In recent years, much has been made of retirement savings plans designed to generate a high percentage -— as much as 80 per cent — of an investor’s pre-retirement working income. This assumes that your retirement spending will be a slightly lesser version of your peak earning years. But, will that be the case?
Given the severe market decline of 2008, and again in 2011, that figure may be too high, either as an attainable target or as a realistic goal. More importantly, it may not be necessary. Recent surveys indicate that boomers are now looking for a simpler, less expensive retirement lifestyle than the previous generation.
As a result, some investors are considering another costing approach for their retirement planning. It is one that establishes a realistic budget of how much they will need to retire comfortably and use that figure to design the investment and savings plan that they should be putting into place today.
This approach changes the focus from replacing past income to anticipating your future expenses and the costs of living in a comfortable retirement lifestyle. This approach also helps retirees to identify expenditures that will be eliminated or reduced in the retirement years.
Making a list of current living expenses is a good way to begin the planning process. Assume basic monthly household and living costs will be roughly the same in retirement. Inflation is a long-term factor to consider and at 2.5 per cent, most household costs will double within 30 years. This can be offset by investments that keep pace with inflation and indexed retirement income from the Canada Pension Plan. A spending forecast should anticipate new costs. These include medical expenses no longer covered by the employer, travel and vacation plans and other lifestyle considerations. But also, this exercise should reveal areas where living costs and expenses will come down. A mortgage-free retirement alone can substantially reduce the cost of living in retirement. Your spending budget will also be free of many family savings and investment contributions that will decline or disappear as household expenses after retirement.
Knowing what it’s going to cost to live in retirement is a helpful guide that shows approximately what cash requirements you’ll need when you get there (in after-tax dollars) and how much should be saved and invested to generate the income necessary to meet that financial goal.
In that regard, would-be retirees can produce an income stream by combining a variety of retirement resources:
All working Canadians are already saving for their retirement through their payroll deductions to the Canada Pension Plan and Old Age Security. Retired individuals can apply for as much as $900 in monthly income from the CPP and up to an additional $520 in monthly OAS payments. This retirement income is taxable and inflation adjusted.
After the age of 71, your RRSP is usually rolled over into an annuity or a Registered Retirement Income Fund (RRIF). An annual withdrawal from the fund is mandatory and fully taxable. An RRIF can be managed like any investment portfolio throughout retirement to replace a portion of the withdrawn funds and keep ahead of inflation.
Interest income, dividend income and capital gains are all treated differently as taxable income and enjoy different tax rates depending on the individual’s marginal tax rate.
The new $5,000-a-year savings and investment account can be used to invest in a variety of eligible securities. Principal and investment returns can accumulate and grow and be withdrawn without tax.
Annuities now offer flexible withdrawal rates, some access to capital and will guarantee either a set or variable income for life depending on the plan. Some have investment growth features and tax efficient advantages.
For many people planning for their retirement, the big question is “How much will I need?” That’s where your savings and investment planning starts to take shape. And there are a variety of savings and investment options to choose from. Your financial advisor can become a valuable person to talk with about putting in place a retirement plan that can add security and peace of mind to your future.
Judy Poole is a financial advisor with Raymond James, and has spent the last 40 years involved in the financial industry. This article is provided as a general source of information and should not be considered personal investment advice. The views expressed are those of the author and not necessarily those of Raymond James Ltd.