B.C. couple want to leave a $2-million legacy to their daughter, but they need to get retirement finances sorted first

Their portfolio of many investment funds and real estate adds complexity and management risk to their expectations

Canadian Money
This B.C. couple want to have $8,000 in monthly after-tax income in retirement, and also give their daughter $2 million to start her life.

Author of the article: Andrew Allentuck

A couple we’ll call Ruth, 53, and Jack, 50, live with their child, Pat, age 16, in B.C. They bring home $8,016 per month from Jack’s job in the electrical industry, $3,650 from renting a basement suite in their house and a recreational property, and $700 in untaxed child support until Pat has a first degree. In all, that’s $12,350 per month. Ruth, a former marketing consultant, recently retired and is a homemaker now.

Their expenses add up to $10,800 per month on average. Their largest monthly cost is $2,150 on their outstanding $197,000 mortgage for their house, which Ruth owns. They worry that when Jack retires in 15 years at age 65, their pleasant lives will be unaffordable. Their goal when Jack is 65 is $8,000 in monthly after-tax income.

(Email andrew.allentuck@gmail.com for a free Family Finance analysis.)

Family Finance asked Derek Moran, head of Smarter Financial Planning Ltd. in Kelowna, B.C., to work with Ruth and Jack. They can attain their goal and more, but their portfolio of many investment funds and real estate adds complexity and therefore management risk to their expectations, Moran notes.

Property income

Their real estate, though appreciating, is not an efficient generator of income. They have 70 per cent of their assets tied up in their $2-million house and a $1-million rental property. The income property generates rents which fluctuate — more in summer, less other times. It averages $13,500 per year ($6,750 to each partner). They have a basement rental which generates $1,400 per month or $16,800 per year, ($8,400 each). They have $910,458 of debt for their house and the rental. All told, the rentals bring in $15,150 per year per partner.

The property may appreciate, but there is vacancy risk, tenant damage risk, maintenance and so on. At best, the income pays for holding the property, but on a risk-and-return basis, a handful of bank shares or other stocks with solid and increasing dividends would be more rewarding, Moran says.

Retirement income

They like the rental property, so, assuming they keep it, their retirement rental income would be $15,150 combined annual pre-tax rent from their basement suite and income property for each partner, cash flows from public pensions and their investments.

The couple has $458,697 in RRSPs growing with $12,000 annual contributions matched by Jack’s employer. The $24,000 annual contributions growing with compounding for 15 years to his age 65 will have a value of $1,174,400 and then pay $65,470 per year to his age 90. Their TFSAs with a present total value of $202,670 growing for 15 years with compounded returns at three per cent per year after inflation will have a value of $538,940 and then pay $30,422 to his age 90. We’ll allocate $15,211 of that to each.

Currently, Ruth, at 53, has rental income of $15,150, and $8,400 annual untaxed cash flow from child support. That adds up to $23,550 per year. Jack has $130,000 per year income from his job and $15,150 rental income. That adds up to $145,150 per year. Allowing for splits of eligible income and exclusion of child support, then, after tax, they have then 20 per cent average tax, they have disposable income of about $136,000 year. That’s $10,800 per month.

Ruth is effectively retired. At 65, she will lose her post-marital support but she can begin Old Age Security at $7,384 per year at present rates. She can also start Canada Pension Plan benefits at $9,720 per year. Her share of rental income, $15,150, brings the total to $32,254, more than her current earnings. Three years later, once Jack has retired, she can add $15,211 as her half of TFSA cash flow, making her total income before tax $47,465. After 15 per cent average tax (excluding TFSA income), she will have $42,626 per year to spend.

When Jack turns 65, his income will be composed of $15,150 from the rentals, $11,160 from the Canada Pension Plan, $7,380 from Old Age Security $32,470 from his RRSPs which include his defined contribution company pension, and $15,211 from TFSAs. That’s a total of $81,371. With no tax on TFSA cash flow, which eliminates OAS clawback exposure that starts at $79,845 at present and 20 per cent average tax on the remainder, he will have $68,139 per year to spend. Combined, their income, which is effectively split and averaged, will be $9,200 per month, which is above their $8,000 monthly income target.

The couple’s living costs in retirement will be the present expenditure of $8,016 per month less $1,000 for RRSPs, $1,000 per month for TFSAs and $208 for Pat’s RESP. So costs of living will drop by at least $2,208 to $ 8,600 per month. They will also no longer have to support Pat and with some reductions in their miscellaneous spending they could be sitting on a large monthly surplus, which will get bigger when the rental property’s mortgage is paid off.

Asset allocation

There are risks to this projection. The complexity of the couple’s portfolio, the very high concentration of assets in two B.C. properties, and the relatively low yield of the rental property all expose Ruth and Jack to a risk of income shrinkage in retirement.

They want to give Pat $2 million to start a life of her own. If they live a long time, the payout of their financial assets would cut into the wealth for Pat. They could just give Pat the house now and take a life interest in the property, but if they live into their 90s, Pat would be in her mid-50s before the house can be hers. To make up the difference, Ruth and Jack should shop for life insurance with an independent agent, Moran advises. A 40-year level premium term policy to age 93 for Ruth, who owns the house, would be costly, but she could set aside some of their surplus for premiums.

Retirement stars: 5 ***** out of five

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