A po­ten­tial early re­tire­ment cash-flow gap

Her­bert, a civil ser­vant, wants to re­tire at 52, but that could squeeze his spend­ing later in life


Like so many civil ser­vants who con­tact Fi­nan­cial Facelift, Her­bert wants to re­tire from the work force as early as he pos­si­bly can, per­haps be­cause he can. When he does, he will get a pen­sion of about $32,680 a year, fully in­dexed to in­fla­tion.

Her­bert is 48, sin­gle, and earn­ing about $164,000 a year. He also has a rental prop­erty that al­lows him to build eq­uity as the mort­gage is paid down.

Her­bert’s goal is to save as much as pos­si­ble over the next four years and re­tire from work in mid-2022 at the age of 52. His post-em­ploy­ment spend­ing goal is $50,000 a year af­ter tax – more if pos­si­ble.

When he quits, he plans to sell his On­tario in­vest­ment prop­erty, down­size to a subur­ban condo and spend six months of the year in Florida.

He won­ders whether he can “up­size” his spend­ing goal if he chooses, and how much he should save over the next four years in or­der to meet his goals.

We asked Ross Mc­Shane, vi­cepres­i­dent of fi­nan­cial plan­ning at Do­herty & As­so­ciates in Ottawa, to look at Her­bert’s sit­u­a­tion. With his res­i­dence mort­gage re­cently paid off, Her­bert will have an an­nual cash-flow sur­plus of nearly $50,000, Mr. Mc­Shane says. As for the rental mort­gage, in­ter­est is tax de­ductible, so given the low rate (2.6 per cent), “ac­cel­er­at­ing the pay­out should not be a pri­or­ity,” he adds. The prop­erty is break­ing even af­ter mort­gage and ex­penses.

In­stead, Her­bert could use the sur­plus to catch up with the un­used con­tri­bu­tion room in his tax-free sav­ings ac­count, af­ter which he can open a (non-reg­is­tered) in­vest­ment ac­count and di­rect his sav­ings there. He can add to this ac­count af­ter he sells his On­tario prop­er­ties. In prepar­ing his plan, Mr. Mc­Shane makes a num­ber of as­sump­tions. He has Her­bert sell­ing his rental prop­erty and down­siz­ing his home to a less ex­pen­sive condo ($325,000) one year af­ter he re­tires from work. The plan as­sumes a rate of re­turn on in­vest­ments of 5 per cent, and an in­fla­tion rate of 2 per cent.

The plan­ner adds $5,000 a year to Her­bert’s re­tire­ment bud­get be­cause he won’t be get­ting as much rental in­come, if any, from his Florida condo once he be­gins spend­ing the win­ters there, and to ac­count for the Canada-U.S. ex­change rate. At the age of 52, Her­bert will be­gin col­lect­ing his pen­sion. He says he wants to take Canada Pen­sion Plan ben­e­fits start­ing at age 60. At the age of 65, he will be­gin col­lect­ing Old Age Se­cu­rity.

“Us­ing $55,000 for ex­penses, this will be tight,” Mr. Mc­Shane says. “The pro­jec­tions show Her­bert will have de­pleted his in­vestable as­sets in his early 90s,” at which point he would need to cover the cash-flow gap (the dif­fer­ence be­tween his pen­sion and gov­ern­ment ben­e­fit in­come and his ex­penses). He could choose to spend less, or rely on the eq­uity in his real es­tate.

Work­ing a cou­ple more years – to age 54 – would not only pro­vide a larger pen­sion ben­e­fit, but also a cush­ion against un­fore­seen ex­penses or a po­ten­tial short­fall in the pro­jected 5-per-cent rate of re­turn on in­vest­ments, Mr. Mc­Shane says. Her­bert is in­vest­ing in solid, div­i­dend-pay­ing com­mon stocks that will com­ple­ment his guar­an­teed pen­sion in­come. The plan­ner looks at cash flow for the year Her­bert turns 54, when it will have nor­mal­ized af­ter the big cap­i­tal gain on the sale of his rental prop­erty the year be­fore. By then, Her­bert will have about $585,000 in his TFSA and non-reg­is­tered ac­counts. He will need to with­draw enough to gen­er­ate about $35,000 af­ter tax to bal­ance his bud­get.

He could draw th­ese funds from his non-reg­is­tered ac­count. Or he could con­sider draw­ing a por­tion from his RRSP to take ad­van­tage of his low tax bracket, Mr. Mc­Shane says. He sug­gests Her­bert post­pone draw­ing CPP un­til he is 65. If he opts to take it at age 60, his ben­e­fit will be re­duced.

As for the rental prop­erty, Her­bert should wait un­til the year af­ter he quits work­ing to sell it.

“There will be a sig­nif­i­cant cap­i­tal gain to re­port that is best trig­gered in re­tire­ment, when he will be in a much lower tax bracket,” the plan­ner says.

“Her­bert’s de­ci­sion to sell his rental prop­erty and down­size his home to pay off his debt at re­tire­ment is a good one,” the plan­ner con­cludes. Still, Her­bert needs to take a closer look at his bud­get re­quire­ments in case he is un­der­es­ti­mat­ing what he will need, Mr. Mc­Shane says. “Push­ing re­tire­ment back a cou­ple of years would pro­vide him with a cush­ion.” Want a free fi­nan­cial facelift? E-mail fin­facelift@gmail.com.

Some de­tails may be changed to pro­tect the pri­vacy of the per­sons pro­filed.

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