We don’t want to leave a big inheritance. How to handle cash…

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In an increasingly complex world, the Financial Post should be the first place you look for answers. Our FP Answers initiative puts readers in the driver’s seat: you submit questions and our reporters find answers not just for you, but for all our readers. Today, we answer a question from Paul about cash flow.

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Q. I have a question regarding collecting my Canada Pension Plan (CPP) at age 60, which I will be in a year. I don’t have any taxable income and, due to injuries I received in a traffic accident last year, don’t plan on ever working again. According to my CPP benefit information slip, I am eligible to collect $550 per month if I were to start CPP at age 60, $850 per month if I start at age 65, and $1,140 if I start at age 70. I have $380,000 in my registered retirement savings plan (RRSP) and my wife has $150,000. I am planning to cash in four per cent of my RRSP every year when my wife stops working. Right now, my wife is still working and her annual income is about $130,000. She is 55 years old and planning to work another five years until age 60 when she will be eligible for a monthly lifetime defined benefit pension plan (DBPP) amount of $4,600 a month. We’d like an average after-tax annual income of $80,000 to $90,000, which will allow us to renovate our 50-year-old home, travel several times a year and make some cash gifts to our two children, who are both struggling financially as they build their families. We don’t want to leave a big inheritance but would like to spend it now on our kids and grandkids. We plan on living in our home until the very end. The house is mortgage-free so they can sell that and split the proceeds between the two of them. What is the best advice for us? — Paul

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FP Answers: The best advice I can give you, Paul, is to do a cash flow plan, which is a detailed projection of your expected expenses and inflows measured against your total investments. It will help you think through things in more detail and increase your retirement confidence. You have expressed some good thoughts, but I wonder if there are some missing pieces we should explore.

A four per cent safe withdrawal rate is a prudent rule of thumb. However, when I model your situation with a three per cent after-inflation return, a four per cent withdrawal rate is not enough to meet your annual income requirements. Plus, mandatory registered retirement income fund (RRIF) withdrawals are going to push you above a four per cent withdrawal rate.

How much will the renovations on your 50-year-old home cost? Are you doing the kitchen, bathroom, floors, and maybe the main floor? That could be a $100,000-plus renovation. How are you going to pay for that? You might have to withdraw close to $180,000 from your RRSP just to have $100,000 after tax to pay for the kitchen. If you do that, you are out of money by age 72. It may be better to finance the renovation. Is there an inheritance coming that you could use to pay off the loan?

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I’m curious to know how you arrived at an after-tax retirement income need of $80,000 to $90,000? I’m guessing that with your wife earning $130,000 and paying tax, contributing to CPP, employment insurance (EI) and her pension, you are left with about $90,000 for spending and you are extending that into retirement.

But you are saying $80,000 would also work. What is that $10,000 difference paying for? Are you saying you are okay giving up travel in retirement or some other activity you enjoy? This is one of the problems with building a plan around income rather than spending. It is easy to reduce income in a plan. It is much harder to cut out spending on something you enjoy doing, and, frankly, why would you want to?

The other problem with planning around income rather than spending is shortchanging yourself in early retirement when you are fit and able. It is very likely your travel and vehicle expenses, along with other things, will go down later in life. What if you front-loaded your retirement and spent more in the early years? Would your wife’s pension and your government pensions be enough to support you if you spent all your money by age 85? That’s something to think about.

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Where is the money going to come from to purchase future vehicles? Are you saving some of the $90,000 each year for future vehicle purchases or will you finance or draw extra from your RRIF? Again, large RRIF withdrawals are heavily taxed, and getting financing means less money for spending on your favourite activities.

A cash flow plan brings out all this information so there are no surprises. You have time to find real solutions within your control so you are not relying solely on different tax, investment and withdrawal strategies.

Once you have your spending strategy in place, which comes through cash flow modelling, that is the time to start thinking about when to start CPP and Old Age Security withdrawal strategies, and how best to pay for things.

As a concluding comment I should ask if you have applied for CPP disability? It is worth applying for. You will likely find that the CPP disability income is higher than your CPP pension and therefore you wouldn’t start your regular CPP until age 65.

Allan Norman, M.Sc., CFP, CIM, provides fee-only certified financial planning services and insurance products through Atlantis Financial Inc. and provides investment advisory services through Aligned Capital Partners Inc., which is regulated by the Canadian Investment Regulatory Organization. He can be reached at alnorman@atlantisfinancial.ca.

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