Sid and Sherry have a retirement spending goal of $80,000 a year after tax.Jennifer Roberts/The Globe and Mail
Sid is 55 years old and earns a salary of $125,000 a year working for the Ontario government. His wife, Sherry, is 46 and earns $180,000 a year working in financial services.
“We are approaching a new stage of life where one of us will retire before the other,” Sid writes in an e-mail. The eight-year age gap could complicate their retirement planning, he adds. They have a mortgage-free condo in Toronto and no children.
Sid plans to retire in four years and Sherry in two. When he retires, Sid will be entitled to a defined benefit pension, indexed to inflation, of $75,000 a year. Sherry will get a DB pension of $7,653 a year not indexed to inflation. She also plans to work casually.
“We’d like to better understand the transition from saving to drawing down in retirement,” Sid writes, “and whether our current spending and investment choices need adjusting.”
Their retirement spending goal is $80,000 a year after tax.
We asked Janine Guenther, a portfolio manager and certified financial planner at Bellwether Investment Management in Vancouver, to look at Sid and Sherry’s situation. Ms. Guenther also holds the chartered financial analyst designation.
What the expert says
Sid and Sherry have more than enough to achieve their financial goals, Ms. Guenther says. In addition to their work pensions, they have substantial savings and investments, including Sherry’s U.S. retirement accounts.
Sherry holds Canadian and U.S. citizenship and files taxes in both countries.
“This case is interesting in that Sherry is a U.S. citizen who has registered and non-registered savings and investments in both Canada and the United States,” the planner says. “Because she files taxes in both countries, there are tax rules to consider for gifting, home ownership and estate planning.”
As a U.S. citizen, Sherry should be mindful of the kinds of investments she holds in her Canadian and U.S. portfolios, the planner says. Sherry should ensure her investments do not include what are called passive foreign investment companies. “Some common PFICs are non-U.S. exchange-traded funds, including Canadian ETFs, real estate investment trusts (REITs) that are not engaged in business activity and hedge funds based outside of the U.S., Ms. Guenther says. “They are subject to tax regulations in the United States that are punitive and require additional tax filings.”
Should recently widowed Curtis, 55, draw from RRSPs before tapping into taxable investments?
While Sherry has a tax-free savings account, as a dual citizen she does not benefit from its tax-free status because TFSAs have no special status under U.S. tax code. It would probably be simpler to close it and transfer the funds to her non-registered account instead, the planner says. She’d have less paperwork because she’d no longer have to prepare the U.S. tax filings.
Sherry also has two Roth individual retirement accounts that total US$608,545.
For a U.S.-Canadian dual citizen living in Canada, drawing down a Roth IRA can be tax-free in both countries, provided specific requirements are met. The most critical steps involve filing a one-time treaty election and refraining from making contributions after becoming a Canadian resident. Sherry should consult a tax specialist about her Roth IRAs to ensure she does not end up paying tax in Canada.
“Because the Roth IRA involves Canada’s tax treaty with the United States, Sherry should ensure that all filings are complete and up to date,” Ms. Guenther says.
When Sherry retires in two years, the family income will drop. Their annual cash inflow will break down as follows: Sherry’s DB pension $7,653, Sherry’s casual employment income $15,000 and income from non-registered investments $6,600, for a total of $29,253. That, plus Sid’s employment income of $125,000, adds up to $154,253 a year before tax or $112,000 a year after tax.
When Sid retires in four years, their cash inflow will break down as follows: Sherry’s income $29,253; Sid’s DB pension $74,712, income from non-registered investments $5,900, for a total of $109,965 before tax or $85,473 after tax.
Tapping their registered retirement savings plans early to cover large expenses will help to lower the Old Age Security clawback for the couple once they start taking government benefits when they each turn 70. Because Sid and Sherry both receive income from registered pension plans, they would benefit from income splitting on their Canadian tax filings, Ms. Guenther says. This will lower the combined tax burden for the couple.
“In our analysis, we have used a conservative rate of return on investments of 5 per cent annually with 2 per cent inflation.”
As well, the planner has assumed that Canada Pension Plan and OAS benefits will be deferred to age 70 for both, and that Sherry will start collecting U.S. Social Security at age 70 as well.
Will Ellen, 62, need to downsize after retiring next spring?
The couple plan to age in place and budget for a $30,000 bathroom renovation in the coming years, the planner says. “The renovation is well within their means, but it does bring up the question of ownership of the property,” Ms. Guenther says. “Down the road, if they decide to sell, as a U.S. person, Sherry gets the first $250,000 tax free where Sid gets 100 per cent,” she says. “Some planning and consideration could help to manage capital gains down the road.”
Sherry and Sid plan to leave an estate for their nieces and nephews. Since they could live another 40 years or so, they should revisit their wills every five years, or after a life event, the planner says. Sherry would benefit from having a will that covers her U.S. assets specifically. Many things could happen to their heirs, some of whom are Canadians, some Americans; they could move countries, etc., so Sherry and Sid may want to consider gifting to them along the way rather than waiting.
With U.S. citizens, gifting is limited currently to $19,000 per year, whereas in Canada, gifting does not have a limit, Ms. Guenther says. “The couple, in reviewing their accounts should ensure that beneficiaries are named for their registered accounts in Canada and the U.S.-domiciled accounts.”
Many people increase spending early in retirement and then slow down after age 80, the planner says. “Depending on their decision to gift and how the value of the estate grows, they might consider a small term-life insurance policy to cover off estate taxes for the benefit of the nieces and nephews,” she says.
With one spouse retiring early in life and an eight-year age gap, consideration should be given to the survivorship components for each of their defined benefit pensions, Ms. Guenther says. Sid’s pension has a 50 per cent survivorship benefit. Sid has health care benefits attached to his pension, which is extremely useful in budgeting, she says.
“Their after-tax income in retirement will exceed their living requirements, providing them options for more travel, more experiences, nicer bathroom upgrades and a nicer car.”
Client situation
The people: Sid, 55, and Sherry, 46.
The problem: How to draw down savings and pension income when they retire given their age difference.
The plan: Tap RRSPs first, deferring government benefits to their respective age 70. Draw on Sherry’s Roth IRA next, followed by non-registered accounts and then TFSA.
The payoff: The comfort of knowing they have more than enough.
Monthly after-tax income: $15,690.
Assets: Sherry’s bank account $13,425; Sid’s bank account $43,000; Sherry’s RRSP $369,010; Sid’s RRSP $389,183; Sherry’s TFSA $150,713; Sid’s TFSA $161,872; Sherry’s non-registered investments $690,421; Sherry’s Roth IRA $821,535; Sid’s non-registered investments $510,841; residence: $950,000. Total: $4.1-million.
Estimated present value of Sid’s DB pension $1,261,900 and Sherry’s DB pension $173,811 (5 per cent discount rate and 2 per cent inflation.) This is what someone with no pension would have to save to generate the same income.
Monthly outlays: Condo fees $860; property tax $340; home insurance $75; electricity $95; maintenance $85; transportation $340; groceries $600; clothing, dry cleaning $260; gifts, charity $90; vacation, travel $675; other discretionary $40; personal care $575; club memberships $685; dining, entertainment $600; sports, hobbies $200; subscriptions $15; health care $190; communications $120; RRSPs $740; TFSAs $585; pension plan contributions $715. Total: $7,885.
Liabilities: Nil
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