The Art and Science of Wealth Decumulation (Part III)

The Art and Science of Wealth Decumulation Part III

Author: Vince Olfert, MBA, CIM, CFP® – Certified Financial Planner®

Much of the financial services industry is focused on Wealth Accumulation.
You’ve likely heard:

“Contribute to RRSPs”

“Maximize your TFSA”

“Buy an RESP for your child’s education”

So what happens when you reach retirement and all that hard work of building wealth for your future becomes your main source of income?
Your questions might now become:

“Should I take my CPP at age 60?”

“I’ve heard RRSPs are the last investment you should use before age 72. Is this true?”

“Should I really reduce my non-registered investments first?”

The Answer – it depends.

How to Decumulate well is both an art and science. In the first two blogs on the topic of decumulation we talked about why planning is an ongoing process and identified some of the biggest financial challenges faced in decumulation during retirement. This third article will outline four important basics for decumulating wealth well.

1. Maximize Government Programs

The rule of thumb that says “take your CPP as soon as you can” no longer holds true. With the changes to the CPP and OAS bonus and CPP penalty rules, there are many ways to optimize your government plans. Some things to consider:

Your Health – we talked about this in a previous blog. If your health is poor, you may wish to consider taking CPP early.
Your employment status – if you are still working we almost always recommend waiting to take your government plans.

Consider this: If I told you I had an investment that would guarantee you an increase in your annual retirement income by 8.4% per year for every year you wait to take it…and when you do take it it would increase your annual retirement income at the rate of inflation. Would you wait? I would. Over 5 years that is a 42% increase in your retirement pension. For this reason, it is worth considering withdrawing other investment assets earlier and waiting on the government pension depending on your life circumstances and what your end goal is.

There can be significant complexity in these options, it is wise to talk with a financial professional prior to making a decision on optimizing government programs.

Planning Idea: If you retire before age 65 and are healthy consider using other assets to generate retirement income instead of taking CPP. Analysis shows that there aren’t many investments that can beat the bonusing offered in the government pension plans.

2. Know what your end goal is

There is great diversity on what clients would like to see happen with their money at the end of their life (estate planning). There are two predominantly common life goals: legacy gifting and lifestyle making.

Legacy gifting: The phrase we hear here is “I want to keep all of the principal to pass on to my kids when I am gone.” If this is the end goal, then our planning will be focussed on maximizing the estate and preserving capital.
Lifestyle making: From this type of client we hear “it is all about providing a comfortable retirement. If there is money left when I’m gone, they are welcome to it.”

There are obviously many variants in between. Identifying the priorities for your wealth will dictate planning strategies such as paying down debts in retirement vs. keeping debt payments low to increase cash flow.

3. LIF and RRIF

Not all retirement plans are alike. It is important to know the difference and optimize a plan’s characteristics.

For example, if you receive a Life Income Fund (LIF) account as a result of being part of an employer sponsored pension plan, the funds have a minimum withdrawal amount and, more importantly for planning, a maximum withdrawal amount. For example, you could have $250,000 in your LIF account and have a $25,000 bill to pay but are unable to take out anything from the LIF account if you’ve already taken out the maximum amount for the year.

Registered Retirement Income Funds (RRIF) will have a minimum withdrawal amount but no maximum withdrawal limit.

Planning idea – take the maximum LIF right from day one in retirement. Use your RRIF as your flex account because it has a minimum but no maximum limit.

4. Play the TFSA game

Tax Free Savings Accounts (TFSA) are one of the best government programs for retirees. TFSA grow tax free and are not taxable when you pull the money out.

Planning idea: Use your TFSA as your financial pressure valve. Draw down non-registered or registered investments to a certain level of taxable income. If you have surprise expenses in a calendar year, consider using the TFSA to create the cash flow needed without increase your taxable income. You can replenish your TFSA in the next calendar year.

Final Words

I hope you have found this 3-part series on wealth decumulation helpful. We have just scratched the surface on this topic. Give us a call if you want to chat about your unique decumulation plan.

In this rapidly changing world, never before has managing your wealth in retirement been so important.

Connect Wealth is an independent financial planning firm that offers holistic advice to clients based on their current goals and future aspirations. We use well-established workflows and cutting edge technology to maximize planning efficiencies while simplifying the process for clients. Learn how you can maximize your financial opportunities at www.connectwealth.ca

Saving For Retirement

What Are Your Options?
What is the best investment plan to use to save for retirement? It used to be fairly simple; the answer was maximizing your RRSP. Do you know what is the best strategy for your situation? Do you know what your options are?

Here is a basic overview:
1. Save – The first rule of thumb to be concerned about is that you are saving money for your future. Too many Canadians are spending all of what they earn and not putting away any money for their future. A good place to start is to aim at putting away 10% of what you make.

2. Tax Efficient – Ever since the launch of the TFSA, there has been a debate by financial professionals over which investment plan is more tax efficient to use, the RRSP or TFSA? My opinion is that it depends on your situation both now and in the future and should be looked at on a case-by-case basis to see what fits best. I would be cautious if a financial advisor is always only promoting one plan type over the other, both have their benefits. (For more info on TFSAs, see my article from Sept 2013 – http://jaybrecknell.ca/demystifying-tfsa/)

3. Business Owner – If you are a business owner the question can get even more complex as you have more options. Should you use your RRSP, TFSA or instead save your retirement funds in a holding company? Since corporate tax rates are at an all time low in Canada more business owners are saving corporately versus in a RRSP or TFSA. There can be many benefits to saving corporately as it can provide flexibility to the business owner. As this can be complex it needs to be put together by a professional that understands your corporate structure and the tax and legal rules that are involved.

As with any financial strategy we would recommend ensuring that you have your personal situation reviewed by a professional to make sure that is done in the best way possible. If you have any questions or would like your plan reviewed feel free to contact us.

Questions?

December 1, 2014/by Vince Olfert

Business Planning

Business Owners Fail To Plan

Prepare Your Business For Sale
Only 9% of business owners have a documented transition plan in place and yet 70% of small business owners plan to transition in the next 10 years*! As a financial planner I continue to meet business owners who are planning to sell or transition their company but they do not have a plan. Typically they are either unsure of the process, so they procrastinate or the business is their baby and they do not want to let it go. It is understandable that a major decision like this is hard to make, especially without someone to assist you.

When a business owner is considering selling here are some things to consider:

1. Don’t Leave the Party Last – You see this with professional athletes when they face the question of when to retire? In my opinion you are either growing your business or it is shrinking it, there is no standing still. A lot of business owners later in their career can get into maintenance mode, which usually means the business is starting to decrease in revenues. At first the revenues may hold but after a couple of years you typically see them start to decline. If you want to maximize your selling price and be attractive to potential buyers be careful to wait too long.

2. It Takes Time – Selling a business can take you longer than you think. You need to find the right candidate to take over your business. You are looking for an individual that is an entrepreneur; remember there are more employees in the world than business owners. Also, in most transitions the current owner is asked to stay with the company to assist with the passing of the reigns. You should plan for 1-2 years to sell. This means you should be creating a plan 5-7 years prior to your planned exit.

3. Change – Every industry is faced with changes due to technology, regulatory, competition, etc. If you owned a video or record store in the 80 or 90’s, when was the best time to get out? What if the technology that Google is working on to make it so that cars drive themselves eliminate car accidents in the future. Could that affect you if you own an auto body business? What changes face your business?

4. Financials – Often times the financial statements for a business are ignored until it is too late. Yet they will play a very important role in the sale of the business. You want to make sure that your financials present the best view of your company so that a potential buyer is enticed to make an offer.

There are many things to consider when selling a business. The first is to get a professional that can assist you with putting a plan together to ensure that you maximize the value, save tax, and control when and how you sell your business. As with any financial strategy we would recommend ensuring that you have your personal situation reviewed by a professional to make sure that is done in the best way possible. If you have any questions or would like your plan reviewed feel free to contact us.

Questions?

*Source – http://www.advocis.ca/Update2014/index.html

December 1, 2014/by Vince Olfert

Insurance, Personal Planning

Protecting Your Biggest Asset

The Most Overlooked Risk
What is your biggest asset? Most people might answer your house, boat, car, or investments. When in fact it is your income and your ability to earn a living.

When I review a person’s financial situation, one of the most common areas that is overlooked is to protect their ability to earn a living. Disability insurance is a critical part of a person’s risk management plan. When you think about all of the things that people have insurance for, cars, houses, electronics, death, etc. Unfortunately if you do not have an income all of these other areas fall apart.

When it comes to managing risk, a financial planner looks at two main factors:
1. Risk – what is the chance of this happening?
2. Impact – If it does happen, what is the potential damage?

As an example, the risk of a house fire is low but the damage it can cause financially is extreme. Hence why people buy home insurance.

The Risk Is High:
Did you know that 1 in 3 people, on average, will be disabled for 90 days or more at least once before they reach age 65?*

The Impact Can Be Severe:
How long could you survive for without your income? Most families could last maybe 4 to 6 months before they would have to start selling other assets such as investments or their home. How would you survive till age 65 and then into retirement?

The main way to manage this risk is to have long term disability insurance to protect yourself in case of an illness or injury.

Possible Options:
1. Canada Pension Plan – This will only pay for the most severe disabilities and the amount is small.
2. Worker Compensation – This only covers you if it is a work related injury.
3. Group Plan – This is how most Canadians are covered. IMPORTANT! You should have your coverage reviewed to make sure you are properly protected.
4. Individual Plan – You can purchase this through the major insurance carriers.

Key Facts:
• If you are an executive or earn over $80,000 per year and you have group coverage you should have it reviewed, as you may not be fully protected.
• If you have group coverage your plan definition typically will change after 2 years of being disabled. This can allow the insurance company to decline your coverage if your disability is not severe enough. This is done to keep your rates lower for your group plan. You can get individual insurance to protect against this.
• The definition of a disability policy is critical.
• Most disability insurance is designed to cover you till age 65; some may have only a 5-year benefit period.

Questions?

*Source – “A guide to disability insurance”. Canadian Life & Health Insurance Association

December 1, 2014/by Vince Olfert