YOUNG COUPLE TRY TO LIVE WITHIN THEIR MEANS, SECURE A FUTURE FOR THEIR CHILDREN AND SAVE FOR RETIREMENT
A young couple tries to balance saving for their retirement and children’s education with present needs.
Far from the crowds of downtown Toronto, Bill and Toni Jaines,* both 32, face the usual challenges of young families. On a monthly net income of $8,800 , they have to pay down their mortgage, provide money for their children’s post-secondary education and build up a retirement fund. The couple has been married for five years and decided last year to buy a house and start a family. Their first child was born last year and another is due soon. “We want to live within our means, have as much opportunity as possible for our children and to save for our retirement,” Bill says.
Financial planning, however, is complicated by the nature of Bill and Toni’s income. Bill makes $94,800 a year before tax as an engineering consultant for a company that does not match either pension or RRSP contributions. Toni, a human resources coordinator, works for a company that provides a defined-benefit pension, but her present gross income of $50,400 a year will not generate a pension sufficient for the couple’s retirement. Juggling income and their budget is going to be essential.
“They can have it all, but only if they plan how they manage the stages of their lives” says Derek Moran, head of Smarter Financial Planning Ltd. in Kelowna, B.C. “Debt reduction has to come first, then they can invest in their childrens’ educations and in their retirement. Frugal spending leaves a substantial monthly surplus for savings. Moreover, time is on their side. They are taking an active interest in their financial futures. Most people wait until it is late. Or too late.”
The couple’s biggest debt is their $358,000 mortgage with 23.5 years to go until it is paid off at a current monthly rate of $1,675 . The mortgage has a present interest rate of 2.89% and should be paid off by the time they are 56. But if interest rates rise to 5%, as they eventually will, Moran estimates the Jaines will either have to cough up a third more money each month or extend their amortization by up to seven years. Such an increase may prove problematic since there will be increasing pressure on the family’s income as the kids grow up.
Toni makes $3,400 a month after tax when she is working, but she will only receive $1,960 a month in maternity benefits from February to July this year, after which
she will return to full-time employment. Bill brings home $5,400 a month after tax. They save about $1,150 when both are working and they have plenty of RRSP space to put that into since Bill currently contributes just $300 a month even though his annual limit is $17,000 and he has collected $124,000 of available RRSP space. If Bill puts $1,500 more each month into the RRSP account, he would accumulate $18,000 a year on top of the present balance of $20,000 . His tax refund would be about 30% or $5,400 , which could go to their mortgage debt, shortening the amortization length to 17.5 years and saving about $42,000 of interest, Moran estimates.
The problem, of course, is to find or generate that extra money for RRSP investment and perhaps a Tax-Free Savings Account. One option is to use the house to generate the money by renting out the basement (see sidebar). If they can find the money, their RRSP would build up to $800,000 just before Bill turns 60, assuming steady growth at 3% after inflation. If they spend this RRSP balance over 30 years until they are 90, it would provide an annual pre-tax income of $39,600 in 2015 dollars.
But they also have to contribute to their childrens’ RESP . They have already invested $4,000 in their six-month-old child’s RESP and their annual contribution limit will double to $5,000 when their second child is born. If they contribute the maximum for the next 17 years, adding $1,000 in CESG bonuses, and get a 3% return after inflation, the fund will have $141,000 , enough for tuition and books for two four-year university educations if the kids live at home.
Once the Jaines’ children move out, and assuming they have paid off their home, their monthly spending of $8,700 would be halved to $3,900 a month. Their expenses can be covered if they play their cards right. If Bill and Toni work to age 60, but postpone taking CPP until age 65, then at 60 they would have Toni’s defined-benefit pension of $25,200 (25 years times 2% of final five years’ wage) and Bill’s $39,600 annual RRSP payout for a total pre-tax income of $64,800 . If income is split, they would have $4,750 a month to spend after 12% average income tax.
At 65, each could add Canada Pension Plan benefits of an estimated $11,214 for a total income of $87,228 before tax. With splits of eligible pension and investment income, they would have $6,250 to spend each month after 14% average income tax. At 67, each could begin Old Age Security and receive, using present rates, $6,765 a year, making total income $100,758 before tax. After paying 16% average income tax on eligible pension and investment income, they would have about $7,050 a month to spend. There would be a substantial surplus for travel, helping their children or charitable donations.