At the beginning of the 20th century few Canadians could expect to live past 55. Retirement was not a cause for worry. Today, the situation is different. Now, a woman who retires at age 55 can expect to live, on average, another 30 years and a man, 26 years. All that retirement time has a price attached to it.
Retirement has become more complex. In this article, “Are you ready for Retirement?” part 1 of a 2-part series, we will look at sources of income, tax considerations and longevity. Part 11 will be published in the BCNA Spring Bulletin 2018 and will cover wills, estate planning and tax & cost saving strategies.
For most, the idea of freedom 55 is not reality. Many have financial and family obligations and may also choose to continue to work. Brenda, age 65 and Gary, age 60, are a married couple have been contributing to their Registered Retirement Savings Plan (RRSP) for years and they now want to retire. They have considered their expected income from Canada Pension Plan (CPP), Old Age Security (OAS) and Brenda’s work pension. They are a little confused about the three options they have for their RRSP and want to make sure they make the right decision for their situation.
The first option they have is to cash out their RRSPs. In this case, the government demands all the deferred tax be paid in a lump sum. In most cases that would be a 50% tax bite out of your savings. Lump sum withdrawals do not qualify for any pension tax credits and can only be made up to age 71. Consequently, this is this least beneficial idea and Brenda and Gary would be very unlikely to choose this option.
Their second possibility is to convert the RRSP to a Registered Retirement Income Fund (RRIF). RRIF money can continue to be held in the same types of investment products as the RRSP and are therefore exposed to the market fluctuations and risk associated with the investment choice. RRIFs can start at any age, but an RRSP must be converted to a RRIF no later than the end of the year in which the taxpayer turns 71. Minimum withdrawals are required and based on a formula which gradually increases up to age 95. RRIF minimums are based on the age of the taxpayer. However, Brenda could elect to use Gary’s age, as he is the younger spouse. This will reduce the minimum amount the couple will be required to withdraw and lower the tax Brenda will owe on her retirement income. It is important to note all RRIF withdrawals are taxable. Minimum payments are not subject to withholding tax and it may be a good idea to have tax remittances set up by your financial institution to avoid any big surprise on April 30th.
The third option is to buy an annuity with the RRSP money. An annuity functions similarly to a defined benefit pension plan. The monthly payout is fixed and guaranteed for life. It can also be purchased with an indexed benefit to keep up with inflation. Annuity payments are considered taxable income. Usually, they will pay out for a minimum period regardless of whether the owner is still alive. If Brenda were to choose an annuity, she must understand that no changes can be made once the contract is signed. An annuity can provide security that Brenda will not outlive her money. Both RRIF and annuities qualify for pension tax credits and pension income sharing.
Brenda and Gary are also concerned with the impact of an unexpected illness and how it could affect their retirement plan. Brenda, having been the primary care giver for both aging parents, has witnessed the emotional stress and financial toll a dependent family member had upon herself and her siblings.
Over the next 30 years the largest segment of our population, the baby boomers, will retire. As a result, our health care system will feel the pressure from longevity. Based on the current Canada Health Transfer (CHT), it’s projected that in 25 years, healthcare expenditures by provinces and territories will account for 97% of total available revenues.* To protect their retirement plan and avoid transferring a burden to their children, Brenda and Gary may consider a long-term care insurance plan as an integral part of their retirement planning.
One of the biggest concerns for many Canadians is running out of money in retirement. As medical advances continue, and health improves, this will continue to be a problem for many retirees. When choosing what to do with their retirement income, Brenda and Gary should consider their health with respect to life expectancy, the lifestyle they are hoping to enjoy early in retirement, factor in the cost of inflation and account for adjustments in the later years. They will need to balance these factors with the level of income they will be able to generate for and during retirement.
It is important to note that Brenda and Gary do not have to choose only one option for their RRSP. They could also use a combination of the three. To make the most informed decision and address their questions about long-term care insurance, they may want to see a financial advisor to ensure they are on the right track.
This article was written by Sindy Billan, SB Wealth Solutions** and Saskia Vermeulen, Southlands Financial. The information in this article are presented for general knowledge and the content should not be relied upon as containing specific financial, insurance, tax or legal advice. Names were changed to protect the identity of persons mentioned. Practitioners must seek their own independent professional advice to discuss their personal circumstances before implementing this type of arrangement. **SBILLAN Wealth Solutions Inc. doing business as SB Wealth Solutions E&O/E 2017
*Source: Sustainability of the Canadian Health Care System and Impact of the 2014 Revision to the Canada Health Transfer, Canadian Institute of Actuaries and Society of Actuaries, 2013