Preston, 39, wants to know if it's reasonable to expect to be able to retire at age 58 given his current financial trajectory.Todd Korol/The Globe and Mail
Although he’s only 39 years old and single, Preston is intently focused on retiring early from his $116,000-a-year provincial government job.
“I work a full-time job and I have a self-employed side hustle,” Preston wrote via e-mail. “Both pay well, and I am starting to wonder if all the extra work – and income – are necessary for my financial goals, especially when it pushes me into a higher tax bracket.”
“I’m big on saving for retirement because I recognize that as a single person I’m going to need to fend for myself when I’m older. But I wonder if I’m over-saving at the expense of enjoying more of life now.”
Among his short-term goals is working on his new home. “I sold my condo last year and bought a new, mortgaged home that I’d like to renovate,” he wrote. Other short-term goals include taking a month-long holiday and maxing out his tax-free savings account.
He has a mix of investment accounts and a defined benefit pension plan that he estimates will pay $5,680 a month at age 58. His retirement spending goal is $110,000 a year after tax.
“Is it reasonable to expect that I will be able to retire at that age given my current financial trajectory?”
We asked Hannah McVean, a certified financial planner at Objective Financial Partners Inc. in Squamish, B.C., to look at Preston’s situation.
What the expert says
“It’s great to see that Preston is focused on saving for retirement while also questioning how much is really needed and whether he can enjoy more of life today,” Ms. McVean said. Including his pension contributions, savings and mortgage payments, he’s putting about $5,800 a month – or 42 per cent of his gross income – toward his future. “That’s impressive, and it makes sense to ask whether it’s too much.”
Preston’s lifestyle costs about $4,625 a month, with 20 per cent of annual outflows spent on essentials and 14 per cent on discretionary spending, the planner said. Taxes, Canada Pension Plan and employment insurance contributions account for the remaining 24 per cent of annual outflows.
His retirement spending goal of $110,000 a year after tax, or $9,165 a month in today’s dollars, is significantly higher than his spending today, Ms. McVean said. “He says this level supports his ideal retirement, including travel.”
If Preston were to retire at 58 and live to 95, his savings would need to last 37 years. “That’s a long time, with some challenges,” Ms. McVean said. Preston’s pension may cover less than half of his target income, and it isn’t fully indexed to inflation. He has invested mostly in stocks and uses low-cost products, which makes the projections look better, she noted, “but market volatility – especially early in retirement – poses risk.”
The $110,000 home renovation Preston is planning will reduce his savings, but he’s still on track to accumulate $2-million in investments by age 58, assuming ongoing RRSP and tax-free savings account contributions of $34,200 a year.
“That said, if he contributes $2,400 to his RRSP monthly and also plans to deposit $20,000 from consulting income into his RRSP this year, he will be on track to exceed his RRSP limit,” the planner said. Taxpayers are allowed to overcontribute by $2,000 without penalty, but anything above that can trigger a 1-per-cent monthly tax and administrative headache.
Preston’s mortgage could extend three to five years past his target retirement date, depending on long-term interest rates and payments. “While it’s not mandatory to be mortgage-free when you retire, reducing fixed expenses helps reduce exposure to sequence of returns risk – a particular challenge retirees face,” Ms. McVean said. “I’ve assumed in the forecast that the mortgage is paid off by retirement, even if that means using investments to do so.”
Preston is expecting to receive $68,160 a year from his pension starting at age 58. CPP can begin as early as 60, and Old Age Security at 65. If he is entitled to 90 per cent of the maximum CPP benefit at age 65 in 2051, we expect that he would receive $3,150 per month, or $1,835 in today’s dollars.
If he were to start CPP at 60, in 2046, his benefits would be reduced by 36 per cent. If he waits until 70, the base amount would be expected to increase by 42 per cent. Unlike his defined benefit pension, CPP and OAS are fully indexed to inflation, Ms. McVean said. “With such a big increase in pension from age 60 to age 65 or 70, delaying them can be smart if he’s able to draw from other sources in the meantime.”
It’s also possible Preston will face Old Age Security clawbacks. OAS is income-tested, and in 2025 those with taxable income of more than $93,454 a year start to repay a portion of their OAS. Pension income, including CPP and RRSP/registered retirement income fund (RRIF) withdrawals, all counts toward this threshold.
“Given Preston’s goal to spend $110,000 a year after tax each year in today’s dollars, he’d need around $163,000 a year net starting at age 58,” Ms. McVean said. Assuming a 25-per-cent average tax rate, this level of income could result in OAS clawbacks, so income planning may be needed as he approaches retirement.
“I’ve assumed that Preston withdraws to fund his spending needs proportionally across his different accounts,” the planner said. “In the first phase of retirement, until CPP begins, we’d expect roughly $40,000 to $50,000 payable annually in taxes, and he’d need to withdraw about $145,000 a year from his portfolio.” When CPP starts at 65, that need drops to around $120,000 a year. “Still, with a 37-year retirement, that’s a lot of long-term pressure on Preston’s investments.”
However, many retirees naturally reduce their spending over time. “If Preston assumes a 10-per-cent drop at age 70 and another 10 per cent at age 80, his spending at 80 would still be $7,425 a month in today’s dollars – but his projections would go from showing eight years of shortfall to a fair cushion.”
So, is Preston saving too much? “Possibly,” Ms. McVean said. “If his expected pension is higher, if investment returns exceed 5.9 per cent after fees, if he receives an inheritance or if his actual retirement spending is lower than projected, he may not need to save quite so aggressively.”
“On the flip side, if inflation is higher, if costs rise, if returns are lower or if there’s a market crash shortly before or after retirement, then his current level of saving may not be enough.”
Preston invests in low-cost products, using all-in-one exchange-traded funds, a robo-adviser and some stock picking with blue chips. His asset allocation is roughly 90-per-cent stocks and 10-per-cent bonds. He expects a 6.4-per-cent return before fees, with fees assumed to be 0.50 per cent.
His comfort with risk also matters. Some people prefer a large cushion to weather any storm. Others are comfortable using home equity, working part-time or adjusting spending if needed. “Based on Preston’s current goals, I think he’s on the right track.”
He has been targeting self-employment income of $50,000 per year but has been making much more than that. If he earns more than $50,000 a year in consulting income in the future, I think he can feel confident spending that surplus.”
Ms. McVean’s forecast assumes a 2.1-per-cent inflation rate, a rate of return on investments of 6.4 per cent before fees, investment expenses and fees of 0.50 per cent and mortgage rates that average 4.4 per cent. Preston’s pension is indexed by 1.3 per cent.
Client situation
The Person: Preston, 39.
The Problem: Is he saving too much or too little to retire at age 58?
The Plan: Keep saving. Consider paying off his mortgage before he retires and deferring government benefits. Update his forecast as he nears retirement age.
The Payoff: A look at the alternatives that might be available to him when he retires two decades from now.
Monthly net income: $10,440 ($7,275 from salary plus $3,165 on average from self-employment).
Assets: Bank account $17,800; TFSA $92,185; RRSP $282,600; residence $586,000. Total: $978,585.
Monthly outlays: Mortgage $2,205; condo fees $400; property tax $260; water, sewer and garbage $85; home insurance $75; electricity $70; heating $165; transportation $240; groceries $350; clothing $50; dining, drinks and entertainment $600; subscriptions $30; phones, TV and internet $125; RRSP $2,400; TFSA $585; pension plan contribution $760. Total: $8,400. Surplus goes to discretionary spending, including travel, and saving.
Liabilities: Mortgage of $368,600 at 5.14 per cent.
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