Are you ready for retirement? Do you know the 10 most common errors of retirement planning among Canadians? Vital Knowledge for Your Retirement Planning, by Lyle Manery, BA, CLU, CHFC, walks you through the process starting with your first investment decision.
- Gain knowledge of the many issues which affect your financial future so you can make wise decisions.
- Estate creation, conservation and distribution are all integral parts of the retirement planning process. These are all covered in this book.
- Learn about the concepts and programs available in Canada that should be considered when making these important decisions.
- This guide reflects Canadian tax laws and is intended for Canadian residents.
Vital Knowledge for Your Retirement Planning is a 65-page e-book. Available in PDF format so it can be downloaded into Kindle, Sony Reader or other e-readers.
THE TEN MOST COMMON ERRORS OF RETIREMENT PLANNING Waiting too long to start saving ~ Not having a systematic system to save money and to keep it saved ~ Keeping too much money in GICs and other low-interest-bearing plans ~ Not owning a sufficient amount of long-term life insurance ~ Not taking advantage of income splitting opportunities with appropriate spousal contributions ~ Not making use of a financial advisor or confusing him or her with an investment advisor ~ Not having and maintaining an up-to-date Will ~ Not knowing what government benefits belong to you ~ Not fully understanding what retirement income options are available ~ Not planning your retirement activities before you retire 1 Copyright © 2000 Lyalta Publishing All rights reserved. Published by Lyalta Publishing 1403 - 2nd St. SW Calgary, Alberta T2R 0W7 Telephone: (403) 233-2558 1-888–322-2558 Fax: (403) 266-7078 E-mail: email@example.com Web Site: www.chimofinancial.com ISBN 0-9699101-7-7 Printed In Canada Updated December 2003 Lifestyle Management is actually what you are doing at all stages of planning. Estate Creation, Estate Conservation and Estate Distribution are all integral parts of the process of retirement planning. As advisors, we think of retirement planning in the context of the many lifestyle decisions to be made. This booklet is not meant to be an answer to all of your questions. Rather it is intended to help provide some concepts and programs that should be considered by you and your financial advisors. If any aspect of this booklet is not clear, or if you have questions that are not answered adequately, our advice is that you should consult your financial advisor for clarification. 2 CONTENTS Introduction ........................................ 5 What is Retirement - Retirement Planning?........ 6 Four Distinct Planning Phases................ 7 Vesting. ................................................. 11 Old Age Security................................... 11 Indexing ............................................... 12 Claw-back provision............................... 12 Guaranteed Income Supplement. .......... 12 Canada Pension Plan (CPP)................... 13 What is an RRSP?................................. 14 Spousal Contributions............................ 17 Employer-Sponsored Retirement Plans... 17 What is a Pension for Life? .................. 18 What is a Fixed Period Plan? ................. 18 What is a Defined-Benefit Pension?........ 19 What is a Defined-Contribution Pension?. 20 What is a Retiring Allowance .................. 21 What is an Annuity?............................... 21 What is a RRIF? ..................................... 24 What is a LIF? ....................................... 25 What is an LRIF? ................................. 27 Common Financial Concerns. ................ 27 How Much Will You Need? ..................... 27 Why You Need Professional Advisors ..... 32 3 How to Choose a Financial Advisor ........ 34 Professional Designations ..................... 36 Elements of Comprehensive Planning ..... 37 Four Sources of Retirement Funds .......... 39 How and Where Should You Buy RRSPs?... 39 What are Mutual Funds? ........................ 40 What are Segregated Funds? ................. 40 Disability Income .................................... 42 Critical Illness ......................................... 42 Long-Term Care ...................................... 44 What About Medicare? ........................... 45 Other Useful Products ........................... . 45 Offshore Tax Havens ............................. 46 Oil Wells and Flow-through Shares ........ 47 Self-directed Trusts ............................... 48 Taxation ............................................... 49 Capital Gains...................................... 51 Capital Gains Protection......................... 52 RRSP/RRIF Protection............................. 53 Revocable Living Trust ........................ 54 Wealth Accumulation Trust..................... 54 Taxation of Life Insurance Death Proceeds... 55 Eclectica .............................................. 57 Wills Planning ..................................... 62 Happy Retirement ................................. 63 4 Introduction George S. Clason expounded upon the theme of “Pay yourself first” in 1926, in his book The Richest Man in Babylon. Financial institutions, especially banks, life insurance, and trust companies, advanced these basics of financial planning in order to promote the importance of saving money. The idea of tithing is very old—perhaps ancient. It’s natural, then, to expand the concept to pay yourself a tithe of 10% through a program of saving. Even if that was the total amount of your savings, you would have saved a tidy sum prior to retirement. Most people have found it easy to save money for the future; it’s just difficult to keep it saved. Planning for retirement before you have started to live is not the most exciting topic for most people before the age of forty. This booklet does not fully address the subject for younger people. Nevertheless, there may be some valuable information for all ages, contained within these pages. Specifically, this booklet is directed towards three main age groups: • Accumulation Phase - ages 40 to 60 • Retirement Phase - ages 60 to 70 • Post-Retirement Phase Keeping it saved is easier said than done. 5 For many people, retirement is a major event, but not much time is invested in preparing for it. Today, more than ever, most people need assistance in developing and implementing realistic retirement goals. How many people really think about and plan for a retirement life-style? How many plan for the adjustments that come with the event of retirement? Where will you live? Who are your retirement friends? How will you spend your time as a retiree? There are lots of decisions to be made. The first step is to recognize what retirement decisions need to be made. What is Retirement “Retirement” is defined as the act of going away, retreating or withdrawing to a private sheltered or secluded place. In modern usage, it refers to a withdrawal from one’s work, business, career or vocation. It implies a definite change in life-style. Some people retire from something rather than to something. People who have been active, planning strategies and making decisions, may find idleness in retirement somewhat boring. Retirement Planning We cannot speak glibly of retirement planning as one all-inclusive concept. It means different things to different people, and it varies considerably from one stage of life to another. 6 Retirement planning is much more than saving money for future delivery. Decisions you make today about the future will affect how you live today. Actions you take today will determine how you will live tomorrow. Your efforts creating your estate, preserving it and planning the distribution of your assets requires life-style decisions. If you plan well for the future, whether you live, die, become disabled or otherwise retire, the remainder of your earnings can be used for better living today. This is the process of life-style management. Four Distinct Planning Phases • Your early working years • Your peak earning years • Your final approach to retirement • Your actual retirement years When You are Young If you are twenty-one to twenty-five years old, identifying your retirement goals is not necessarily a priority issue. Forty to forty-five years from now seems to be a very long way off. However, looking back on forty years, it seems amazingly short. It was only yesterday. 7 It is easy to demonstrate the advantages and benefits of starting your savings program early. Common sense suggests that the earlier you begin, the better the results will be. Nevertheless, an illustration prepared by your financial advisor will demonstrate this benefit dramatically. Your Highest Earning Years These are the years when most people realize the importance of accumulating long-term assets for those still faraway retirement years. There are only two sources of income— people at work (earning income) or dollars at work (investment income). Accumulation of wealth is a study on its own, but it is important for each individual family to comprehend the value of doing what is right for its members. For some people, a company pension plan is the cornerstone of, or the foundation for, a secure retirement program. Augmenting the company pension plan with RRSPs or some other form of tax-sheltered program is usually advisable. Some entrepreneurs look to their business ventures to accumulate the necessary wealth. The focus is in developing or building a business, which can be sold profitably. In some cases, your business may continue to provide an income even after retirement. With many entrepreneurs that is a goal for which they plan and work. 8 Some entrepreneurs actually never do retire, but rather, they continue in some capacity, perhaps advisory to the new management— sometimes family members. Retiring from something they really enjoy doing may not be their most wonderful dream. It may entail giving up a lot of valuable friendships and cherished habits. For some people, accumulating wealth the “old-fashioned” way is a very important consideration. What’s the old-fashion way? Inheritance. For those who will inherit a sizeable estate, retirement planning is a different matter. During these precious high-earning years, investing well may be a most significant exercise. Your financial advisor can be very helpful in showing you how to keep what you have saved. Ask him or her how to do it. The Final Approach Don’t you just love it when the pilot comes on the intercom and says, “We are now on our final approach.” Why doesn’t he say, “We are on our destination approach”? Nevertheless, when you hear this, you are thinking about the things you must do when the plane arrives at the terminal. You collect your belongings. You must get your baggage and proceed to customs or to meet friends and family or take a shuttle bus or a taxi or whatever. Usually you are very clear about the procedure as well as where you are going and why. You knew most of this before you arrived at your destination. 9 However, as you approach your retirement destination, there may be many decisions that you must make. • How should you take your pension funds? • How does any decision affect your spouse if you die first? At this stage, you need to sort through your retirement alternatives and develop a plan to best accomplish your objectives. Your financial advisor can demonstrate a variety of options for you. Studying the various approaches may be very beneficial to a smooth landing. Your Retirement Years For some people, retirement means an extended vacation. You may plan to travel more, golf more or return to school, or you may take up a new vocation. Whatever your situation in retirement, a periodic review with your financial advisor is valuable. Financial planning begins with the first decision you make and continues throughout your lifetime. In some ways, your decisions may survive beyond your lifetime. In the early years, your planning involved wealth accumulation. In the middle years and in retirement, it includes estate conservation. In your later years, you may face many decisions about estate distribution. Your need is to make the best use of your financial resources to provide and support a sustainable level of income. 10 Financial planning is a work in progress. It doesn’t finish on the day you announce your retirement. In the larger picture, you are managing your life-style. Vesting When does your company plan vest in you? “Vesting” is the industry jargon for when you acquire the right to pension benefits paid into your plan by your employer. Once vested, these benefits belong to you even after you leave your employer. The vesting rules may vary from province to province. Your financial advisor can tell you what they are for your province. Even though the assets belong to you, you may not be able to take them prior to a specific age, depending on the contract. However, you can roll them over to a locked- in RRSP. By doing so, you may obtain a higher rate of return, and considerably more flexible and manageable investment options. Old Age Security (OAS) Old age security is a universal benefit available to you at age 65 providing you meet Canadian residency requirements. You must have lived in Canada for at least ten years to receive any payment. Since 1977 , it has been necessary to live in Canada for forty years after age eighteen to qualify for the maximum. Currently the maximum benefit is $461.55. This is an indexed benefit. 11 Indexing Indexing means that for any increase in the consumer price index there will be a corresponding increase in the old age security payments. A reciprocal social security agreement between Canada and another country, (e.g. the United States), may allow you to add in your period of residency in the other country to determine your OAS entitlement. . Claw-back Provision Depending on your tax bracket, you may not be able to keep all of your OAS since this benefit is taxable. Higher income results in a higher income tax. Since 1989, a special tax has been applied to effectively reduce your benefit. Any earnings in excess of $57,879 will cause some of your OAS benefit will be “clawed back.” At $94,530 of taxable income, you would lose the entire benefit. This may be a reason for considering income splitting between you and your spouse. Guaranteed Income Supplement Low income earners receiving the old age security benefit may also qualify for the guaranteed income supplement. If an individual has no income, he or she may qualify for up to $548.53 per month tax-free. Couples, who are pensioners, with a combined income of up to $24,576 may qualify for a total of $818.85. These calculations are on a sliding rate scale which makes it difficult to maintain up to date figures. 12 This is also an indexed benefit and thus the amounts are subject to change. In addition to this, some provinces provide a low-income supplement. You can check current figures on the internet. Canada Pension Plan (CPP) The Canada Pension Plan and the Quebec Pension Plan are both mandatory contributory programs. If you are employed by a company, your company pays 50% of the premium. Your contribution is made through payroll deductions. If you are self-employed, you must pay the full amount. It is a percentage of your income. When the program was first introduced, contributions were set at 1.8 % of pensionable earnings. That amount has increased until in 1998 it became 5.85 percent. It will increase to 9.9 % by 2003. It is supposed to remain at 9.9 percent thereafter. The maximum pensionable earnings, for 2003, are $39,900. CPP sends out a Statement of Contribution periodically so you can monitor your progress.The maximum combined contribution is $3603.60 To check on current changes to these fiqures, periodically, you can call 1-800 277-9914. As you get closer to retirement, you may want to find out what your expected ben- efits will be. You can start payments any time after age 60 up to age 70, once you have retired. For every year prior to age 65, there is a reduction in the amount you receive. 13 Correspondingly, for every year you delay payments up to age 70 , there is an increase in the amount payable. The current maximum at age 65 is $801.25 This benefit is payable to you for life, and it is indexed for inflation. There are some advantages to starting payments early. First of all, you receive payments for a longer time. It will take until nearly age 78 to catch up if you wait until age 70, even at the increased amount. Furthermore, if you do not need to use this additional money, you can invest it at a higher rate of interest—perhaps even in an RRSP. Remember, these benefits are not automatic; you must apply for them. What is an RRSP? Considering all the advertising and hype surrounding RRSPs each year, it is not surprising that most people have some knowledge of what they are and of how they can be used. “RRSP” is an acronym for registered retirement savings plan. An RRSP is one of the few remaining tax shelters available to Canadians. There are two significant benefits. First, the amount you contribute (up to the prescribed maximum), has an immediate tax benefit. The amount contributed is deducted from taxable income. It may, also, put you in a lower tax bracket. 14 The second benefit is that interest, dividends, and capital gains are allowed to accumulate tax-free with the RRSP until you withdraw the funds—presumably at retirement. Most people can expect a lower tax bracket at retirement, but that is not always the case. Some people are too successful, resulting in a continuing high tax bracket. However, you can continue contributions or allow the plan to accumulate until the end of the calendar year in which you turn age 69. When your plan matures, you have several options: 1) You can cash it out. Doing so would result in the full amount being included as income in that year. This is not a viable alternative for most people. 2) You can purchase an annuity. 3) You can purchase a RRIF. 4) You can purchase both an annuity and a RRIF. (See page 23) Current RRSP rules state that you must wind up your RRSP by the end of December in the year you turn age 69. “Winding up” means that you must convert your RRSP to one of the other options, i.e., cash, RRIF, or annuity. However, you may still contribute to an RRSP for the next year or two. 15 You can make future contributions. First of all you are allowed to over-contribute up to $2000 without penalty. However, you may also contribute additional amounts for future use. Of course, you must make these contributions by December 31 of the year you reach age 69. These over-contributions would attract a penalty of 1% per month. However, if you convert this overpayment early in January of the following year, your penalty is for only one month. The amount you can use is determined by the amount of eligible income you actually have in the following year. On any additional amount that you have over-contributed for use in the second year, you would pay the penalty of 1% for 12 months. This may be a small sacrifice considering the tax saving. There are many other strategies that can be used with your RRSP. For example, you can contribute to your younger spouse until he or she reaches age 69—providing your spouse’s plan has room to allow it. Spousal Contributions If your spouse is in a lower income tax bracket, or will be in retirement, an effective strategy is to contribute to a spousal plan. You can contribute all or a portion of your current RRSP limit. This is an effective form of income splitting. 16 Employer-Sponsored Retirement Plans There are a number of plans available, that qualify as pension plans: • Defined-benefit • Defined-contribution • Deferred profit sharing • Individual pension plan • Group RRSP s There are benefits and drawbacks to each of these plans. Depending on which plan you have, there can be significant differences in the amount of benefit you will receive. Understanding your plan is fundamental to retirement planning. This understanding would be useful, also, if you are considering a career or company change. If you know how much your plan will pay at retirement, you can determine how much additional income will be required, if any, to maintain your life-style and meet your retirement objectives. Also, you should understand the options in your pension plan, so you can determine how best to receive your benefits. There are usually three basic options: • a pension for life • a guaranteed minimum fixed period • a joint and survivor benefit 17 What is a Pension for Life? A pension for life will pay you a maximum amount until your death. This plan pays the most, but if the annuitant dies too soon, there is no refund for your estate or your family. Ask your advisor how life insurance can be useful in this situation. What is a Fixed Period Plan? A fixed period plan will pay a specified amount for life, but, if you die, it is also guaranteed to pay to your spouse or estate until the end of the period chosen. This option will provide somewhat less than a pension for life, but it is guaranteed for a specified number of years or to a specified age. A joint and survivor plan pays a specified amount as long as you or your spouse survives. This option may provide less income than some other options, but it may suit some situations better. There are variations that can be helpful, such as having the payment amount reduced to 75% of the total, after the death of one of the partners in a joint and survivor annuity. Compare this strategy to the payout from a term certain to age 90. What is a Defined-Benefit Pension? A defined-benefit pension is a registered plan that guarantees that you will receive a specific 18 amount at retirement. Your employer makes contributions to the plan sufficient to guarantee the benefit, which is determined by a formula. Usually a factor of 1.5 to 2 times your years of service, times earnings, is used to determine the amount of pension. There are some further refinements that may be applied. Some plans use a flat amount times the number of years. In this case, the amount or level of your earnings is not a factor—just the years of service. Some plans may use averages in determining the earnings factor: • Career average. Your earnings are totalled and divided by the number of years of service. The result is then multiplied by the formula. • Final average. This is usually the average of the last three years or the last five years multiplied by the formula. Other pension plan refinements include inflation indexing, capping the maximum number of years of service and integration with the Canada Pension Plan. All of these refinements can have a significant effect on the amount of pension payout. An understanding of the formula to be used and how the calculations are made will allow you to determine how much you will receive. This information is vital in case there is a shortfall in your planned program. 19 Knowing this early enough will give you time to take strategic action. What is Defined-Contribution Pension? A defined-contribution pension is sometimes called a money purchase plan. You make contributions to this plan and your employer matches your deposits up to a specified maximum. Revenue Canada has an upper limit on the amount that can be contributed, based on the RRSP guidelines. In many ways, this plan functions like an RRSP. The employee chooses the investment option(s) and he or she assumes the responsibility of managing it. While there is more flexibility, there is also less certainty as to the amount available for retirement. This amount will be determined by the contributions made to your plan each year and the return on your investments. From an employer’s viewpoint, there are some advantages. Administration is less. The investment decisions are shifted to the employee and the employer does not provide any guarantees. What Is A Retiring Allowance? Retiring allowances include severance or termination pay and court settlements for wrongful dismissal. Perhaps the more common source of a retirement allowance is a payment to an employee for long service. 20 A retiring allowance is treated as income in the year in which you receive it. You may have a re-calculation made treating the proceeds as though a portion was received and became taxable in the year in which the right to receive it arose. You may be able to save taxes on this basis rather than paying taxes on the entire amount as actually received. There is a better way! In most situations you can roll the fund into an RRSP and defer taxes until the funds are withdrawn. What is an Annuity? When your pension plan matures and the payout begins, your pension money is usually invested in some type of an annuity. There seems to be some confusion about what an annuity is and what it does. To simplify the concept, it is best to think of it as follows: The purchase of an annuity is actually loaning your money to an institution. The institution contracts to repay your principal with interest in specified installments over a certain period of time. • It may be “life” only. • It may be for life with a guaranteed minimum of 5 or 10 or 20 years, or to age 90 . The amount of your investment, the number of payments to you, the prevailing interest and the life expectancy factor determine the amount of each installment. 21 The purchase of an annuity eliminates all control of your money and the need to manage it. You and your chosen institution are committed by contract to the agreed upon terms. There is no flexibility. For some people, this is a drawback. You should consider the following: You cannot vary the amount of your installment payments. You cannot withdraw a lump sum for special use such as travel or a major purchase. You cannot take advantage of increasing interest rates nor stock market booms, nor any other investment opportunities. On the flip side, however, your installments do not decrease when interest rates fall and you cannot lose your principal in a stock market crash or through an investment opportunity that turns sour. With an annuity, you are relieved of all management responsibilities. One of the arguments often used against an annuity is that there is no return of principal if you die after the guarantee period. For example, with a life and ten-year certain annuity, you are guaranteed 120 payments minimum. The total of these payments may only equal the amount paid in plus a small amount of interest. 22 This argument usually overlooks the life thereafter provision. In other words, you should remember that it is 120 payments plus life thereafter. If you live for 20 years, that’s 240 payments— guaranteed. Some people like to use annuities to provide the foundation for a sound retirement program. With the remainder of the available funds or proceeds from an RRSP, they may purchase a RRIF —a registered retirement income fund. If your funds are all in your registered pension plan, you may purchase a life income fund (LIF). Using a combination of an annuity and a RRIF can provide the best of all situations. You can have both a dependable basic income from your annuity and a flexible source of income from a more aggressively invested RRIF. A variation on this theme is to purchase a RRIF, a LIF or an LRIF contract, which contains an option to convert some or all of your funds to an annuity. This approach would permit you to retain control of the investment and to maintain flexibility during the early years of retirement. As you grow older, or if you reach a stage of emotional and physical health where you no longer want to manage your fund, you simply convert to an annuity. 23 Another benefit of this approach is that it permits you to select an annuity when interest rates are higher. There comes a point in life when the guarantee of an adequate income is more important than the responsibility of squeezing out the maximum return while risking your principal. What is a RRIF? A RRIF is a registered retirement income fund. It is used as an alternative to buying an annuity with your RRSP funds. In fact, it may be likened to a continuation to an RRSP , except that now you withdraw money from it instead of paying into it. All of the investment options that were available to you in your RRSP are still available in your RRIF . Thus you maintain control of, and responsibility for, your investments. RRIFs are especially popular when interest rates are low. Unlike an annuity with its fixed amount pay out, your RRIF permits total flexibility of withdrawals. A RRIF allows you to withdraw an extra amount if money is needed for an emergency or for a special holiday. Of course, it would also allow you to exhaust your fund prematurely. There is no maximum amount that can be withdrawn. There is a minimum that you can withdraw based on your age. This minimum increases yearly as you get older. 24 One strategy is to use a younger spouse’s age for determination of the minimum requirement. This approach allows you to defer income tax for as long as possible. The advantages of a RRIF are: • investment control • flexibility of withdrawals • a possibility of higher return The disadvantages are: • the responsibility of managing your investments • the danger of withdrawing too muchtoo soon • the potential of a lower return • the shrinkage of principal in a market recession. What is a LIF? Many people have funds in a locked-in RRSP or a locked-in retirement account (LIRA). This happens when an employee leaves a company with vested benefits in their pension benefit. Usually these employees have the option of leaving their funds in the former employer’s fund or moving it to a locked-in plan. Today there is very little difference between a locked-in RRSP and a LIRA. The provinces using the term locked-in RRSP used to have certain requirements that required the purchase of an annuity. 25 A LIF (life income fund) now may be used, to purchase an income plan similar to a RRIF, with funds from either locked-in RRSPs or locked-in LIRA s. The major difference is that a LIF must be converted to an annuity by age 80. You are further required to begin taking an income from a LIF within one year of the date of starting the plan. Before age 80, you can use a LIF much like a RRIF. It has similar flexibility and minimum withdrawal requirements. Unlike a RRIF, there are maximum withdrawal limits on a LIF. This maximum is determined by calculating the amount received if the funds had purchased an annuity to age 90. The maximums may change each year. There are some restrictions and limitations that apply to a LIF. Firstly, you cannot use a younger spouse’s age to determine the withdrawal schedule. Secondly, you cannot open a LIF until you are within 10 years of your normal retirement date as stipulated in your pension plan contract. For most plans, this would mean age 55. The latest you can start the plan is December 31 in the year you turn age 69 . A LIF can be used in most provinces, except that in Alberta, Saskatchewan, and Manitoba, where an LRIF supersedes a LIF. 26 What is an LRIF? An LRIF is a life retirement income fund. The major difference is that an LRIF does not have to be converted to an annuity. Also, the annual maximum is calculated differently. Common Financial Concerns When planning for retirement income, many people share certain doubts such as; Will I outlive my assets? Will my income keep pace with inflation? Will I have enough retirement income? Will I have enough for my spouse if I die first? How Much Will You Need? The answer to that question depends on many factors, all depending on your decisions about various life-style questions; • When do you want to retire? • Where do you want to live? • How do you plan to use your leisure time? • What is your life expectancy? • How old are your parents or grandparents? • How will inflation affect your income? • What is the source of your income? For many people the answer to some of these questions depends on how much they can accumulate during their working years. Retiring early, say at age 55 , may be too expensive unless you start to save early and accumulate your wealth carefully. Today people are living longer and they are enjoying good health much longer. 27 An active retirement style may require considerably more income. It is easy to put off preparing a good retirement strategy when you are young, because it’s difficult to determine the answers to some questions at an early age. In the earlier years, most people have many expenses such as raising and educating a family, paying the mortgage and so on. In later years, there can be unforeseen medical expenses or costs of caring for other family members. An effective planning strategy would be to start early and to save some money systematically in an RRSP. As your income level increases, you could increase the percentage until you have reached the maximum— 18% of your last year’s earnings up to the limit set by the government. Compound interest is magic with an early start. There are many examples of the benefits of starting young. For example, one study illustrates that saving $1,000 each year from age 25 until age 35 will result in a higher accumulation than waiting until age 35 and investing $1,000 a year until age 65. What this study really demonstrates well is the effect of compound interest. 28 Saving enough money is not the end of your decision making. Where and how you invest your savings is also a crucial matter. Simply holding money in a GIC is not wise if the inflation rate is nearly equal to or greater than the rate of return. Most financial institutions provide some sort of asset allocation guideline. Certainly some diversification is desirable rather than keeping everything in a single investment. These guidelines usually take into account such things as your age, your income level and your risk tolerance. During peak earning years, a wealth-building program may include a larger percentage in equities. Some companies classify their programs as wealth building, moderate growth program, aggressive portfolio (for younger people) and a pre-retirement program (for people within the last 10 years of their working life). Generalizations are not too helpful since an investment strategy is very subjective. This topic is something that should be considered carefully by you and your financial advisor. It is wise to know your level of risk tolerance. It is important to review, revise and update your program periodically. Your financial advisor can be very helpful with projections. Also, your advisor can look at your objectives and your program with a degree of detached understanding. You may have become somewhat complacent and satisfied with results to see potential difficulties. 29 Your valid concern about the sufficiency of your retirement income for both yourself and your spouse can be aided by running various what if scenarios. For example: You can calculate your probable income for (a) a couple, and (b) a single survivor. You can test certain variables by inserting different assumptions for inflation, income taxes and interest rate earnings. What if inflation is somewhat higher and your assumed interest earned is considerably lower? You can also look at the effect of retiring earlier, with fewer years to accumulate your funds and having a longer payout period in your retirement years. This will help determine if you can afford to retire younger. Another important matter for you and your advisor to consider is the most effective way of taking your income after retirement. You should determine the amount of taxable income expected from all sources, such as registered retirement plans, nonregistered funds and government and employer pension plans. Employer and government pension plans leave very little room for minimization of taxes. Thus, it may be important to arrange your income from RRIFs and non-registered funds to provide a greater level of tax efficiency. To make these decisions, you will need to determine the amount of after-tax income required in your retirement years. 30 Knowing where the money will come from is important. For example, if you have a cottage or second residence, that you plan to liquidate or an inheritance, you need to factor in this information. You can assess your probable tax bracket based on your expected fixed income from pensions and RRSPs. Planning asset allocation for tax efficient growth and income can make a significant difference. What about estate planning goals? Most people want to maximize after-tax income while minimizing the risk of outliving income. Many, however, want to leave an estate after death. The sign on the back of some campers, “We are spending our kids inheritance” is meant to be humorous. In practice, most people make serious plans to provide an inheritance for the “kids.” It is wise to do your retirement planning first and your estate planning afterwards. Why You Need Professional Advisors There is much more to managing money and creating wealth with a secure retirement than merely trading individual securities. A financial advisor offers: • knowledge gained from study and experience 31 • emotional detachment to help you avoid knee jerk reactions • perspective to provide a vision of the overall process • time to prepare a comprehensive analysis Advisors provide a financial planning approach. They have the ability to construct a well developed plan within the context of your needs and objectives. Factors to be considered are your: • financial goals • retirement objectives • risk tolerances • life-style ambitions • family education needs • savings capabilities Advisors provide regular reviews and revisions. Advisors offer perspective.A client’s emotions can be tempered with an advisor’s sober second thoughts. By approaching the situation with a degree of objectivity a new and more appropriate solution may become obvious. Advisors offer a multitude of products, an assessment of new opportunities and their applicability to each client. Advisors offer professional expertise and professional designations. It would seem prudent in a marketplace full of professional designations, that you should be guided by a professional. 32 Advisors save clients time by: • doing research • assessing suitability of products • monitoring economic and market changes Advisors have many resources: • from networking with other advisors • from the companies • from professional associations • from colleagues • from personal r
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