“Financial Checkup” is an ongoing series that discusses financial planning options. In this issue, Investment Executive speaks with Brent Allen, financial management advisor, certified financial planner and division director with Investors Group Inc. in Guelph, Ont.; and Michael Berton, FMA, CFP, registered financial planner, chartered life underwriter and financial planner with Assante Financial Management Ltd. in Vancouver.



The Scenario: Lynn is an occupational therapist in Guelph, Ont., who turned 62 in January. She currently earns $69,000 a year but would like to change to part-time by mid-2010, working four days a week until she’s 65, and then three days until 70.

Lynn has worked in her current position for seven years. She is eligible for a pension of $6,200 a year if she retires in 2010. Her hourly rate of pay would increase by 10% in lieu of benefits if she works part-time after retirement.

Her monthly Canada Pension Plan benefit would be $678.54 if she retires in 2010 and $822.26 if she waits until she is 65. As well, she receives a small pension that’s indexed to inflation, currently $152 a month, from a previous employer.

Lynn owns a home worth about $295,000. She has a variable-rate mortgage at prime plus 1% for $149,000, amortized over 20 years. There would be about a $2,000 penalty (three months’ interest) if she pays the mortgage off early.

Lynn has $50,000 in a locked-in retirement account, composed of $29,000 in blue-chip equities, of which one-third are U.S. equities, and $21,000 in a money market fund. She also has a $20,000 RRSP, whose assets are in a money market fund; she has $29,580 of unused RRSP room. There is another $5,000 in a guaranteed investment certificate, and she has $5,000 in credit card debt.

Lynn is in good health, but her father died at 70 from lung cancer and her mother died at 81 of heart disease. Lynn is now a non-smoker, but she did smoke moderately until age 34. She is divorced, with two independent children and two grandchildren, aged five and two. Lynn is not concerned about leaving an estate for her children.

Lynn currently spends all her income, except for $300 a month, which she contributes to her RRSP. Her annual expenses include $7,350 for the house, excluding the mortgage and repairs; $3,320 toward replacing her second-hand car, which she does about every nine years; and professional fees of $1,000, which will continue while she is working.

She would like to have income of $48,000 a year after taxes in today’s dollars, and wants to know if that’s realistic. She is open to selling her house and renting.



The Recommendations: Both Allen and Berton agree that Lynn won’t achieve the goal of $48,000 a year to age 90 in retirement income in today’s dollars. Allen thinks she can have up to $45,000; Berton would advise that she aim for no more than $33,700.

The $11,300 difference lies mainly in whether she keeps her house. Allen’s projections have her selling it at age 70 and renting for about $1,300 a month in today’s dollars. Berton assumes she keeps the house or downsizes to a less expensive house that would leave her mortgage-free.

The downside of Allen’s plan is that if Lynn is faced with unexpected major expenses, she won’t have any assets to dip into while still retaining her lifestyle. This is a major reason why Berton recommends she continue with home ownership.

Berton likes the downsizing option because of the possibility that she could buy a house in a nearby town where prices are lower. As well, she might end up mortgage-free and, thus, be able to spend on other things what she was spending on the mortgage. Alternatively, she could rent out a room in her home to a student.

Whichever option Lynn chooses, both advisors warn that Lynn will need to budget carefully. Any money she spends over these figures will lower her future income.

Both advisors assume in their projections that Lynn will work four days a week until age 65 and then three days until age 70. Berton does, however, recommend that Lynn consider continuing to work full-time to age 65, which would not only increase both her CPP and work pension benefits but also potentially allow her to save more for retirement. The choice, he says, comes down to working harder now or living on less in the future.

@page_break@Allen is assuming a 5.5% annual average return and inflation of 2.5%, while Berton uses a 6% return and 3% inflation; thus, both assuming a 3% real return. Allen assumes 4% per year house appreciation; Berton, 5%. Both advisors strongly urge Lynn to put the assets she currently has in money market funds into a high-interest account immediately and then invest those assets as quickly as she can.

Allen thinks Lynn should start taking CPP benefits when she stops working full-time; Berton feels Lynn should wait until age 65 and that she should delay taking her pension until age 70 if that is possible. Berton’s thesis is that Lynn should be able to manage without those benefits while she’s working.

Allen recommends that Lynn increase her RRSP contributions to $675 a month, from $300, starting immediately, and put her tax refunds from those contributions into the RRSP as well. Berton’s projections include maximum RRSP contributions, including using up the contribution room. In both scenarios, this would have to come out of Lynn’s employment earnings.

Allen recommends that Lynn renegotiate her mortgage and increase it to $165,000. She should then use the additional $14,000 (after the $2,000 penalty) to pay off her credit card debt and use the rest to help her make the transition to lower income as she moves to a four-day workweek from five this summer. He notes that ING Canada and Investors Group Mortgage Inc. currently offer five-year, variable-rate mortgages at prime minus 0.1%.

If Lynn does this, her mortgage payments would drop by $1,650 a year ($137.50 a month) after the refinancing charges, even with the higher outstanding balance. Even more important, she would free up the $254.11 she is currently paying monthly on her credit card debt. Combined, these savings could be put toward personal medical or long-term care insurance — both of which Allen thinks Lynn should consider.

Berton doesn’t recommend someone at Lynn’s age adding to debt; he believes that Lynn should instead use the GIC money when it comes due to pay off the credit card.

Neither advisor recommends critical illness insurance. Based on Lynn’s family history, it could be difficult for her to qualify and the cost would be high — more than $500 a month for $250,000 coverage or about $225 a month for $100,000, says Allen.

Both advisors suggest personal health insurance to age 65, which, Allen says, would cost about $166 a month. At 65, prescriptions are covered by government programs but Lynn could continue the policy if she foresees large dental bills.

Allen and Berton both also recommend long-term care insurance. A policy that provides $1,000 a month for home care and $2,000 a month for institutional care to age 100 would cost about $162 a month, according to Allen.

Allen suggests putting the money Lynn will no longer be paying into CPP into a tax-free savings account when she begins working part-time. Allen also suggests Lynn move the $5,000 GIC into a TFSA if Lynn is satisfied to have her TFSA at the institution she purchased the GIC from and the institution agrees to do this. Berton, for his part, doesn’t see where Lynn will find money for a TFSA, given the recommended maximum RRSP contributions.

Lynn should review the beneficiaries of her RRSP and LIRA. If the assets are to go to an individual rather than Lynn’s estate, the funds will be transferred more quickly upon her death. The same strategy applies to the beneficiary of the recommended TFSA, says Allen. But he wouldn’t recommend making the non-registered assets jointly owned because, for example, should one of Lynn’s children come upon hard times, a portion of these assets could be seized by creditors.

Allen recommends that when Lynn retires, she unlock 50% of her LIRA and move that to her RRSP because monies in RRSPs aren’t subject to a maximum withdrawal each year, as is the case with LIRA assets.

Allen and Berton agree that Lynn does not have enough financial assets to build a diversified portfolio with individual securities. Berton warns that Lynn needs at least 33% in equities so that the assets can grow sufficiently to cover inflation. Allen suspects Lynn’s risk tolerance would suggest a 45% fixed-income/55% equities asset allocation.

Both advisors recommend a managed portfolio that suits Lynn’s risk tolerance, although Berton would suggest changing to 60% fixed-income/40% equities at age 70. Such managed portfolios are diversified through geography, asset class and management styles, and many are rebalanced daily to maintain their target allocation.

Allen notes that a portion of the fixed-income could be stripped out and used to purchase a laddered GIC position, which would lower the overall management fees. Berton agrees but suggests Lynn consider preferred shares and perhaps a bond ladder. Berton notes that he’s worried about losses on bonds as interest rates rise; a ladder would minimize that risk.

An alternative would be to buy a 5% guaranteed minimum withdrawal benefit fund. These products guarantee an income for life, but they are complicated and have high fees — usually about 1.25% above mutual funds, according to Berton. While Lynn may want the comfort of having part of her future income guaranteed, Berton says, he suspects Lynn would be better off with a life annuity, for which fees are lower and the return would be almost 7% rather than 5%. The drawback to the annuity is that there would be no money going back to Lynn’s estate if she should die relatively young; the unused portion of a GMWB would go to her estate. Berton notes that Lynn shouldn’t put all her assets into either option, as she may need liquidity at some point.

Allen would not charge a fee for the development of a financial plan or its maintenance because he is compensated by commissions on the products that clients invest in.

Berton would charge about $1,000 to develop a plan and would expect to revisit the plan every five years — more frequently, if warranted. The fee for monitoring the plan would be negotiated, with the commissions related to the insurance and investments taken into consideration. IE