Decumulate & Downsize

Most of your investing life you and your adviser (if you have one) are focused on wealth accumulation. But, we tend to forget, eventually the whole idea of this long process of delayed gratification is to actually spend this money! That’s decumulation as opposed to wealth accumulation. This stage may also involve downsizing from larger homes to smaller ones or condos, moving to the country or otherwise simplifying your life and jettisoning possessions that may tie you down.

FP: How retired seniors can use their spouse as a tax asset

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My latest Financial Post column has just been published in the print edition of the Wednesday paper (Feb. 27, page FP8), under the headline Top tax asset in Retirement? Think Spouse. Click on the highlighted text to access the full story  via the National Post e-paper. Or for the website edition, click on this clever headline: Your biggest tax asset in Retirement may be sleeping right beside you.

The column looks at how senior couples approaching Retirement or semi-retirement face a slightly different tax situation than when both were working in full-time jobs. There’s limited scope for income splitting when you’re working but Pension Income Splitting — introduced more than ten years ago — is a real boon for senior couples that enjoy one fat employer-provided pension and the other does not.

For tax purposes, up to half of the pension can be “transferred” to the lower-income spouse’s hands, thereby reducing some of the highly-taxed income for the pension recipient, and putting more of the pension into the low-taxed hands of the spouse receiving some of the transfer. Note this doesn’t actually mean they receive the pension: it all happens on the tax returns, and is easily handled by tax software when you choose to file your taxes jointly as a couple. Note that unlike in the United States, there is no formal joint tax return for couples in Canada: each spouse must file on their own but the tax software makes it relatively smooth by creating so-called “Coupled Returns,” which helps optimize who claims deductions like charitable or political contributions and the like.

Because the column has to fit in the paper and included several sources (some of whom blog here at the Hub), I’ve taken the liberty of adding some of the points made that did not appear in the column or had to be truncated.

Income splitting options limited under age 65

Under age 65, the options for income splitting are very limited, says Aaron Hector, vice president of Calgary-based Doherty Bryant Financial Strategies.  “Generally here you are only looking at payments out of defined benefit plans (of which  up to 50% can be split) or spousal loans from non-registered investments.”

Doherty Bryant’s Aaron Hector

More from Aaron Hector:  “If each spouse has their own registered plan (RRSP/RRIF/LIRA/LIF) then the withdrawal from their own personal plan can be taxed fully to them. So if one spouse is working, they may not need or want to draw any additional income from their registered plans, but the spouse who is not working can choose to draw down their registered plan. It is important to note that regular RRSP withdrawals will never qualify for income splitting, even after 65. The withdrawals need to come from a RRIF to be eligible for income splitting. Sometimes people are hesitant to convert their RRSPs into RRIFs because they don’t yet want to commit to the subsequent forced annual taxable RRIF withdrawals. What is less commonly known is that someone can convert only a portion of their RRSP into a RRIF, leaving the remaining RRSP balance untouched until it is forced into being converted into a RRIF by the end of the year in which they turn 71. Furthermore, if someone converts to a RRIF early (ie. before 71) then they will always have the option to convert their RRIF back into a RRSP anytime before 71. Doing so would allow them to ‘turn off the taps’ that is the RRIF income stream. Once you turn 65 (but not before) withdrawals from RRIFs and LIFs become eligible for income splitting. Only the spouse who’s RRIF/LIF is being drawn upon needs to be 65; the recipient of the income splitting can be younger than 65. However, in this case the recipient spouse will not get the “pension income tax credit” until they are also 65.

It’s also important to note that when it comes to these income splitting provisions, age 65 at any point of the year is sufficient. If you turn 65 on December 31, then the same 50% splitting provisions apply to you as if your birthday was on January 1. (ie. the splittable portion does not get pro-rated in the year you turn 65 depending on your specific birth date). Because of the age 65 significance, and also as a hedge against future governments changing the tax rules (ie. taking away pension income splitting rules, which have not always been allowable) I try to have my client couples have an even amount of money in their registered plans. Spouse 1 should add up their RRSP, LIRA, Spousal RRSP, etc.. and the total should be close to the same total of spouse 2. If there is a discrepancy, then Spousal RRSP contributions should be utilized to even things out. This allows flexibility in income planning and withdrawals in the years prior to age 65. I caution on Spousal RRSP contributions the closer someone is to needing the money because of the 3 year-rule. The 3-year rule is such that if a withdrawal is made in the year of a contribution, or either of the next two calendar years, then the income from that withdrawal will be attributed (ie. taxed) back to the contributing spouse instead of the Spousal RRSP account holder.”

Taxation of Non-registered income works differently

Income from non-registered accounts works a bit differently, Aaron notes: Continue Reading…

Are current beliefs about RRSPs costing Canadians money in the long term?

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By Edward Kholodenko

Special to the Financial Independence Hub

A recent study we conducted with Leger (www.leger360.com) asking what Canadians wanted in relation to their RRSP investments unearthed some compelling findings demonstrating that many Canadians have misconceptions that could be costing them money, especially in the long term.

Our research confirmed 78 per cent would be willing to switch to a lower-fee RRSP investment, if the lower fees could ensure a superior rate of return.  When we asked if they were able to move their RRSP easily, which factors would be most important, 66 per cent once again said they would move accounts for lower fees and better returns.

In addition to lower fees and higher returns, 31 per cent of people we talked to identified the ability to easily manage their RRSPs and make contributions online as a factor to consider in a switch (highest in those between the ages of 25 – 44 years), speaking perhaps to the rising appeal of newer fintech companies who offer the ability to do everything online.

When asked for other reasons they might consider switching their RRSPs, respondents cited frustrations including feeling like they’re being upsold (28 per cent), having to book an appointment and visit their financial institution in person (27 per cent) and not knowing what their RRSP is invested in (26 per cent).

This strongly suggests Canadians are far from content with their current RRSP contribution process and provider and would be willing to switch; however, there are misconceptions that are holding people back.  Most interesting — only 50 per cent believe their RRSPs can easily be transferred between financial institutions.

Common misconceptions

Why? Common misconceptions included high transfer fees (32 per cent), incurring a tax penalty (24 per cent) and even the fear of an uncomfortable conversation with their current advisor or financial institution (16 per cent).  While only 50 per cent of Canadians told us that they believe their RRSP can be easily moved between financial institutions, the reality is that RRSPs are easy to transfer.  There are no tax penalties incurred when an account is transferred and furthermore, most institutions would cover the cost of any transfer fee that may be charged and by consolidating your RRSPs at an institution with lower fees, you may reach your retirement goals faster. Continue Reading…

For the love of Money

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By Heather Compton

Special to the Financial Independence Hub

I have invested a lot of my lifetime learning, living, teaching and writing about healthy practises around money.  When a young friend recently asked for some guidance on making peace with money, I wanted to fall back on those well learned strategies.

There are many practises that will bring some ease into your financial life. Living within your means, paying yourself first, getting your financial house in order: but you must lean into your own wisdom to bring peace.  It’s an evolutionary, lifelong journey for all of us and I am moved by the struggles we all have with money and the false powers we grant it.

What we buy, what we invest in, what we purchase for others and what we choose to finance or contribute to can bring us peace or its polar opposite.  What if we had a change of heart or a shift in worldview? A change of heart brings about a change of circumstance:  that’s transformation. Changing our worldview means changing what you believe is true – do big houses, fancy cars, expensive wardrobes and larger paycheques really spell success, acceptance, power or freedom?  Ask your authentic self that question.

The Heart test

We are all vulnerable to ambitions that disregard the balance and wisdom of our intuitive hearts. What if every spending decision had to pass through your heart before you pulled out your wallet?  Would you spend differently?

When we use our resources in ways that truly meet our authentic and universal needs for connection, integrity, joy, inspiration, physical well-being, meaning and choice, we find a path to peace.  That’s when money is in service to us and not the other way around. Money is an admirable servant but a terrible boss.

Lining up money’s flow with our authentic self and using it as a direct expression of our values and our vision is simple but it’s not easy.  It requires daily discipline to follow the practises that are the gateway to peace. Continue Reading…

Three times you might want to change your asset allocation

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By Steve Lowrie

Special to the Financial Independence Hub

2018 was a tough year for many investments: including equities, which delivered negative returns.”  As we covered here, periodic negative returns are nothing new. But it’s been a while since they’ve lined up with a calendar year: not since 2011 here in Canada.

I suppose it’s human nature to want to try to avoid the dive by heading for higher ground. So, when markets trend down, this FAQ heats up: Is it time to change my asset allocation?

In past posts, like this one here at the Hub, I’ve generally advised sticking with your investment plans, including your asset allocation, rather than reacting to market volatility. But that doesn’t mean you can’t ever change your asset allocation. Today, let’s cover three times you may want to.

1.) If you’ve built your portfolio on shaky ground

If your current “allocation” is actually just a random assortment of investments, there’s never a bad time to establish an underlying plan to guide the way, and to alter your allocations accordingly. Especially if your current portfolio is high-priced and premised on active management (trying to dodge in and out of winning/losing markets or securities), the sooner you can transition into a solidly built portfolio, the better. In this piece, I covered how to determine and document your asset allocation with an Investment Policy Statement.

2.) If your financial circumstances have changed

What if you receive a financial windfall such as an inheritance, or you encounter a hardship such as losing your job? If your financial “landscape” changes, it makes sense to revisit your asset allocation and adjust it if needed, to reflect any changes in your personal financial goals, and any increased or decreased capacity to take on investment risks.

3.) If your life has changed

Even if your financial circumstances haven’t changed, your life may. Marriage, divorce or widowhood; the birth of a child; a career change or retirement. These are the sorts of events that might call for a fresh look at whether your current asset allocations continue to reflect your evolving needs.

You may have noticed a theme here: If particulars in your own life change, it can make good sense to alter your asset allocation to reflect your revised circumstances.

The flip side of this coin holds true too: Avoid changing your asset allocation just because the markets are heading up, down or sideways.

So, if your annual performance reports had you seeing red at year-end, please ask yourself: Has anything in your own life changed, or are you reacting to market mood swings? If you’ve built a plan and it still reflects your goals, your best bet is to stick with it. That still doesn’t guarantee success, but it still gives you your greatest odds.

Steve Lowrie holds the CFA designation and has 25 years of experience dealing with individual investors. Before creating Lowrie Financial in 2009, he worked at various Bay Street brokerage firms both as an advisor and in management. “I help investors ignore the Wall and Bay Street hype and hysteria, and focus on what’s best for themselves.” This blog originally appeared on his site on Dec. 1, 2018 and is republished here with permission. 

How to build the best long-term stock portfolio for retiring in Canada

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Diversification, RRSPs, and compounding interest are important topics for investors building portfolios for retiring in Canada

Long-term stock investment strategies aren’t built to make a fast dollar. They are built to prosper over time, and most important, teach you how to pick the right stocks. Retiring in Canada can be easier if you follow our tips for building a long-term stock portfolio.

Retiring in Canada: Diversify your holdings to create a long-term retirement portfolio

One of our key rules for successful investing is to maintain a diversified stock portfolio. This means spreading your money out across most, if not all, of the five main economic sectors: Manufacturing & Industry; Resources & Commodities; Consumer; Finance; and Utilities.

Here are some additional suggestions to prepare investors for retiring in Canada:

  • When it comes to a diversified stock portfolio, stocks in the Resources and Manufacturing & Industry sectors expose you to above-average share price volatility.
  • Stocks in the Utilities and Canadian Finance sectors entail below-average volatility.
  • Consumer stocks fall in the middle, between volatile Resources and Manufacturing companies, and the more stable Canadian Finance and Utilities companies.

Most investors should have investments in most, if not all, of these five sectors. The proper proportions for you depend on your temperament and circumstances.

Conservative or income-seeking investors may want to emphasize utilities and Canadian banks for their high and generally secure dividends.

Long-term value investing is a key part of building a balanced and diversified portfolio

The core of the long-term value investing approach is identifying well-financed companies that are established in their businesses and have a history of earnings and dividends. They are likely to survive any economic setback that comes along, and thrive anew when prosperity returns, as it inevitably does.

When you look for stocks that are undervalued, it’s best to focus on shares of quality companies that have a consistent history of sales and earnings, as well as a strong hold on a growing clientele.

Here are three of the financial ratios we use to spot them:

  • Price-earnings ratios
  • Price-to-sales ratios
  • Price-cash flow ratios

A long-term investment strategy for retiring in Canada maximizes compound interest

Compound interest — earning interest on interest — can have an enormous ballooning effect on the value of an investment over the long-term. It can be considered the mother of all long-term investment strategies. This tip is especially important for young investors to learn. The benefits of this stock trading tip apply to both dividend-paying stocks and fixed-return, interest-paying investments such as bonds. When you earn a return on past returns, the value of your investment can multiply. Instead of rising at a steady rate, the number of dollars in your portfolio will grow at an accelerating rate.

To profit from this tip, you need to pay attention to steady drains on your capital, even seemingly small ones: like high brokerage commissions. If you’re losing (or missing out on a profit of) even 1% a year, it can have an enormous draining effect on your investments over a decade or two.

Registered Retirement Savings Plans as an option for retiring in Canada

Registered Retirement Savings Plans, or RRSPs, are a form of tax-deferred savings plan. RRSP account contributions are tax deductible, and the investments grow tax-free. When you begin withdrawing funds from your RRSP, they are taxed as ordinary income. RRSPs are the best-known and most widely used tax shelters in Canada.

Bonus tip: If you’re retiring in Canada soon, you should switch your RRSP to a registered retirement income fund (RRIF)

Why should you switch your RRSP to a registered retirement income fund (RRIF) if you’re retiring soon in Canada: as opposed to other options?

If you have one or more RRSPs, you’ll have to wind them up at the end of the year in which you turn 71. We think converting your RRSP to a RRIF (registered retirement income fund) is the best option for most investors. You have three main retirement investing options:

  • You can cash in your RRSP and withdraw the funds in a lump sum. In most cases, this is a poor retirement investing option, since you’ll be taxed on the entire amount in that year as ordinary income.
  • You can purchase an annuity.
  • Proceed with the RRSP to RRIF conversion.

Converting your RRSP to RRIF is the best retirement investing option for most investors. That’s because RRIFs offer more flexibility and tax savings than annuities or a lump-sum withdrawal.

Like an RRSP, a RRIF can hold a range of investments. One convenient thing to note about the RRSP-to-RRIF conversion process is you don’t need to sell your RRSP holdings when you convert: you simply transfer them to your RRIF.

Retiring in Canada can be easier if long-term strategies are used. Have you employed any short-term investment strategies to prepare for retirement, and if so, how have they performed for you?

If you’ve already retired, what investment tips would you offer to those just planning their retirement finances?

 

Pat McKeough has been one of Canada’s most respected investment advisors for over three decades. He is the founder and senior editor of TSI Network and the founder of Successful Investor Wealth Management. He is also the author of several acclaimed investment books. This article was originally published in 2017 and is regularly updated, most recently on July 10, 2018. It is republished on the Hub with permission.