Downsizing in decimated Alberta market key to senior securing retirement

$3,715

In Alberta, a woman we’ll call Sarah, 66, is a health-care administrator working in a private facility. She earns $5,500 per month from her job and adds $614 from Old Age Security and $1,058 from the Canada Pension Plan for total income of $7,172 per month before tax. After 20 per cent average-income tax and a $900 bite from the OAS clawback that starts at $79,054 per year, she takes home $5,200 per month.

Sarah wants to retire in two years, but that plan is complicated by an outstanding mortgage of $142,000 and a $19,000 line of credit for which she pays a total of $1,043 per month. She estimates the market price of her house at $575,000. Her assets, in addition to her house, include her $15,000 car, $520,100 in RRSPs (after a 20 per cent hit due to the market decline) and $6,300 in her TFSA. She has a defined-benefit pension plan that will pay her $175 per month if she retires in 18 months or $259 per month if she retires in 36 months. Her starting point for retirement is a net worth of $955,400, not including the present value of her work pension.

When Sarah quits her job, the largest part of her income will end and she will be left with about $50,000 of pre-tax income. She will still have to make payments on her house mortgage and line of credit. She would cover present expenses without a margin for unexpected costs. It would be tight.

ASSET MANAGEMENT

Her retirement plans are complicated by the downturn in the Alberta property market. She had planned to sell her house this year when her mortgage would be ready for renewal and buy a smaller house with no mortgage. But downsizing when prices have tumbled is not attractive. “Am I better to keep working as long as I can?” she asks.

Family Finance asked Eliott Einarson, a financial planner who heads the Winnipeg office of Ottawa-based Exponent Investment Management Inc., to work with Sarah. Einarson explains the core of the dilemma: Sinking money into a new house or condo will reduce capital available for generating retirement income.

Sarah’s problem comes down to trying to time housing market recovery, which won’t likely occur until energy prices rebound. But timing that recovery is not a productive exercise, Einarson says. The better bet is to sell the house, buy a small condo and bank the difference. Were she to sell her present home for $575,000 less five per cent costs, net $546,250 and use the proceeds to pay down all debts, she would be left with $385,250. Without a mortgage or line of credit, she would be more secure than she is now.

RETIREMENT BUDGETING

Sarah adds $500 per month to her RRSPs. She would not have to do that in retirement. She has a term life policy with a $150 per month premium that is not necessary given that she has no dependents. With a downsized residence, she would have no need to pay $1,050 as she does now for her mortgage and line of credit. The savings would add up to $1,700 per month and reduce her present allocations from $5,200 per month to $3,500 per month.

If Sarah works another two years, her $520,100 RRSP with $6,000 from her annual contributions would grow to a balance of $564,320 assuming a return of three per cent per year after three per cent annual inflation. That sum would generate $29,900 per year for 27 years to her age 95 at which time all capital and growth would be paid out.

The work pension for which Sarah qualifies will pay $2,100 per year if she retires in one year or $3,100 per year if she retires in two years. Her CPP and OAS are already paying her $12,695 and $7,262 per year, respectively.

Thus with two more years of work, Sarah would have annual pre-tax income consisting of $29,900 from her RRSP, $3,100 annually from her work pension, $12,695 from CPP and $7,362 from OAS. The sum, $53,057 per year before estimated 16 per cent average income tax would leave her with $3,715 per month. That compares to estimated retirement spending of $3,500 per month after house downsizing. She would have a margin for unexpected expenses.

We have not included Sarah’s $6,300 TFSA portfolio. We’ll assume that she keeps this for emergency expenses or a basis for future retirement savings.

ADDING TO INCOME

Given the account balances and small pension for which Sarah qualifies, there is little chance for retirement income to exceed the sums we have estimated. However, if she does part-time work in retirement to generate, say, $1,000 per month before tax or $840 per month after 15 per cent average tax, she would have many more choices including a trip of a few weeks every couple of years. If she works to earn $2,000 per month and pays about the same tax, she would be able to afford a new or newer car in five or six years.

Should Sarah outlive her RRSP savings, she would still have her work pension, CPP and OAS, and the downsized home that might be sold. The proceeds could be used for day-to-day expenses including rent or care. She might also investigate a reverse mortgage that would use a part of the equity of her home as a base for a loan that would have no interest payable. Reverse mortgages have higher interest rates than conventional mortgages and limit loans to a fraction of assessed value. If the property appreciates during the term of the loan, it could be paid off. Reverse mortgages must be discussed with an adviser familiar with them. They are solutions to cash shortages but they can be perilous.

In retirement, Sarah will be alone, and part-time work would provide a margin of financial safety. But she can get by without it, too.

“She will have sufficient money to live on her own to age 95 and beyond,” Einarson concludes.