B.C. couple has significant mortgage debt heading into retirement, but risk should diminish with time


‘Jean and Lorraine have prepared for retirement with capital surplus to their needs,’ expert says. ‘They have the skills and focus to make retirement work’

Article content

In British Columbia, a couple we’ll call Jean and Lorraine, 62 and 48, respectively, share their home with children Elizabeth, 18, and Larry, 16. The parents have widely different incomes — Jean’s engineering business takes in $28,000 per month while Lorraine’s income from her personal care business is closer to $1,500. They both hope to retire in three years, when Jean turns 65. Their children, supported by adequate RESPs, will have left home by then.

Advertisement

Article content

Before they retire, Jean and Lorraine need to figure out what their retirement needs and incomes will be and how best to achieve their goals: to live well and give the most possible wealth and income to their children. They will have to balance their desire to live well now with the need to pile up whatever wealth they can for what could be a three- or four-decade retirement.

Article content

e-mail 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 Jean and Lorraine. He sees the issues as their 14-year age difference and the $619,700 of debt they have to manage. The debt consists of mortgage loans secured against property. Interest rates are low single digits, but if they take the debt into retirement when their income shrivels, it will be another story.

Advertisement

Article content

Ends and means

The couple’s retirement goals are to generate $6,000 per month after tax for living costs and travel for perhaps five years in the U.S. and abroad, see their two children through post-secondary education, and pay down debts when possible.

They have a $975,000 home and two rentals with estimated street prices of $360,000 and $384,667 and liabilities of $334,765 for their home and $224,488 and $60,445 for their two rentals. Their real estate assets add up to $1,719,667 against liabilities of $619,699. The ratio of assets to liabilities is 2.78, which is still within bank lending guidelines.

Various clients pay Jean a total of $28,000 per month. It goes into his private company from which he draws monthly salary. The residue he does not pay himself is held in cash. Jean should take a salary of $62,000 per year in order to maximize Canada Pension Plan contributions and leave the rest to be taxed at 12 per cent, which is the small business rate in B.C. He can then take savings out of the company as dividends during retirement. Going by the numbers, $28,000 of income per month will be reduced by the $5,740 tax-free portion and $5,100 or so to salary, leaving $17,160 per month or $205,920 per year in the company.

Advertisement

Article content

Savings and pensions

When Jean retires at 65, he will be able to count on an estimated $7,850 per year from OAS and an estimated $12,400 from CPP. Lorraine will receive $5,980 CPP per year and the same OAS as Jean.

The couple’s Tax-Free Savings Accounts have a total balance of $179,830. If they continue to add $6,000 for three years to Jean’s age 65, then with three per cent growth over inflation, they will become $215,600 in 2022 dollars at Jean’s age 65. That capital, growing at three per cent over inflation for the next 39 years to Lorraine’s age 90 would generate $9,450 per year.

The couple has $313,200 in RRSPs including locked-in accounts. Jean has $52,000 of contribution room. He can move that amount from his company to his RRSP. That would raise his total to $365,200. If he adds $11,088 per year for three years and attains a return of three per cent after inflation, the sum will rise to $434,365. That sum, spent over the following 39 years could generate $19,044 per year.

Advertisement

Article content

If Jean can save $201,120 per year in his company, 12 per cent or $24,134 will go to tax. The balance, $176,986 will rise to $756,864 over three years assuming three per cent annual interest. That money, spent over the following 39 years would generate $33,185 per year.

Retirement income

Adding up income elements when Jean is 65, they would have his annual pension from prior employment of $2,727, CPP of $12,400, OAS of $7,830, RRSP income of $19,044, TFSA payments totaling $9,450, $33,185 from Jean’s corporation, and $6,812 from their rentals, for total income before tax of $91,448 .   After splits of eligible income and 14 per cent average tax, they would have $79,968 annual income or $6,664 per month.

Advertisement

Article content

When Lorraine is 65, they will have Jean’s $2,727 pension, CPP benefits of $12,400 and $5,980, two OAS  annual benefits of $7,830 each, $19,044 RRSP income, $9,450 TFSA cash flow, $23,985 from the corporation, and $6,812 rentals income for total income of $96,058. After splits of eligible income and 15 per cent average tax, they would have $83,070 per year or $6,925 per month to spend.

There are a lot of unknowns in these projections. Future interest rates, the trend of real estate prices in B.C. and how the corporation may fare are uncertain. Jean will have a great deal of cash in his corporation to be taxed at rate that may change. That money can help the children, who may still be in university, or cover unexpected expenses.

Advertisement

Article content

The debt on their rental properties is another area of concern. Time, however, is on their side. As the mortgages are paid down, the interest rate risk will diminish. Assuming tax and return rates remain the same, the couple will have sufficient income to maintain spending at present levels with more free cash flow as mortgages are paid down and owner equity rises.

“Jean and Lorraine have prepared for retirement with capital surplus to their needs,” Moran concludes. “They have the skills and focus to make retirement work.”

Retirement stars:  Three retirement stars ***out of Five

Financial Post

email andrew.allentuck@gmail.com for a free Family Finance analysis

Advertisement

Comments

Postmedia is committed to maintaining a lively but civil forum for discussion and encourage all readers to share their views on our articles. Comments may take up to an hour for moderation before appearing on the site. We ask you to keep your comments relevant and respectful. We have enabled email notifications—you will now receive an email if you receive a reply to your comment, there is an update to a comment thread you follow or if a user you follow comments. Visit our Community Guidelines for more information and details on how to adjust your email settings.



Source link

Leave a Reply

Your email address will not be published. Required fields are marked *