WealthBar Q&A: How one Robo-advisor handles Retirement Income Planning

What follows is a sponsored Q&A session between Hub CFO Jonathan Chevreau and Tea Nicola, Co-Founder and CEO of WealthBar, a robo-adviser.

WealthBar provides financial planning with low-fee ETF portfolios and actively managed Private Investment Portfolios.

Through their financial advisers, easy-to-use online dashboard and financial tools, they are making investing more accessible for Canadians from coast to coast.

Jon Chevreau: Welcome, Tea. While many so-called robo-advisers seem to focus on young people building wealth, what about the end game? How do you handle the shift for older investors from accumulation into spending your savings in retirement? 

Tea Nicola: Once a client who is accumulating assets decides that retirement is on the horizon and they let us know, we lead them into the retirement transition process. At this stage, they probably have a pretty good idea as to what they would like to spend after taxes. Their goal is to understand now if their savings and all their sources of income will be enough to fund their retirement years.

The conventional wisdom is to collect all the sources of income that the client will have and analyze it year by year. This step is essential to make sure that the goals are met. That includes the monthly cash flow for basic expenses, the annual travel budgets and one-off purchases as well as any legacies that they may desire.

We then make sure their savings can meet all those goals. If there are shortfalls, we adjust the savings rate to meet the goals by the time they want to stop working. Then, we iterate this every six months or so, both before and after the retirement date. We do this to make sure the transition is smooth and that routines are appropriately established.

Jon: You’re talking about managing expectations?

Tea: I would call it being realistic about expectations. For instance, we need to be careful about talking about a monthly income when it comes to drawing down on retirement savings.

What we typically see is an uneven drawdown, with extra spending in the first few years of retirement. The client is in a rush to do all the things they held off on while working. So, they go on world tour, get a golf membership, enjoy some fine dining, or generally treat themselves to something special. But after a few years, their spending habits ‘normalize.’ The initial exuberance declines and their expenses follow suit. You get cases like one client in her 90s, who is literally worth millions, who now has monthly expenses of about $2,000 a month.

With that in mind, our financial plans help clients to achieve the goals they want to achieve, without necessarily boxing them into a lifestyle category that doesn’t really apply for most of their retirement. This involves very realistic, practical planning that I would say goes into a bit more depth than other robo-advisers, or even many traditional wealth management firms.

Jon: Sometimes you’ll hear a kind of magic number bandied about for how much people need to retire. $1 million. $2 million … Is there a guideline that really makes sense?

Tea: It depends on the person, which is why financial planning needs to be tailored for each individual. Just like with salaries, we know that someone making $75,000 can feel like they’ve got as much money as they could possibly need.

They’re having no problem meeting expenses and regularly saving for retirement. Then you have people making well into six-figure salaries who are financially underwater. It depends on your lifestyle and what you want to have in retirement.

But there is a formula that many people find helpful, when looking at the money you need to save for retirement. Take your current salary, subtract your savings and mortgage and this is considered your lifestyle income. Of course, you would need to recalculate as you get older: maybe you get a raise, you pay off your mortgage, or other factors change. The trick is to save enough so you don’t need to change your standard of living.

We actually have a tool on our website that lets people calculate this figure, if you’re interested, which projects out to age 100.

Jon: Tell us about tax optimization and how important that is for people preparing for retirement.

Tea: It starts with looking at a financial plan in three phases: accumulation, decumulation (or income phase) and finally, estate.

Accounts that Canadians can save their money in will behave very differently, tax-wise, throughout these different stages. What we’re trying to achieve with tax optimization is not to adversely affect the second and third phases while we’re still accumulating wealth.

One obvious example is to cover your standard of living using an RRSP. Plan to spend it by the time you reach age 100. If you die with a large outstanding balance still saved from your RRSP, one of your biggest beneficiaries will be the CRA.

It can get complicated and cumbersome if you’re handling this on your own, though. Between OAS, CPP, an employer pension and other sources, there could be up to seven sources of income. We can help them synchronize these funds so that they stay in the same tax bracket, ensure they’re doing income splitting with their spouse, pension sharing after 65 and more. That’s why a good 1-on-1 relationship with your financial advisor can be invaluable.

Jon: A disturbing scenario for any person close to retirement who has been saving diligently for decades is a 1929- or 2008-style crash. Now they think they’re going to have to put off retirement for a few more years. What can they do to protect themselves?

Tea: It’s hard to time the market or predict what is going to happen. By 2014, the markets had dug themselves out of the hole they made in 2008. Further back with the 1929 crash, as bad as it was, the markets did recover over time. So if you’ve got a few more years until retirement, the important thing is not to panic.

But we do actually have some strategies we implement for mitigating the risk of this kind of event. Ensuring broad diversification and cash flow lowers the downside for our clients when markets see that kind of a drop. This is pension-style investing, intended to minimize the risk while creating a fairly steady return, notwithstanding occasional extreme rises and falls that are just part of a normal investing cycle.

With our Private Investment Portfolios, we can also invest in asset classes that are not actually available on the public markets: assets like private equity and hard-asset real estate. And cash flow acts as a kind of cushion against a downturn; for one thing, allowing you to buy shares when prices are lower, reaping a reward when markets do come back.

This strategy works for any time horizon, not just for pre-retirees. It’s a balanced approach, reducing volatility and resulting in steady performance.

Jon: Now let’s look at the polar opposite of trying to avoid a loss: maximizing return, so people can look forward to a retirement that matches or even exceeds their current lifestyle spending. How do you help on this front?

Tea: If you’ve still got the luxury of a longer time horizon, lowering your fees is absolutely critical. They can use a broad diversification with index funds and low-cost ETFS. To pursue growth more aggressively, you would want to have equities in your asset mix, covering indices like the S&P 500, the global equities markets, developing markets, etc. Because our fees are significantly lower than what an average mutual fund investor might see at their bank, they will be able to see some significant advantage over time.

Jon: Could you lay out the real situation for people who think that the government is going to take care of their retirement, with the Canadian Pension Plan or Old Age Security?

Tea: I would start off by saying your CPP will definitely still be around — but that’s only about $1,100 a month. As for OAS, which is presently about $600 a month, I tell everyone younger than 45 that they probably shouldn’t bank on it being around. As part of the general tax fund, it will be strained by the aging population and it is going to be a big liability in coming decades. At some point, the government might reduce the amount, or they might even get rid of it. But even if both benefits are still in place for your retirement, is that enough to maintain your lifestyle? Maybe  …  but for most Canadians, I’m guessing not.

The good news is that you’ve got options. There’s the TFSA, which is a great place to start. RRSPs are of course part of the retirement plan. For most Canadians, even with fairly moderate ideas of spending after their income phase, the income you earn from your government pension will need some topping up.

Jon: Thanks, Tea. It’s been a really far-ranging discussion. I appreciate it.

Tea: You’re welcome, Jon! Anytime.