a free Family Finance analysis