Making the pension decision is not so cut-and-dried
The big question most retirees ask is whether they’ll outlive their money. As you age, healthcare costs rise, and the question of long-term care can become a problem. Will you be able to afford to stay in your home? Will the income from your savings and pensions cover your expenses? But a question financial planners hear even more frequently is “When do I trigger my pensions and other income streams?” Years ago, the answer was simple: “At age 65.” These days, it’s not so cut-and-dried.
The big question most retirees ask is whether they’ll outlive their money. As you age, healthcare costs rise, and the question of long-term care can become a problem. Will you be able to afford to stay in your home? Will the income from your savings and pensions cover your expenses? Someone in your position needn’t worry too much.
Take, for example, a recent query I had from Kevin P., who turns 65 this year. He plans to retire from his full-time employment and do some part-time consulting work. His wife also plans to retire, although she’s 61. They own their home free and clear, and have accumulated about $500,000 each of their RRSPs. He and his wife both have employer pension plans that will pay out about $30,000 annually each. And he also has about $50,000 in a Tax-Free Savings Account. Kevin expects to get near the maximum Canada Pension Plan benefit, although at his income level, he’s not sure about Old Age Security.
Kevin and his wife are quite clearly well off. And they should be able to layer their assets to produce both enough income and enough growth to see them through their old age. Their challenge is finding the most tax-effective way to generate their income stream in retirement. The rule of thumb is that in most cases, you should withdraw from your non-registered funds first and then deplete your RRSPs and TFSA. They plan to continue working part-time to bring in some income. They also have an employer pension plan. These amounts may be enough to support their retirement lifestyle for some years yet. But there’s more here than meets the eye.
Some retirees consider deferring Canada Pension Plan benefits until age 70, thus increasing the ultimate monthly CPP payment received. Likewise, some may wait to convert their RRSP into a Registered Retirement Income Fund (RRIF) or an annuity until the year they turn 69, when conversion is mandatory and minimum withdrawals are based on a formula set by the government.
In Kevin’s case, though, that could put him into an even higher tax bracket down the road. If he were start withdrawing monies from his RRIF at 71 and his RRSPs were worth $500,000 each, earning 5% return indexed at 2.5%, Kevin and his wife would each need to withdraw about $36,900 annually. If each have annual pension income of, say, $30,000 and CPP of $13,000, they would have a gross family income of about $160,000, not an inconsiderable sum. And they’d pay some fairly serious tax on that, to say nothing of having their OAS clawed back to near zero.
So in Kevin’s case, he may want to consider taking CPP benefits and converting your RRSPs to RRIFs now, so that he’ll pay less tax and perhaps salvage at least something of his OAS. Meanwhile he should continue contributing the maximum to his TFSA each year – and open one for his wife as well – to provide fully tax-free growth and income down the road.
The decision on when to withdraw income and from which retirement accounts is an important one, and as you can see, it’s not as cut-and-dried as it may appear. There is no single correct “formula” or right answer. In a more complex situation where higher income streams are involved, consult a qualified financial planner to help you set priorities and create a properly layered, tax-efficient income stream.
© 2017 by Robyn K. Thompson. All rights reserved. Reproduction without permission is prohibited. This article is for information only and is not intended as personal investment or financial advice. Securities mentioned are not guaranteed and carry risk of loss.