Financial Planning Prior to and During Retirement _1_ - LAP BC

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Financial Planning Prior to and During Retirement _1_ - LAP BC Powered By Docstoc
					Prior to and during retirement
FINANCIAL PLANNING
               Topics Covered

1.   How much
2.   Sources to fund retirement
3.   Investing
4.   Insurance
5.   Going non resident
6.   Other things you may find of interest
             How much

That depends!!

• Rule of thumb says annual income should
  be about 70% of pre retirement income

• Individual planning should be
  undertaken, taking into consideration
  expenses, cash flow and lifestyle choices
              How Much

• Start with current household budget

• Ask what current expenses will no
  longer apply once retired

• What expenses might arise as a result
  of retirement
              How Much

• Net worth statement will assist in the
  exercise

• Review desired lifestyle versus what
  you can reasonably support
      Do It Yourself - Websites

• https://srv260.hrdc-drhc.gc.ca/English-
  App/INT_01.asp
• http://www.morningstar.ca/globalhome/rrspplanne
  r/index.asp
• http://www.fiscalagents.com/toolbox/index.shtml#
  tb2

Once you have some facts, figures and
 estimates, consider seeing a specialist
  Keep an open mind to options

  – Working longer before retirement
  – Reduce retirement needs/expectations (eg.
    Rent a boat for a week instead of buying)
  – Save more before retirement
  – Attempt to earn more on investments
  – Pay off more if not all debt before retiring
  – If MSP, dental and/or extended health is
    currently covered by an employer,
    alternatives?
Do not procrastinate adjusting your
 retirement plan or putting the plan into
 action
 Sources to fund retirement
• Government – Old Age Security/Canada
  Pension

• RRSP/RRIF/Annuities

• Registered pension plans

• Part time work/contracting

• Non registered investments and other
  assets
     Old Age Security (OAS)
• For eligible Canadian residents and certain former
  residents of Canada commencing at age 65

• Current maximum monthly payment $491.93, indexed
  every calendar quarter based on CPI

• Qualify for full pension if resident in Canada for 40 or more
  years after age 18

• If do not meet the 40 year test, may be eligible for pro-
  rated payment

• Human resources suggest you apply six months before
  your 65th birthday

• Can receive retroactive payments for up to 12 months if
  you apply after age 65
     Old Age Security (OAS)
• As long as have lived in Canada at least 20 years after
  age 18, then payments will be made even if you leave
  Canada. If you fail 20 year test, payments can be
  suspended after 6 months absence from Canada,
  restarting upon return to Canada

• Guaranteed income supplement over and above OAS
  payments if income low enough (current threshold $14,256
  before any OAS)

• Watch out for claw back – kicks in at net income above
  $62,144 (threshold rate for 2006, indexed annually) and is
  calculated as net income less threshold x 15% to a
  maximum of OAS paid for the year.
Canada Pension Plan (CPP)
• Contributions generally required from business
  and employment income to this federal plan

• Each calendar year, currently first $3,500 of
  earnings exempt from contribution

• Current total annual contribution rate 9.9% of
  annual pensionable earnings

• Contribution requirement is either split between
  employee and employer or paid in full if self
  employed
Canada Pension Plan (CPP)

• Current maximum pensionable earnings $42,100
• Therefore total current annual contribution
  ($42,100 - $3,500) x 9.9% = $3,821.40
• To collect, must have contributed, reached at
  least 60, substantially ceased working if under 65
  (must not work month before and during month
  benefits commence – can go back to work
  after)
• For each month you commence collecting
  before age 65, benefits reduced by ½ of one
  percent
• Therefore if commence collecting at age 60,
  monthly receipt will be 30% less than what would
  be paid if waited until 65
             CPP (cont)
• For each month after age 65 that you
  wait to retire and collect, monthly receipt
  is increased by ½ of one per cent to a
  maximum of 30% (age 70)
• Once you commence to collect you do
  not make any further contributions to the
  plan
• Current maximum monthly benefit
  $1,031.05 ($12,372.60)
• Can share benefits with spouse such that
  each will end up receiving even monthly
  amounts
             CPP (cont)

• Sharing can be applied for any time after
  both spouse reach age 60 and at least
  one in receipt of benefits
• Credit splitting will normally apply upon
  separation or divorce based on time
  together
• Survivor benefits continue for spouse and
  orphaned children
• Death benefit to a maximum of $2,500
  paid to the estate upon application
    Registered Retirement
     Savings Plan (RRSP)
• Generally three types – Life insurance
  company plans, other financial institution
  plans and self directed
• Life insurance plans normally offer
  deferred life annuities
• Other financial institution plans normally
  invest in savings deposits, term deposits
  and GIC’s. Some add certain mutual
  funds and pooled fund trusts
      Registered Retirement
       Savings Plan (RRSP)
• Self directed or self administered – you can
  select the qualifying investments to be
  made
• Contributions based on “earned income”,
  the most common inclusions being
  employed and self employed income
• Limit for deductible contribution in a year is
  determined according to the following slide
           RRSP’s (cont)

• Maximum deduction for 2006 is $18,000,
  increasing to $19,000 for 2007

• Contributions can be made during the
  year or within 60 days of year end

• 1% excess contribution penalty can apply

• Can contribute certain property such as
  stock or bonds
             RRSP’s (cont)
• Spousal plans can be established to make the
  spouse the annuitant of the plan, but the total
  contribution limit above applies
• Qualified investments in a plan can include
  GIC’s, bank deposits, most bonds and debt
  obligations, shares and units traded on
  prescribed stock exchanges, gold and silver
• Most common non qualified investments are real
  property, commodity futures, listed personal
  property, precious gems and shares of most
  private companies
• Can invest in your own mortgage but this is not
  necessarily a good thing to do
             RRSP’s (cont)
• By December 31 of the year you reach age 69,
  you must either collapse plan, transfer to a
  Registered Retirement Income Fund (RRIF), an
  annuity or any combination of the three
• Complete withdrawal will likely attract large
  income tax liability
• RRIF essentially carries on like the RRSP except
  there is a required minimum annual withdrawal,
  but no maximum
• Annuity usually guarantees some fixed stream of
  income, usually for some guaranteed period or
  the rest of your life
• Annuities can be indexed, have surviving spouse
  entitlements amongst other options
Registered Pension Plan (RPP)
• Can be an extremely lucrative benefit of
  employment
• Pension administrator can provide options and
  amounts based on anticipated retirement date
• Plans include defined contribution, defined benefit
  and individual pension (IPP) plans
• IPP may make a better choice than an RRSP for an
  incorporated professional who is at least 45 and has
  regular personal income in excess of $75,000
• If at least one spouse has a RPP, keep in mind the
  desire to build up assets evenly
              Part time work
As John Kenneth Galbraith suggested when asked
  about making returns from investments, it is
  tough to beat a steady pay cheque
• Assuming you genuinely want (or need) to work past
  “normal” retirement age, consider some or all of the
  following:
   – Impact on CPP
   – Impact on pensions
   – What you will net based on marginal tax rate after all
     other income
   – Capital outlays if you are starting your own
     business/working as a subcontractor
   – Your health
   – Are you really going to enjoy working versus time for
     leisure
   – Start planning 1 to 5 years before taking on the new
     role
Investments, non registered
      and otherwise

• Investments built up before and during
  retirement can provide income and as
  needed return of your capital (normally
  upon sale)

• Keys to keep in mind over and over again
  – Diversification and Allocation
 Investments, non registered
       and otherwise
• Assets accumulated can include:
  –   Your interest in your practice
  –   Stocks
  –   Bonds
  –   Commodities
  –   Real estate
  –   Precious metals
  –   Collectibles
Unless you are Warren Buffet, you should
  normally plan on diversifying your assets
  amongst most if not all of the above
  Investments, non registered
        and otherwise
• The purpose of diversification and allocation
  is to reduce risk

• Risk from currency, inflation, interest rates,
  politics, market amongst others

• Be brutally honest with yourself and your
  tolerance for risk
Example of risk




                  Investments (cont)
   Date           Trading Days   P/E at high   T-bond yield   Decline

   09/03/1929     719            20.6          3.8%           -40.0%


   03/10/1937     654            11.3          2.5%           -14.9%


   05/29/1946     1020           16.2          2.1%           -23.2%


   01/05/1953     617            9.4           2.8%           -13.0%


   07/12/1957     960            13.0          3.7%           -19.4%


   02/09/1966     912            17.6          4.6%           -25.2%


   08/25/1987     780            19.7          8.9%           -36.1%


   07/16/1990     657            13.6          8.6%           -21.2%


   08/06/1997     1723           23.7          6.4%           -10.6%


   10/13/2006     906            18.3          4.8%




    The last line in the above table has been left blank as the
                         story is still unfolding
         Investments (cont)
• Looking at the last period, we note the Dow has
  now gone over 900 days without even a 10%
  correction
• Current advance is among 5 longest advances
  without correction ever recorded
• Above table summarizes advances of 600 days
  or more before at least a 10% correction
• Declines listed are not necessarily bear markets
  but extent of drop before the next 10% increase
• Lower price earnings (pe) ratios and interest
  rates than current are more the norm
• Some pundits suggest even if current market
  advances further 10% or higher, likelihood of
  retention is extremely remote
        Investments (cont.)
• If diversifying into real estate, this is over
  and above your principal residence

• Consider carrying costs such as annual
  property taxes and any upkeep

• If going to earn rental income, do you
  really want to be a landlord with the
  inevitable calls at 2 am concerning the
  blown hot water tank or do you hire a
  property manager
        Investments (cont.)
• Real estate as we have seen recently can
  appreciate quite nicely, but it is nowhere as
  liquid as stocks or bonds and can be just as
  subject to corrections, if not more so

• Consider the tax consequences well ahead
  of any anticipated sale and year to year
  compliance costs if earning rental income

• For precious metals, as a hedge and for
  further diversification, consider holding up to
  5% of your assets in the actual metal and/or
  stocks/mutual funds dealing solely with this
  category
       Investments (cont.)
• Examining brokerage account, a rule of
  thumb is that cash/bond component as a
  percentage of total should equal your
  age

• Therefore an account worth $1 million
  held by a 55 year old could hold up to
  $550,000 in bonds/cash with the
  remaining $450,000 in equities
       Investments (cont.)
• The equity component would likely be
  spread across manufacturing, resources,
  consumer, financial, utility and multi
  sector stocks and trust units

• No one sector would normally be more
  than 20% of the total equities or less than
  5% and no one stock would mirror these
  percentages within a sector
       Investments (cont.)
• Mutual funds should be monitored to
  meet these parameters in conjunction
  with individual stocks
• A suggested allocation of equities in
  foreign companies is up to 20% of total
  equities
• It is highly recommended that the overall
  account be reviewed and rebalanced
  each year
• Preferred you rebalance by allocating
  new money to required sector or
  component versus selling
      Investments (cont.)

• Alternative to holding bonds versus
  bond mutual funds

• Laddered approach useful in
  holding bonds
        Investments (cont.)
This entails taking the total bond component,
  dividing over the number of years you wish to
  span (normally at least five) and invest that
  portion of the funds in bonds with the required
  maturity.
Example:
    – Have $100,000 to invest in bonds
    – Want to cover bonds maturing up to five
      years from now
    – Allocate $20,000 to a bond maturing in one
      year, $20,000 to a bond maturing in 2 years
      and so on
    – When the one year bond matures, invest
      proceeds in a bond maturing in 5 years
       Investments (cont.)

• Review bond offerings and respective
  qualities – Government, high corporate,
  junk
• Bond mutual funds give opportunity for
  larger diversification of bond holdings
  and for capital appreciation on the
  interest swings as well as foreign currency
  exposure
• Some negatives with bond funds are
  management expenses and possible loss
  of capital
       Investments (cont.)

• The closer you get to retirement, the more
  ready cash (or near cash) you should
  have on hand

• While still working, at least three months of
  cash or at the very least, a line of credit
  with a limit of 3 months cash needs should
  be maintained
      Investments (cont.)

• As approach retirement, this should
  grow to 18 months with five years or
  more covered by bonds or specific
  fixed income investments

• As instruments mature and cash is
  expended, should be replaced from
  other investments
       Investments (cont.)
• Personal preference would be to know
  that have the next five years of outlays
  covered with cash and maturing fixed
  income investments

• Options to a savings account which pays
  next to nothing could include money
  market funds from companies such as
  Altamira and Dundee which are
  accessible within 24 hours and are
  currently paying approximately 3.75% on
  your money
                     Insurance
• Purpose is essentially to protect assets

• Consider life insurance, particularly if want to
  replace coverage lost upon retirement

• Options for life insurance include term, term to
  100, whole and universal plans

• Disability coverage

• Critical illness

• Long term care
           Non residency
• Canada’s tax system based primarily on
  residency
• If you are resident, then Canada taxes
  worldwide income with various credits for
  foreign taxes
• Otherwise, Canada will normally only
  require a tax return if you have income
  from:
  – employment in Canada
  – carrying on a business in Canada
  – disposal of a taxable Canadian property
           Non residency

• All other income sourced from Canada
  normally subject to withholding tax, the
  most common domestic rate being 25%
  for which a tax treaty may provide some
  relief

• Example of treaty relief – Canada – US
  treaty, Canada can only withhold 10% on
  most interest for resident of US in receipt
  of interest from Canadian source
            Non residency
• If you decide to become non resident of
  Canada, must sever ties
• Date of severing ties, deemed to dispose of most
  properties at fair market value
• Any gains as a result of deemed disposition
  taxed on final part year resident return
• Part year resident return filed to date of
  departure to include all world wide income to
  that date plus normally any deemed disposition
  gains and/or losses
• Properties exempt from deemed disposition
  include real property in Canada, RRSP’s, RPP’s
  etc.
     Non residency (cont)
Other issues to consider before going non
 resident of Canada:
  – medical coverage – you will need to cancel
    BC MSP on departure
  – will you maintain OAS entitlement?
  – do your due diligence on new country
    concerning laws, tax rules and capital
    restrictions
  – ensure you are not caught up in the “grass is
    greener” thought
  Other – Consider Options with RRSP
If you are planning on leaving some or all funds in a
    RRSP/RRIF to beneficiaries of your estate, consider:
   – Whatever is in the plan at death will likely, for the most
     part, attract the top marginal rate of tax
   – In BC, this is currently 43.7%
   – Assume you are currently 60, will live to 75, have no
     surviving spouse on death, earn 7% per year on your
     RRSP which has a current value of $1 million
   – At death the plan would be worth approximately $2.8
     million
   – After tax, beneficiaries would receive approximately
     $1.58 million
   – As an alternative, cash out plan and pay full tax now,
     leaving approximately $563,000
   – Purchase life insurance policy with proceeds
   – Upon death, beneficiaries could receive in excess of $2
     million tax free
              Other (cont)

• If currently in a partnership, consider your
  exit strategies well in advance
• Draws are charged immediately against
  your partnership capital account
• Income is only credited against the
  partnership account at the fiscal year
  end of the partnership
• Want to avoid full income inclusion plus a
  deemed capital gain because of
  unintended results impacting your capital
  account
                 Other (cont)

• Incorporation related to a professional practice
  and/or a holding company for investments can
  be a desirable alternative to your status quo
• If a sole practitioner, it is relatively
  uncomplicated to convert to practicing through
  a company
• Consider some structures to replace an existing
  partnership, or if just about to start a partnership,
  review options for operating through corporate
  vehicles.
• Some structures which have withstood Canada
  Revenue Agency scrutiny are as follows:
Professional   Professional   Unincorporated   Professional
Corporation    Corporation      Proprietor     Corporation


                  Professional Services


                  Central Professional
                     Corporation


                Professional Services

                        Clients
                Professional
Employment
Agreement
                                   Professional Services Agreement
                                   - contribution of working capital
 Professional
                                   - guarantee of loans
 Corporation
                                   -subrogation of losses

Professional
Services
Agreement       Central Services
                 Corporation
                                         Professional
Professional        Employee             Corporation

          Partner
                               Independent Contractor


                    Partnership
                                  Second Tier
                                  Corporation


                                   Corporate
Partner   Partner       Partner
                                    Partner




                    Partnership
               Other (cont)
• If you are contemplating the use of one
  or more companies, consider the
  following:
  –   Setting up and using a family trust
  –   Introduce spouse as a shareholder
  –   Use a company for asset accumulation
  –   Income splitting in conjunction with the three
      prior items which in turn may minimize or
      outright avoid the OAS claw back besides
      reducing the overall tax cost
             Other (cont)
• A more radical departure from the generally
  accepted planning could include ceasing
  all future CPP and RRSP contributions

• For CPP, note that once you approach age
  50 and are contributing both the employee
  and employer portions, to age 65, the return
  on your contributions from age 50 to age 65
  is approximately negative 6 % per year

• This assumes you started working at age 18
  and commence collecting at age 65 until
  age 85 with an inflation rate of 2%
                 Other (cont)
• For cessation of RRSP contributions, may be
  easiest to review an example
• Assumptions:
   – You have managed to accumulate an investment
     portfolio in your company of $1 million
   – You and your spouse are shareholders holding different
     classes of shares and are both at least 65 years old
   – The company can pay dividends to one or both
     shareholders in any amounts
   – The company earns a 7% return on the portfolio
     consisting of $35,000 in dividends, $15,000 in interest
     and $20,000 in capital gains
   – The company incurs compliance and other expenses
     annually of $5,000, leaving $65,000 income per year
For the purpose of the example we will ignore the
  pending dividend rules for income tax purposes
           Other (cont)
Notes:
• Net income in company is $55,000 after
  deducting the non taxable portion of the
  capital gain
• Taxable dividends received by the
  company are from other Canadian
  companies such that only Part IV tax
  applies
• Your company pays $50,000 in dividends,
  being $25,000 to each of you and your
  spouse
• Net result in the company is total tax
  owing of $4,557
            Other (cont)
• The tax planner shows results for one
  individual, but should be duplicated to
  reflect both spouses – assumed you have
  split CPP so both receiving exactly same
  amount

• RRSP income based on minimum
  withdrawal which would need
  approximately $475,000 accumulated
  each. RPP could just as easily be inserted
  in place of the RRSP income and
  withdrawal could be larger on less
  accumulated balance
              Other (cont)
Summary
• Cash left in the family would be $48,043 each
  plus a total of $10,000 paid from the company as
  a tax free capital dividend (for the tax free
  portion of the capital gain)
• This gives a grand total for the year of $106,086
• Total tax paid would be $4,557 in the company
  and $7,756 each personally for a grand total of
  $20,069
• Based on a gross of $126,155, taxes are
  approximately 16%
• Income levels for both spouses completely
  avoids claw back of OAS receipts
Thank you for your attention



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