With net worth tied up in their house, couple’s dreams of early retirement may be dashed

Situation: B.C. couple in their 40s has left retirement savings to employer and can’t afford to quit

Solution: Stick with jobs to 65, save aggressively and then retire with ample income

A couple we’ll call Jesse and Olivia, 48 and 44, respectively, make their home in B.C.’s Lower Mainland. Employed by a big computer services company, they take home $8,500 a month. They are raising their 8-year old child we’ll call Kim. Many years ago, they got into the West Coast housing market ahead of the stampede to buy. Their house is now 80 per cent of their net worth.

Like other people who have solid work pensions, they’ve let their employers do their saving for them. As long as they work, their future retirement is packaged along with their paycheques. But lack of private savings adds risk to early retirement plans. For now, they have $108,800 in RRSPs and TFSAs.

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Family Finance asked Derek Moran, head of Smarter Financial Planning Ltd. in Kelowna, B.C., to work with Jesse and Olivia to determine if quitting early will work.    

Their immediate problem is that they feel burned out and ready to retire. Timing is the issue, for each could quit at 55 and get a pension bridge to 65 when CPP begins and their work pensions drop off a comparable amount. But their four year age differences and Olivia’s status as a year-to-year employee of the public service mean quitting before 55 — as Olivia would if she ends her work when Jesse is 55 — will add risk to their plans.      

Education                   

The first goal, Moran says, should be to build up the family Registered Education Savings Plan. It has a current balance of $29,200. If they maintain contributions at $208 a month, Kim will get the maximum __canada Education Savings Grant of the lesser of $500 or 20 per cent of contributions.

Jesse and Olivia have contributed since Kim was born. The maximum grant for the CESG is $7,200, so with a $500 yearly grant, they will max out when they have contributed for 14.4 years. That would be when Kim is 14. If they continue to add $2,500 a year and attract the $500 CESG until then, contributing at the end of each year and earning a 3 per cent annual return over inflation, the fund would have about $54,200 in 2017 dollars.

If the parents maintain $2,500 annual contributions without the CESG after age 14 for three additional years, the plan would have $67,000 in total if it has continued to earn 3 per cent after inflation. That balance, available at age 18, would start Kim on a solid footing with all tuition and books likely paid in full at any four-year institution in British Columbia, Moran explains.

RRSPs & TFSAs

The couple’s RRSP contributions are decidedly light. They put $9,600 a year total into their accounts. Their limit is 18 per cent of their gross incomes, which add up to $190,800. Their combined limit is therefore $34,344. On average, just to keep the arithmetic simple, each has a $17,172 RRSP limit. The pension adjustment, “PA” as it’s called, cuts out of the maximum 18 per cent amount what their job pensions put into their retirement accounts.

Their present combined RRSP balances totalling $69,200 growing at 3 per cent a year for the next 17 years with $9,600 annual contributions would be $329,560. If paid out as an annuity for the next 34 years to exhaust all capital and income to Olivia’s age 95, that capital would generate $15,150 a year.

Jesse and Olivia have $39,600 in their Tax-Free Savings Accounts. If they add $5,500 a year each, the current limit, to their present balances, then in 17 years when Jesse is 65, assuming 3 per cent growth after inflation, they would have $312,000. If they pay that money out on the same basis as their RRSPs, then they would have an annual, tax-free income of $14,300 for 34 years to Olivia’s age 95.

Pensions

Jesse and Olivia will each have a defined benefit pension from their employers. They contribute to the pensions via deductions from their gross pay. When they retire, assuming that each works to 60, Jesse would have $41,000 a year and Olivia $62,000 a year for total pension income of $103,000 a year. After 65, they would each lose their bridge pensions, $5,000 for Jesse and $7,000 for Olivia, leaving permanent pension income at $91,000. The pensions would not be synchronized, however, for there is a four year difference in their ages.

The sum of these retirement income components will be $103,000 from job pensions to age 65 plus annuitized RRSP/TFSA payments of $29,450. That adds up to $132,450 before tax. If eligible pensions are split, age and pension credits taken, and TFSA income not taxed, they would pay average income tax of 20 per cent and have about $8,830 a month to spend.

When both are 65, they would have $91,000 from their job pensions, $29,450 from RRSPs and TFSAs, $6,846 each from Old Age Security and $13,110 each from the Canada Pension Plan. That adds up to $160,362. If split and separately taxed and if TFSA income is not included in the tax base, each would pay 20 per cent average tax after age and pension credits. They would have $10,700 to spend each month.

An early retirement in eight years when Jesse is 56 and Olivia is 52 would be costly for they would give up a lot of retirement benefits. After retirement, they would not have employment income that would qualify for RRSP contributions. Job retirement benefit growth would cease and their pension formula, based on their salaries in their final five years, would be truncated with total benefits of perhaps $65,000 a year.

Their $9,600 present annual RRSP contributions would continue for just eight more years to Jesse’s age 56, raising the total RRSP balance to $175,600. If annuitized for 43 years to Olivia’s age 95, this capital, still generating 3 per cent after inflation, would provide $7,100 a year before tax. The result would be investment income only 44 per cent of the investment income they would have if both work to Jesse’s age 65. Their TFSAs, growing with annual contributions for seven years, would have $135,500 total and be able to pay $5,700 a year for 40 years to Olivia’s age 95.

Retirement at 56 would work, but barely. Total after-tax income at Jesse’s age 56 based on job pensions and annuitized savings would be $77,800 a year or $5,186 a month, the same as present income less savings and child care, net $5,185. They would have no margin for unplanned expenses and would have to use a line of credit for emergencies, or give up most of their travel and dining out. 

Four years later, Jesse would qualify for Canada Pension plan benefits. CPP would pay Jesse just 80 per cent of the maximum due to a shortened contribution period. Olivia would be a little short of 80 per cent and her tenure is not certain. That would bring CPP benefits down for each to an estimated $10,488 and that would have to be reduced by 36 per cent for each, net $6,712 for retirement at 60.

“Retirement at 65 would provide adequate income,” Moran notes. “Retirement in Jesse’s mid-50s would be a risk to their way of life. “For security, they should work to 65.”

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