WHEN PART-TIME WORK WON’T PAD A PENSION.
DO FULL TIME WORK IN LAST FIVE YEARS BEFORE RETIREMENT, ADD SAVINGS TO HIT INCOME TARGET
In Alberta, a couple we’ll call Ernest, 47, and Emma, 50, are raising two children ages 13 and 16. They both have public service jobs — Ernest in a personnel department, Emma in a hospital — and take home $6,400 a month after tax.
They have a $560,000 house, three cars, two defined-benefit pensions and $309,000 of retirement investments. They have a well-funded Registered Education Savings Plan for the post-secondary education of their children. They are debt-free, their jobs are solid and their goal, which is to be able to retire with at least $75,000 pre-tax income, is modest enough.
Their concern, though, is that they don’t know how long they may have to work to reach that goal, since they both work part time and are far from reaching their maximum pension and savings targets.
Family Finance asked Dan Stronach, head of the Stronach Financial Group in Toronto, to work with Ernest and Emma. “The issues are timing retirement and, secondarily, financing it,” Stronach says. “How much more work do they need to do?”
Their DB pensions with guaranteed income have a downside: the annual contributions that they and their employers make reduce what they can put into their RRSPs. They could work less and have a reduced limit on what they can contribute if they have other jobs. But matching the defined- benefit pension would be tough.
EDUCATING THE KIDS
The first hurdle is to provide funds for their children’s post- secondary educations through the family RESP. They have $ 102,850 for the kids, 82 per cent of which is in a low- risk scholarship trust plan, 13 per cent in equity mutual funds and five per cent in GICs and cash. The portfolio stresses safety rather than growth.
Ernest and Emma add $ 6,000 a year. That attracts the Canada Education Savings Grant of the lesser of 20 per cent of contributions or $ 500 per beneficiary under age 18.
If the fund grows at two per cent after inflation, a low rate that acknowledges the high fixed- income component of t heir savings, the RESP would grow to $ 112,000 assuming contributions of $ 6,000 plus $ 1,000 from the CESG for one year, until the elder child is 17, and then contributions of $3,000 plus $500 CESG for three years to the time the younger child begins to draw down the fund. The parents would have to do some rebalancing to ensure each child receives an equal share, which would be about $ 65,000 for each child’s university bills — an ample amount for any institution in Alberta and most universities in Canada for tuition and books.
MISSED OPPORTUNITIES
Emma and Ernest are diligent savers, but they have no tax- free savings accounts. They did have them in the past, but they withdrew funds for home repairs. Today they have ample excess cash of as much as $ 1,000 a month that they currently put into zero-interest savings. If they were to put $ 5,500 each into TFSAs for 15 years to Emma’s age 65 and achieve three per cent growth after inflation, they would have $ 210,700, which, if paid out over 33 years to Ernest’s age 95, would generate $ 9,850 a year.
They could also use TFSA funds to fill an income gap that might arise when they retire and before Ernest, three years younger than Emma, receives his CPP and OAS benefits at his age 65. Alternatively, they could use TFSA accounts to provide tax- free accumulation of money for renewing their cars when necessary or doing renos on their house. We’ll assume that they restore their TFSAs but leave the money they save and any compounding out of our retirement income projections.
RETIREMENT PLANS
In their retirement systems, a full pension requires that age plus years of service add up to 85. Working to age 65 will provide both Ernest and Emma with 20 years of service, meeting the full-pension equation’s requirements.
The Pension Adjustment is a rule that limits what employees in DB plans can put i nto t heir RRSPs at everybody’s l i mit, which is 18 per cent of prior- year gross income minus contributions to the DB plans. Moreover, Ernest and Emma have worked part- time for many years, thus limiting both their job incomes, contributions to their DB employment plans and their own RRSP space.
In approximate terms, each partner will be able to draw a pension that identifies two per cent of average salary of five consecutive years of highest paid service and multiplies that figure by the number of years of pensionable service, to a limit of 35 years.
The implication is that they should move up to full time work in the five years preceding retirement. If they do that, their income will rise to $ 100,000 each before tax and their pensions at 65 will each be two percent of that income multiplied by years on the job.
Emma could retire at 65 or she could work three more years to Ernest’s age 65, adding a little to her pension and sustaining family income until she and he can retire at the same time. In this period, she would have $ 100,000 work income, CPP benefits of $ 12,800 ( a little less than full benefits due to several years of part- time work) and $ 6,846 OAS. Three years later, she would retire with Ernest and they would receive about $ 40,000 each for $ 80,000 total pre- tax pension income.
At present, the couple has $ 309,000 in RRSP and nonregistered investments. If those savings grow at three per cent after inflation and Emma and Ernest continue to add $ 4,800 a year to their savings, then in 18 years when Ernest is 65, the RRSPs would have $ 641,812 in capital. If those funds were paid on an annuity schedule designed to disburse all income and capital by the time Ernest is 95 and Emma is 98, that capital would generate $ 31,790 a year.
At his age 65, Ernest would get $ 10,940 estimated CPP benefits and $ 6,846 in OAS benefits, based on 2016 payouts. Combined with their job pensions, Emma’s government pensions and the RRSP income, the couple would have retirement income of $ 149,222 in 2016 dollars. If that income is split, the OAS clawback, which starts at $ 73,809, would cost each perhaps $ 120 a year. With age and pension income credits applied, after 20 per cent average tax they would have about $ 9,940 a month to spend.
That is a big boost over their present take home income of $ 6,400 a month. But not working full time at least in the last five years in their pension systems would be very costly in terms of income lost, Stronach notes.
“The question is working to live versus living to work,” he says. “That’s a decision they alone have to make.”