In Toronto, a couple we'll call Bart and Terri are thriving in their careers. Bart, 45, is executive chef in a fashionable restaurant. Terri, 38, has a middle management position in government. Their incomes total $175,000 a year.
With a house worth $430,000, rental properties in Toronto and Whistler, B.C., and a variety of pension assets, they should be cruising comfortably toward retirement.
But a series of bad investments in underperforming mutual funds and disappointing investments in Nortel Networks Corp. and defunct Portus Alternative Asset Management Inc. have made them realize that they can't retire until they straighten out their finances.
What our expert says
Facelift asked Derek Moran, a financial planner in the Kelowna, B.C., office of Vancouver-based fee-only financial planning firm Macdonald Shymko & Co., to speak with Bart and Terri.
"This is a complicated case because the subjects are relatively young and there are so many unknowns," Mr. Moran says.
Will property values in British Columbia and Ontario fluctuate together or independently? If Bart and Terri retire in 10 years, as they would like, will they be able to work part-time? Will the rental properties be profitable?"
"Our home has just about doubled in price since we took possession six years ago," Bart says. "Real estate is hot, so we have put up with short-term pain for long-term gain."
In order to sort out Bart and Terri's plans, the planner has classified the couple's goals into two sets of financial targets.
Short-term goals: Secure financing for the Whistler property, take an annual vacation for $6,000, and send their 15-year-old son to college in two years at a cost of $5,000 a year while he lives at home.
Long-term goals: Prepare for partial retirement in 10 years and full retirement in 15 years, pay off the $125,000 home mortgage in six years, and buy a bed-and-breakfast when retirement begins.
In spite of their substantial incomes, Bart and Terri have just $2,000 in cash. Their most pressing need is to finance their 15-year-old son's college education.
They can initiate a college fund by contributing $2,000 each year to a Registered Education Savings Plan (RESP), the largest amount that will qualify for the annual Canada Education Savings Grant (CESG). The CESG is awarded annually in the amount of 20 per cent of the RESP contribution, to a limit of $400. The RESP must be established before the calendar year in which the student turns 16, in order to receive the grant.
RESPs cannot be funded after the year in which the student turns 17. Making the most of the small window will allow Bart and Terri to put in $6,000 in and to receive $1,200 in CESG bonuses, Mr. Moran notes.
Bart and Terri would like to open a B&B in British Columbia when they retire in 10 years. They estimate the B&B would cost $750,000 to $1-million. That amount is between $320,000 and $570,000 more than the estimated value of their current house in Toronto, Mr. Moran notes.
Saving that amount would require that they put away at least $17,205 to $30,647 a year for 15 years, he estimates. This is beyond their present rate of savings. What's more, if the investment earns income, they would have to pay some tax in the next decade and a half.
Alternatively, Bart and Terri could finance the B&B. At 4 per cent a year, the annual interest costs would range from $1,067 to $1,900 a month. At 5 per cent, carrying costs would jump to $1,333 to $2,375 a month, Mr. Moran says.
Each month, Bart and Terri earn $18,300 before tax or $9,626 after taxes and deductions. They have not even begun to pay for their $510,000 Whistler property for which they put $100,000 down against occupancy beginning in January, 2006, when they have to pay an additional $70,000.
The Whistler property will not produce income for several years, so Bart and Terri have to cover the ownership costs out of other income, Mr. Moran notes. The cost of the place, all borrowed, if amortized over 25 years, will be $1,845 a month, he says.
The $70,000 down payment can be financed by extending their line of credit. That way, the down payment will cost $280 a month to finance at 4 per cent a year.
Bart and Terri are spending far too much supporting their real estate. Mr. Moran explains that their Toronto rental property merely breaks even. They have more real estate than they can afford.
They should sell some of their real estate, Mr. Moran advises. The Whistler property is the best candidate for sale, for it is the more speculative and has higher carrying costs than their Toronto rental property.
Bart and Terri have to give attention to their financial assets, Mr. Moran insists.
With combined registered retirement savings plans of $196,000 and pensions with present value of $29,200, they need to build their non-real estate assets to balance their heavy real estate holdings, the planner says. If they maintain RRSP contributions with $8,600 a year plus the $1,335 allocated to their Home Buyers Loan repayment plan (which will be paid within a year), then, assuming 6-per-cent annual asset growth and 3-per-cent annual inflation, they will have $490,300 in 2005 dollars when they retire when Bart is 59 and Terri is 52.
If they begin to draw money from their RRSPs through registered retirement income funds when Bart is 59, they could take out $22,118 a year in 2005 dollars and maintain this flow until 2042, when Terri will reach age 90.
Terri has a defined benefit plan. It offers full consumer price index-matching with an 8-per-cent annual cap. If she retires before age 60, she will give up a great deal, Mr. Moran notes.
If Terri were to retire at age 60, she would receive an annual payment of 2 per cent of her present salary of $100,000 times 22 (her years of service) for a total payment of $44,000 a year. If she works to age 55, she would pay a 50-per-cent penalty for early retirement and receive $17,000 a year. If she retires at age 53, she would receive just $15,000 a year.
Both Bart and Terri will qualify for Canada Pension Plan payments. Assuming that Bart and Terri both receive 80 per cent of the maximum payout and that they take early encashment at age 60 at 70 per cent of the maximum current payment of $9,945 (losing 0.5 per cent for each month prior to attaining age 65 that they begin to receive CPP), they will have $11,138 a year in 2005 dollars.
They will also both qualify for Old Age Security of $5,758 each year in 2005 dollars. Their total of public and private pensions would be $48,256 a year and they would not be subject to the OAS clawback, which currently begins at $60,800 a person per year.
"Bart and Terri have taken on too much debt and they must raise cash to pay it down," Mr. Moran says. "With over $820,000 in debts, they are vulnerable to being squeezed by interest rate increases. They are also vulnerable to a downturn in the real estate market."
Bart figures he'll take the advice. "I could sell the Toronto property for a profit of $50,000 and cut our debts. Obviously, I need to get some money."
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Client situation
Bart, 45, and his wife, Terri, 38, live in Toronto with their 15-year-old son.
Net monthly income: Bart: $3,826, Terri $5,800.
Total: $9,626.
Assets: House, $430,000; rental property Toronto, $250,000; rental property Whistler, $510,000; RRSPs, $196,000; pensions at present value, $29,200; cash, $2,000.
Monthly expenses: House mortgage, $1,760; maintenance & utilities, $500; line of credit, $540; furniture replacement, $300; RRSP (Bart) $750; RRSP home loan, $220; property tax, $300; food, $800; entertainment, $816; vacation, $500; rental car, $290; clothing, $600; insurance (home and life) $120; charity and gifts, $600; household & pets, $360; gym & grooming, $400; public transit and taxi, $220; miscellaneous, $300; savings, $250.
Total: $9,626.
Liabilities: Mortgages: Toronto townhouse, $125,000; Toronto rental property, $150,000; Whistler rental property, $330,000; line of credit at 4.65 per cent, $145,000, including $100,00 for Whistler and $45,000 for Toronto property. Financing due in December, $70,000 for Whistler; other, $1,200.
© The Globe and Mail
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