Late savers

“This [scenario] is pretty common,” says Peter Wouters, director of tax, retirement and estate planning services with Kingston, Ont.-based Empire Life Insurance Co. “Canadians face all sorts of demands on their earnings.”

This phenomenon is likely to grow. With fewer employers providing the generous defined-benefit pension plans that were common in past decades, the onus increasingly is on individuals to fund their retirement. And the rising costs of education, housing and other daily expenses are leaving many people with less money to put aside for the future.

“Many Canadians become procrastinators, not because they’re fiscally irresponsible, but because life is expensive and there just isn’t any money at the end of the month to put into retirement savings,” says David Trahair, both a chartered professional accountant and a chartered accountant in Toronto and author of The Procrastinator’s Guide to Retirement: How You Can Retire in 10 Years or Less. “Retirement is so far off, it gets shoved to the back of the line.”

Clients with 10 to 15 years – or less – until retirement may be disappointed to learn that there is no quick fix to make up for years of spending; rather, saving is the strategy to follow. Still, you can play a vital role in pushing “late savers” to stop dragging their feet and get a plan in place despite their limited time frame.

“There is no witchcraft in this industry,” says Jason Pereira, partner and senior financial consultant with Woodgate Financial Inc. in Toronto. “The reality is [people] need to do what they should have done a long time ago. They need to make [saving] a priority. Otherwise, they’re never going to get to the finish line.”

– Spending habits

The best starting point is to conduct a broad assessment of your client’s financial circumstances, including debt, assets, income and expenses. Find out what has been preventing him or her from saving, and where the disposable income is going instead. In many cases, clients themselves don’t know where all of their money is going.

“One thing that is not overly sexy, which often gets overlooked, is a thorough review of cash flow and developing a spending plan,” says Darryl Robinson, a fee-only certified financial planner with D. Robinson & Associates Inc. in Winnipeg.

Understanding a client’s existing lifestyle and spending habits is critical in estimating their income needs in retirement. Although there are various rules of thumb for calculating the income clients will need in retirement relative to their pre-retirement income, Trahair says, every client’s situation is different.

“Accurate forecasting or planning for retirement has to be based on [the client’s] actual spending,” he says.

– Retirement income

Once you have an idea of the amounts your clients will need, calculate any income sources they’ll be able count on in retirement aside from individual savings, such as Canada Pension Plan (CPP), old-age security (OAS) and workplace pensions.

“Far too often, people haven’t had that review, and they really don’t know what they’re looking at in terms of net income from all sources,” Robinson says.

He notes that middle-income individuals can receive $12,000-$15,000 per year from CPP and OAS, which comes as a pleasant surprise to some clients.

“An extra $25,000 or $30,000, for most [couples], is not inconsequential,” Robinson says. “It’s a nice bit of change.”

Clients who can continue working and defer taking CPP until age 70, Wouters notes, can boost their government benefits to approximately $26,000 annually.

– Creating a plan

Once your clients have a better understanding of what they have and what they’ll need, you can help them put their plan in place. Although clients may be anxious to start investing right away, you may need to help them get their spending under control first.

You need to be blunt with clients who are living an unsustainable lifestyle, Pereira says: “They are going to have a choice: they can continue living the lifestyle they’re living now, then live in something that’s similar to poverty in retirement compared with where they are currently; or they can start making sacrifices now and live a more balanced lifestyle, both now and in retirement.”

Urge your clients to track their spending and eliminate unnecessary expenditures in order to maximize the money they can allocate toward retirement savings. Paying off debt should be a priority.

The good news is that as clients get closer to retirement, some categories of spending will decline, Trahair notes. Once a mortgage is paid off or children finish university, for example, the money previously being allocated to those areas can be funnelled into a savings plan.

“When these expenses decline,” Trahair says, “this is the golden opportunity.”

When clients are ready to begin investing, find out if they have access to a workplace pension plan or group RRSP. Group plans can be an effective way of accumulating retirement assets quickly, because employers typically match employee contributions or, at least, kick in a portion thereof.

“That’s free money, which can instantly increase an employee’s rate of return on their savings by 50% to 100%,” Wouters says. “Where else can you get a deal like that?”

Outside of employer savings programs, clients should take advantage of contribution room in both tax-free savings accounts (TFSAs) and RRSPs, says Myron Knodel, director of tax and estate planning with Investors Group Inc. in Winnipeg. Clients who haven’t been saving regularly are likely to have significant RRSP and TFSA contribution room.

If late savers can afford to contribute to only one account type, the key determinant should be the difference between the client’s marginal tax rate now and the rate expected in retirement. Because most clients in their 50s are in their peak earning years, their income and tax rate are likely to decline in retirement, making an RRSP the most tax-friendly option. Clients who expect to earn roughly the same or more in retirement are generally better off using a TFSA.

– Investment strategies

Setting up automatic contributions can be an efficient way to get clients invested without trying to time the market, Knodel says.

“[Automatic contributions] take out some of the risk when you dollar-cost average, as opposed to making a lump-sum contribution,” he says. “You’re not betting on whether it is a good time to get into the market.”

When choosing investments, clients with little time left before retirement might be tempted by riskier investments that could increase the potential for higher returns. Although some equities exposure may be necessary, you should caution late-saver clients against taking too much risk because they will have less time to recover from market corrections.

“You run the very real risk that a year or two before retirement, or in the year of retirement, we go through a market meltdown as we did in 2008,” Wouters says.

Clients who take on more risk than they can tolerate also are more likely to panic during those kinds of market swings. “The real risk that people face is not that they won’t make the return in the long run,” Pereira says. “The real risk people are exposed to is panicking on the downside; because if they panic and pull out, they will never experience the upside, which typically comes as fast as the downside did.”

Trahair suggests keeping market exposure manageable by following a rule of thumb: the equities allocation in a client’s portfolio should not exceed 100 minus the client’s age. For example, a client who is 55 should have no more than 45% of his or her portfolio in stocks. (While this rule is by no means absolute, it is a good point of reference.)

Segregated funds are another option to help clients get market exposure while managing downside risk. Seg funds guarantee the return of a predetermined percentage of the original investment (usually 75% or 100%) once the units in the fund have been held for a specific period, and some seg funds allow clients to reset the value of the guarantee periodically to lock in investment gains.

“For people who want to take on a little bit more risk and are worried about the downside,” Wouters says, “segregated funds can give that downside protection, that guarantee of principal.”

Wouters also suggests considering mutual funds that have a track record of producing stable, low-volatility returns: “You can pick a fund manager whose style is to provide really good downside protection.”

For clients in their 50s who have high risk tolerance and excess cash flow, borrowing to invest is another strategy for bolstering retirement savings, Knodel says. Although leveraging is risky, particularly for people with five years or less until retirement, he adds, leveraging can be an attractive, tax-efficient strategy for clients with a sufficient time frame and risk tolerance.

“In your 50s, you still have time on your side, so people at that age might still be leveraging candidates,” he says. “This is really attractive to people who have steady sources of income.”

Not everyone supports investment loans as strategy for late savers. Trahair advises against it because of the risk that the investments could decline, when the loan would amplify the losses.

“For people who are already short of retirement savings,” Trahair says, “[leverage] is a very risky strategy that I would say steer clear away from.”

For clients who reach their planned retirement age and still are short of their goal, continuing to work – even for one extra year – can make a big difference.

“It’s an extra year that your job pays for your expenses,” Trahair says. “It’s an extra year that you could make an additional RRSP contribution, and it’s one less year of retirement that your retirement savings have to finance. Those compounded together could be extremely positive.”

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