Can Rose afford to retire in five years and still maintain her lifestyle?

DARRYL DYCK/The Globe and the Mail

Rose is 55 and single “with two recently independent young adult children,” she wrote in an email. “I live in Vancouver, have a condo that’s paid off, and I work full-time.” Her managerial job pays a base salary of $154,000 a year plus a $25,000 bonus.

“I think I’ve been financially responsible and would like to retire before 65, but I have no idea if I can afford it,” she adds.

“My goal in (hopefully early) retirement is to ideally be able to maintain my current lifestyle: travel, eat out, attend events,” writes Rose. “But maybe I would sacrifice some of that to leave work earlier.”

Rose wonders where to invest her excess cash. She also has some US dollars in a bank account. In the short term, she wants to pay off a personal loan, set up an emergency fund and buy a new vehicle. She hopes to retire in about five years, at age 60, with after-tax purchasing power of $50,000 to $60,000 a year.

“Will I have the funds required?” asks Rose.

We asked Barbara Knoblach, a financial planner at Money Coaches Canada in Edmonton, to look at Rose’s situation. Money Coaches Canada is a national network of fee-based financial coaches.

What the expert says

Rose recently searched her tax-free savings account to pay off her mortgage in full, Ms. Knoblach says. Before she retires, Rose wants to buy a new vehicle for $45,000 and pay off a $35,000 personal loan. She asks how best to use her US funds – $30,000 that was part of a compensation package – and how to use her (nearly empty) TFSA in the context of retirement planning.

After her mortgage is paid off, Rose will have significant excess funds that she can use to plan for retirement, pay down debt or make big purchases, the planner says.

Rose has a group registered retirement plan and a deferred profit-sharing plan at work. She contributes $9,170 annually to her group’s RRSP and her employer contributes $6,880 annually to the DPSP. These group accounts are invested exclusively in equities, 31 percent in Canadian equities and 69 percent in foreign equities.

“Rose confirms that she is comfortable with volatility,” says Ms. Knoblach.

In making her projection, the planner assumes that Rose will be eligible for 56 percent of the maximum Canada pension plan benefits based on her work history and full retirement benefits, and that she will begin receiving those benefits at age 65 . The planner went through three scenarios to see if Rose’s goals are realistic.

In the first scenario, Rose carries on as before with no further savings and no investment plan other than her group plans at work. With her dollars, she pays off her personal loan, puts off her car purchase, and spends her surplus. She will retire in January 2026, the year she will turn 60. Rose misses her spending target.

Instead, the planner recommends that Rose use her current high-income years to aggressively close the gap in her retirement savings. The second scenario assumes that Rose immediately starts making contributions of $3,000 per month into an unregistered, high-yielding savings account. This account will serve a variety of purposes — emergency savings, to buy a vehicle, pay off the personal loan, and as a cash cushion when she starts withdrawing from her registered accounts, the planner says. Rose “revived” her depleted TFSA by depositing the after-tax amount (say $17,500) of her annual bonus and investing the money. She buys a vehicle and pays off the personal loan before retiring.

Even with the higher projected cash spend than Scenario 1, Rose achieves after-tax purchasing power of $52,200 per year, which is at the low end of her target range, says Ms. Knoblach. “Aggressive saving and investing over the next few years will allow her to close the retirement savings gap.”

The planner ran a third scenario in which Rose works until age 65 rather than retiring at 60. As in the second scenario, Rose saves her surplus and contributes her bonus to her TFSA. “Once the TFSA has been maxed out, any excess funds from bonus payments will be diverted to Rose’s unregistered account,” says the planner. After buying the car and paying off the loan, Rose keeps the first $100,000 of her unregistered account in cash and invests any excess funds according to her risk appetite.

In that scenario, Rose can retire with an after-tax annual purchasing power of $74,000, Ms. Knoblach says. “She could lead a much more affluent lifestyle than currently planned.” Rose must decide whether she will work the extra years to gain greater spending power or whether $52,000 a year will suffice, the planner says. “Personally, I recommend aiming higher because Rose is used to a certain lifestyle.” Also, big expenses — another new vehicle, her kids’ wedding, international travel — “will come in retirement,” Ms. Knoblach says. “At $52,000 a year, she’s going to have little flexibility to handle those kinds of one-off expenses.”

The forecasts assume an inflation rate of 2 percent, an average annual return of 5.5 percent and financing until Rose’s 95th year.

Next, the planner looks at Rose’s investments, which are fully invested in stocks. “By the time she starts closing her registered accounts, the holdings should be restructured to avoid having to resort to stocks in the event of a market downturn,” she says. “As a rule of thumb, Rose should always have one year’s worth of RRSP withdrawals in cash or near cash and another two years in conservative investments.” She suggests that when Rose retires, she will have an unregistered, high-yield “stock account.” should have, from which she pays herself a regular monthly “salary” as if she were still working.

“After all, the TFSA should not be used for emergency savings deposits,” says Ms. Knoblach. Funds held in TFSAs are issued in post-tax dollars and future withdrawals do not trigger a tax event. “Due to the post-tax nature, funds held in a TFSA should be invested aggressively and for the long term, ideally in an equity-only portfolio,” says the planner. Rose may consider transferring the $4,800 worth of stock in her unregistered investment account to her TFSA for tax-protected growth. Also, a retired TFSA can come in handy when a big purchase is required, she says. “If a TFSA is not available, a blanket withdrawal from an RRSP could put Rose in a high tax bracket and possibly lead to a reclaim from OAS.”

customer situation

The person: Rose, 55, and her two children

The problem: Can she afford to retire in five years and still maintain her lifestyle?

The plan: Save aggressively on both your TFSA and unregistered savings accounts. Weigh the tradeoff between retiring in five years at $52,200 a year or 10 years at $74,000.

The Payout: A clear look at the alternatives

Monthly Net Income: $8,565 (no bonus)

Financial assets: bank account $5,000; unregistered $4,800; US Dollar Account US$30,000 (about US$38,300); TFSA $5,000; RRSP/DPSP $742,850; Residence $1.05 million. Total: $1.8 million

Monthly expenses: Condo Fees $545; property tax $250; home insurance $60; hydropower $50; garden $15; Transportation $530; groceries $550; clothing $200; Gifts, Charities $255; vacation, trip $350; Food, drinks, entertainment $395; personal care $85; Sports, Hobbies $220; massage, physio $225; doctors, dentists $65; Drugstore $25; Medical, dental insurance $75; disability insurance $85; communications $190; Group MSRP $765. Total: $4,935. Surplus available to save $3,630

Liabilities: Personal Loan $35,000

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Some details may be changed to protect the privacy of the profiled individuals.

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