“Portfolios” is an ongoing series that discusses financial planning and asset allocation issues. In this issue, Investment Executive speaks with Brett Langill, partner and senior financial planner at Brownstone Investment Planning Inc. in Toronto and Marna Oseen, branch manager at UBS Bank (Canada) in Calgary.

The Scenario: a couple were recently married, both for the second time. Both — he is 60, she 50 — have children from those marriages.

The husband is a lawyer who makes $150,000 a year and has financial assets of $4 million ($2 million in an RRSP and $2 million in non-registered assets). He plans to retire in five years.

He was divorced 10 years ago and has two independent children aged 25 and 30. His previous wife got a $2-million settlement following the divorce and receives no support.

His current wife, who is also divorced, has never worked. She received a $1-million settlement when her divorce was finalized a year ago, which has been invested. Her ex-husband has committed to pay private-school fees for their three children — aged 12, 15 and 17 — as well as half their university costs. She owns the couple’s $1-million home, which her new husband purchased in her name.

Neither spouse has life, medical, long-term care or health insurance. They want to know what they should consider and what it would cost. They also want to ensure that her children are financially taken care of should either or both of them die before the children are financially independent.

They have a premarital agreement that specifies that the husband’s non-registered assets will go into a trust upon his death, with the income going to his current wife in her lifetime and the assets to his children on her death. His RRSP assets are to be divided equally between his two children on his death. The wife’s assets are to be left to her three children in equal portions.

The couple requires $200,000 pretax annual income, or $125,000 after taxes, in today’s dollars, which requires them to draw income from their portfolios. They expect that to continue until the husband is 80. At that point, their everyday expenses will drop to $100,000 after taxes. But they realize they may need more for medical expenses. They are adamant that they don’t want to go into a nursing home and want to know whether they should take out long-term care insurance, or whether they can rely on their financial assets to cover such expenses.

Each partner wants to leave an estate to his or her children equal to the value of his or her assets in today’s dollars.



The Recommendations: Langill and Oseen agree the husband’s income and estate goals are easily achievable, regardless of when he or his wife dies. The wife, however, could have problems.

As things currently stand, she will be encroaching on her capital to fund her portion of the couple’s expenses and her children’s university education. Oseen says all her assets will be depleted by the time she reaches 69. That means, at that point, she will be dependent on her husband for living expenses while he’s alive and on the income from his RRSP after he dies. And she would leave no estate except for real estate.

A way around this is to use their assets jointly while both are alive to meet household expenses and her children’s education, says Oseen. As long as the husband lives another five years, this should ensure both portfolios grow sufficiently to meet estate as well as income goals, assuming a 6.8% return after fees and 2.5% inflation. Considering the assets jointly would enable the wife to leave an estate worth at least $1 million, regardless of when either dies.

If their assets are considered jointly, they’ll need wills, spelling out what happens on the death of each, says Oseen. He also recommends the husband’s non-registered assets be put into a spousal testamentary trust on his death, which would defer taxes until the wife’s death.

The next five years are critical, says Langill. He suggests a 10-year term-life insurance policy for $1 million on his life. That would cost about $5,300 a year, assuming he’s a non-smoker in good health.

If they don’t want to treat their income jointly, Oseen suggests the couple take out a whole life policy on the wife to ensure she leaves an estate beyond the house. He believes insurance is a valuable asset class and should be considered in this case because it would allow her to meet her goal of leaving financial assets to her children.

@page_break@Another issue is ensuring that her children are taken care of until they are financially independent should either or both partners die before that happens. Oseen suggests testamentary trusts giving $1 million to each child, which would provide income and capital encroachments, if necessary. The wife would supply $2 million — her $1 million in financial assets and the $1-million house — and her husband would provide $1 million. Because these are complicated, he recommends the couple consult an estate lawyer.

Although it’s not critical, both Langill and Oseen believe RESPs should be set up for her children to take advantage of the Canada education savings grant. Oseen suggests a family plan, under which all three children can potentially be beneficiaries until the age of 21.

Assuming $20,000 in today’s dollars for each year a child is in university, the couple could put up to $120,000 into the RESP, which would cover the wife’s contributions to the post-secondary education costs. It would also greatly reduce the financial burden if her former husband reneges on his commitment to fund half the costs.

Langill suggests putting the maximum amount that qualifies for grants into RESPs and topping it up with in-trust accounts so that $150,000 in total is put aside. With a 5.5% return on the money that should cover $190,000 in education costs over the next 10 years.

Oseen, too, believes in-trust accounts could be valuable. However, he notes, there is no certainty that the funds will be used for the children’s education expenses without a formal trust document.

As well, Oseen recommends the couple have a separation agreement, spelling out how they would meet their financial goals, including educating her children, should they part.

Neither thinks medical or long-term care insurance is needed, given the amount of assets they have accumulated. Oseen says critical-illness insurance may be a good idea for him but not her, as she doesn’t work.

A $1-million life policy could be taken out to cover the capital gains taxes that will be due on the husband’s death. It wouldn’t be needed for her, says Langill.

The new pension-splitting rules will help the couple. It may be a good idea to turn a portion of his RRSP into a RRIF early, so the income qualifies for pension income-splitting, says Langill.

The couple also has to look at the most efficient way to draw income, depending on capital gains liabilities and the tax rate for each. Some years, they may take money from his RRSP; in other years, it would be better to draw on her assets; and in still other years, a combination of the two may be appropriate.

“The tax system can be well-managed for them without complex tax strategies,” says Langill.

Oseen says holding assets jointly can be tax-efficient on death. He also believes a spousal RRSP for her may be beneficial as it is anticipated the husband will be in a higher tax bracket upon retirement. The husband would get the tax deduction and the money would be tax sheltered.

Oseen, too, thinks a spousal RRSP could be beneficial. The couple could also explore corporations or trust structures in the children’s names to see if benefits would offset costs of setting up and operating the trusts.

As for investing their assets, Oseen suggests holding assets jointly in a discretionary managed account which has a fee of 1.2%-1.3%, including all transaction and custodial fees. He recommends a global balanced strategy, with 5% in cash, 15% in global alternative investments, 30% in bonds and 50% in equity, split 50/50 between Canadian and foreign equity. He assumes an average 6.8% return after fees and inflation of 2.5%.

Langill recommends 50% fixed- income in government bonds, high-value corporate bonds, some mid-value bonds and a small amount in “below-investment-grade” bonds.

The equity would be 15% Canadian and 35% foreign with only a small amount of emerging market exposure. The investment style would be split 50/50 between growth and value. “My bias is a broad-based portfolio of mainly large blue-chip companies aimed at producing capital appreciation and dividends,” Langill says. He doesn’t think alternative investments are required as the couple doesn’t need a huge rate of return.

He recommends a professionally managed account, such as a wrap program, with assets divided evenly among three programs. The husband’s non-registered assets should be in a tax-efficient program, featuring no taxable distributions until it is sold.

The husband’s RRSP and the wife’s assets should go into wrap accounts that offer good diversification. They should not be in the same program in order to provide further diversification.

Langhill thinks this will generate a 5.5% return after fees, assuming inflation of 3.1%. He charges a 40 basis-point fee for services when assets are more than $3 million. IE