Couple with three properties needs to simplify finances

In Alberta, a couple we’ll call Sam, 61, and Frances, 56, take home $8,600 per month. Sam runs a hardware store. Frances, who has a small office service firm, draws $1,800 per month in dividends. In their careers, they have managed to build up $869,060 in financial assets. But there are also debts for their house, their cottage and a house they own which their son occupies. Their assets including the houses, financial assets and a car, add up to $1,991,060. Liabilities total $297,275 and their net worth is therefore $1,693,785. That’s a significant sum, but the complexity of their finances is daunting.

Sam and Frances would like to retire in four years. Sam’s company stock has to be sold back to his employer when he quits. And there are those three properties. One is a primary residence with a value of $460,000. Their cottage is worth $380,000 they believe. Their $240,000 house is an income property generating no income. It is occupied by their son who pays no rent but does pay the mortgage, utilities and other operating costs. Throwing their son out of the house is not on the menu, but the cottage costs them nearly $1,000 per month in taxes and mortgage service. They also have a timeshare with a book value of $2,000. They pay $100 per month as a standby fee.

Family Finance asked Eliott Einarson, a financial planner with Exponent Investment Management in Ottawa, to work with Sam and Frances.

“The couple needs a strategy to simplify their financial lives,” Einarson says. “They feel they have to get their affairs in order before they end their working lives.”

Einarson suggests that Sam and Frances should aim for retirement income of $6,000 per month after tax. We’ll deal with debt first. Their house has a $120,325 mortgage, while the cottage supports a credit line of $47,500. They are also on the hook for their son’s $129,450 mortgage, though he makes the mortgage payments.

LESS IS MORE

The cost and complexity of running three houses will be a burden in retirement. There are financial and even psychological advantages in reducing that number, though there is no compelling financial reason to do it immediately. But eventually, they should, Einarson says.

If they were to sell the cottage at its $380,000 value less five per cent selling costs and less the $47,500 mortgage, they would net $313,500. We’ll assume that improvements would have raised the adjusted cost base to the price received after tax, so they would walk away with $315,875. Assuming this transaction happens on the eve of Sam’s retirement, the sum would generate $14,700 per year for 35 years to Frances’ age 90 at which time all income and capital would be paid out.

The third property, occupied by their son, has a market value of $240,000 and a $129,450 mortgage. If sold with no penalties for early payment of the mortgage, the house, after five per cent selling costs, would net $94,550. We will not include this sum nor income from it in the retirement accounting for we do not know when or if the couple will sell it.

RETIREMENT INCOME

While Sam is working, he has a company defined contribution plan with a present value of $247,560 and a matching process. He adds $14,400 per year and the company adds $2,700 per year for net annual gain of $17,100 per year. In four years on the eve of Sam’s retirement, the company RRSP growing at three per cent per year after inflation would have a value of $352,317. When he leaves the company, he must sell back his shares. They have a present and, we’ll assume, future value of $180,000. That would give Sam savings of $532,317. That sum, still generating three per cent after inflation for 35 years, would pay $24,775 per year before tax.

Frances’ RRSP with a present value of $171,000 growing at three per cent after inflation for no further contributions for four years would have a value at her age 60 of $192,500 and with the same assumptions support annuitized payouts for 35 years to exhaustion of all capital and income of $8,960 per year to her age 95.

The couple’s TFSAs, $8,500 at present with no additions, would grow at three per cent per year after inflation for four years to $9,500 and support payouts for 35 years of $450 per year.

Sam and Frances’ company, with assets of $262,000 and no further contributions nor windup costs growing passively for four years at three per cent after inflation would have a value of $294,100. That sum generating three per cent annual returns would support payouts of $3,687 per year for 35 years. If some of this goes to the couple’s TFSAs, returns could be constant but taxes zero, the planner explains.

On top of these income streams starting when Sam retires at age 65, a total of $52,572 per year after three per cent assumed inflation, the couple would have Sam’s Old Age Security payment of $7,220 per year and, five years later, Frances’ OAS of the same amount, Sam’s CPP of the maximum $13,600 at current rates and Frances’ reduced CPP for early application, an estimated $5,500 per year, for total pre-tax income at her age 60 and Sam’s age 65 of $78,892 and, five years later, Frances’ OAS would push total pre-tax income to $86,112 per year. With eligible income split and taxed at an average 14 per cent rate including no tax on the TFSA payouts, they would have about $5,660 per month before Frances turns 65 and $6,175 per month after she is 65.

The couple’s present spending is $8,082 per month. The monthly gap of $2,442 before Frances is 65 and $1,907 after her retirement has to be closed. Sam’s RRSP contributions, $1,200 per month, would end. Cutting $550 per month from $1,100 restaurants and food, $300 from $650 travel and entertainment, $100 from $400 home repairs and $300 from $850 phones and internet would close the gap.

MONTHLY HOUSEHOLD INCOME AFTER AGE 65 $6,175