Couple shy of retirement goals with $2.1 million portfolio

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Tom and Amanda, both 60, self-employed and semi-retired, plan to spend $115,000 to $120,000 a year after-tax in 2024 dollars to age 95-plus. Are they on track to generating enough income to meet their lifestyle goals? Their current annual spending is nearly $109,000, and their biggest expense is travel, something they love and plan to do as long as possible.

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Both Tom and Amanda left full-time employment behind in 2022 and now work as a small business consultant and health and wellness consultant, respectively, earning about $1,000 a month each after expenses and before tax. At this point, they plan to continue working part-time until December 2027.

The bulk of their annual income comes from their self-directed, equity-focused investment portfolio valued at just shy of $2.1 million. “We are not panic buyers or sellers. We buy for the long term and adjust as appropriate,” said Tom. Their portfolio generates about $80,000 in dividends through a mix of dividend-generating equities and high-interest savings account exchange-traded funds (HISA ETFs).

They withdraw $70,000 of dividends from their registered retirement savings plan (RRSP) and non-registered accounts, and reinvest the $10,000 of dividends generated within their tax-free savings accounts (TFSAs).

Their portfolio includes: $264,000 in TFSAs, $1,206,000 in RRSPs, $110,000 in guaranteed investment certificates (GICs), $63,000 in a locked-in retirement account (LIRA), $411,000 in non-registered accounts and a residual balance of $34,000 in registered education savings plans (RESPs) they will likely collapse in the near future.

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Tom and Amanda are debt-free and own a home in Southwestern Ontario valued at $1.9 million. “Ideally we’d love to stay here for as long as possible, but if it makes sense to downsize to help ensure we have enough cash flow long-term, we’re willing to do so. Should we look to downsize to free up some equity? If so, when and how much equity do we need to free up?”

Tom and Amanda would like to leave their two adult children $500,000 or more in 2024 dollars but their overarching concern is ensuring their estate is cash positive. “It is critical to us that we do not become a financial burden on our children,” said Tom.

Tom’s projected Canada Pension Plan (CPP) benefits will be $1,174 per month if he starts at age 65, $1,469 per month if he defers to age 68, or $1,667 per month if he defers to age 70. Amanda expects to receive $604 per month if she starts at age 65; $756 per month if she defers to age 68; and $858 per month if she defers to age 70. They would like to know when they should start taking CPP and Old Age Security.

Other key questions for the expert: What is the recommended drawdown strategy for their registered and non-registered investments? What return on investment target should they be working toward that will help meet the cost of inflation and ensure they are on track for the long-term retirement lifestyle they want?

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What the expert says

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“Tom and Amanda are on track to retire in three years on $100,000 a year before tax, not the $150,000 they were aiming for, which would require a total portfolio of $3.15 million,” said Ed Rempel, a fee-for-service financial planner, tax accountant and blogger. “They are 32 per cent, or $1 million, behind this goal.”

He suggested that a more achievable goal might be to retire on $120,000 a year before tax ($100,000 a year after tax). This would require downsizing in about 10 years, investing $500,000 of the proceeds in tax-efficient investments and implementing a tax-efficient drawdown strategy.

“Much of their capital is tied up in their home and not providing them with retirement cash flow. This is one of the main reasons they are behind on their financial independence plan,” he said. “If they are focused on generating $150,000 a year before tax in retirement, then when they stop working in three years, they could access their home equity. This can take a few forms: They could consider either selling to rent, downsizing to a home worth half the value of their current home, borrowing against their home equity to invest, or borrowing against their home equity to spend.”

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Regardless of whether they access equity or not, they are likely to have the $500,000 in today’s dollars to leave as an inheritance for their two children, either in the form of investments or the sale of the home, Rempel said.

Tom and Amanda are currently invested 85 per cent in equities and 15 per cent in cash and GICs. “A reasonable, somewhat conservative, long-term return expectation on these investments is about 7.2 per cent per year before they retire and 6.2 per cent per year after they retire. If they invested for more growth with 100 per cent equities, they could plan on long-term returns closer to 8 per cent per year before retirement and 7 per cent after retirement. We typically assume inflation of 3 per cent per year and real estate appreciation of 4 per cent per year (unless it is in an area with lower real estate growth).”

When it comes to optimizing their drawdown strategy, Rempel said there are two overarching strategies:

1. Try to withdraw at a low tax bracket and avoid higher tax brackets;
2. Try to defer tax as long as possible.

He suggested Tom and Amanda focus on the second strategy. To this end, they could draw down from non-registered investments first until age 71 while continuing to contribute to their TFSAs. Once their non-registered investments run out, they can draw down from their TFSAs and the minimum from their registered retirement income funds (RRIFs) starting at age 72, which would allow them to reduce their current $25,000 tax bill by $15,000 to $20,000 a year.

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This may leave them with a large tax bill later in life and on their estate with mainly RRIFs left. However, paying less tax and allowing their non-registered investments to compound for two to three decades should more than offset the tax expense, he said.

Rempel recommended they plan to start CPP and OAS at age 65, which would give them an implied return of 10.4 per cent per year, compared with an implied return of 6.8 per cent per year if they defer to age 70.

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