by Thomas Johnson
Let me know if this sounds familiar… you open the mail and there’s your annual pension statement. It reads “if you retire at age X, you can expect a monthly pension of $Y.” After some quick mental math, you realize that $Y isn’t going to quite be enough for the retirement plans you have, so you throw away the statement and prepare for another year of work.
But what if it didn’t have to be that way? What if you’ve been focusing on the wrong number this whole time? What if there was a way to “unlock” some of your pension to fund the early years of your retirement?
Pension “unlocking” is a very real thing. Instead of taking the monthly annuity payment, you convert some or all of the lump sum (commuted value) into a self-directed and managed account. The rules differ far too much from province-to-province to address here, but the key point I want you to take away today is that you should be asking the questions: “can I do it?” and “is it right for me?”
Your first step is to understand if you can or can’t unlock some of your pension. In Manitoba for example, our provincial pension legislation allows for a one-time unlocking of up to half of the pension proceeds into an account called a “Prescribed Registered Retirement Income Fund” or PRRIF. If you understand the rules of your province, you can move on to the next question. Contact me for a list of provincial options depending on where your pension is legislated.
Is it right for you? This is a much harder question to answer and unique to each family. All financial decisions come with tradeoffs, pension unlocking being no exception. Examining the pros and cons can help lead to an informed decision:
Pros:
• Unlimited access to a larger pool of money at the start of your retirement.
• Potential for higher retirement income than the annuity payments if investment holdings perform well.
• Flexibility to adjust, up and down, your taxable income in retirement years.
• Unused funds can be bequeathed to heirs, for a potentially larger estate.
Cons:
• The funds need to be managed by yourself or a professional (no longer “set and forget”).
• Guaranteed income for life may be lost by poor investment performance or overly-aggressive withdrawals.
What kind of scenarios would you recommend a person unlock their pension? Glad you asked! If you go into retirement knowing you need higher income in the early years (finish paying off debt, extensive travel, expensive hobby, etc…), can handle the volatility that inherently comes with investing, and have the self-discipline to only take planned withdrawals and not splurge, unlocking your pension may be right for you. If you want to leave more money to your heirs, want to have more flexibility in your retirement income, or simply want more control of your retirement, unlocking your pension may be right for you.
If you lose sleep over what financial markets do, find it difficult to stick to a budget, or don’t want an active role in income planning, you may be best to stick with a fixed annuity plan.
by Thomas Johnson
By now, we’ve all seen the aggressive ad campaigns for discount brokerages and robo advisors on our TVs. They often feature a busy family having the hard discussion about firing their (human) financial security advisor to save on investment fees. The question they are trying to invoke from the audience is: “is it worth it to pay for financial advice or am I better off with a digital platform?” My goal today is to break down the components of that question and help provide a crystal-clear answer.
Let’s start off with the cost of advice. Before we can assess the value of advice, we must know the dollars-and-cents cost. The figure most commonly quoted in the industry, and contrasted in these commercials, is a fee of 1% of assets managed per year. This fee can be higher or lower depending on the advisor and the complexity of the client’s situation. It is also often discounted for larger investors as a $4 million portfolio is seldom 10x the complexity of a $400,000 portfolio; so 10x the fee is not practical. For the sake of our analysis, let’s stick with 1% as the standard fee. Therefore, on a hypothetical $100,000 of investments, the average Financial Advisor is charging a $1,000 per year retainer for advice, while the discount brokerage “saves” by not charging that $1,000 fee. $1,000 per year becomes our cost of advice for this scenario.
Next, let’s look at the services rendered by a digital platform. They will likely walk you through a risk tolerance questionnaire, perhaps some goals-based questions, recommend a portfolio based on how you answer the questions and keep you updated through online access and regular statements. That is very straightforward account setup and, if that is all your financial security advisor is doing, well worth saving 1% per year in comparison. The value of the discount platform is a risk-appropriate portfolio, meeting compliance and regulatory obligations, at a savings of $1,000 per year. Minimum-level service for a minimum-level price.
The next factor to consider is the value you are receiving from a financial security advisor. Assuming our hypothetical $100,000 portfolio costs $1,000 per year for advice, do you receive less or more than $1,000 in value? If your financial security advisor can produce $1,000 or more in value, then the cost of advice has been worth it for the year! If he or she does not add $1,000 in value, you may wish to explore other options.
What if that financial security advisor was able to generate significantly more in value than $1,000? What if their planning, advice and direction could save tens or even hundreds of thousands of dollars over the years? That kind of return can be far, far more valuable than 1% per year. Part two of this article will focus in on some specific ways good financial advice can far outweigh the cost and add tremendous value to your family’s finances.
This information is general in nature, and is intended for informational purposes only. For specific situations you should consult the appropriate legal, accounting or tax advisor.
by Thomas Johnson
If you haven’t read Part 1 of this article, I highly encourage you to start there for context. Part 1 was all about breaking down the question of “is it worth it to pay for financial advice or am I better off with a digital platform?” Part 2 is going to focus on just some of the areas where a good financial security advisor can offer tremendous value that far outweighs the cost of advice. Areas such as:
- Estate Planning. Improper estate plans can cost a fortune. In a scenario as simplistic as our hypothetical $100,000 portfolio, a Financial Advisor has many avenues to help saving clients money. If the Advisor names a beneficiary that the robo-advisor misses, it could pay off in thousands of dollars in legal costs for clients without a will. Choosing the wrong beneficiary on registered money (RRSPs, LIRAs, etc…) could cause a client to miss out on a tax-free spousal rollover and trigger up to a maximum of 50.40% in taxes in Manitoba ($50,400 in hard dollars in our example). Naming minor beneficiaries without a trustee could also leave your heirs unable to access the money, or a return on their investment for years, costing untold thousands in opportunity cost of investing that inheritance.
- Tax Planning. Each dollar you invest for your financial future has a tax consequence associated with it. Choosing an RRSP over a TFSA, or vice versa, has immediate and long-term tax implications. Allocating tax-efficient holdings to non-registered accounts and tax-inefficient holdings to registered accounts reduces income tax erosion. With that top tax bracket in Manitoba hitting 50.40%, making a single, poor tax planning decision easily outpaces a 1% cost for advice on allocating and managing those funds!
- Retirement Income Planning. Now that you’ve accumulated your wealth, turning the taps on in the right order and at the right amounts for retirement is paramount to your financial success. A good Financial Advisor will project out the optimal sequence for you to help avoid having Old Age Security clawed back, paying higher deductibles for Pharmacare, incorrect CPP timing, enable unlocking of Pension funds, and more. Each one of these has significant long-term costs that almost certainly outpaces the cost of advice to avoid the wrong decision.
- Investor Behaviour. We all like to think of ourselves as rational human beings. But when it comes to our money and investing, rash, emotional decision-making is all-too-common. From January 1st, 2020 to March 23rd, 2020 the TSX lost nearly 35% of its value. Many investors were ready to push the panic button and move out of the market in the wake of so much volatility. This action, left unchecked, would have crystalized losses and made the damage real. Having a financial security advisor in your corner who can coach you through emotional decisions and stay on track for your goals can help avoid some of the costliest investing decisions that can be made.
These are just a handful of the direct, value-added services of working with a professional financial security advisor. There are far more areas to be accounted for (risk management, insurance planning, cash flow management, etc.) and even some indirect benefits too. Such as less time spent working on your finances and better organization. If you want to get more value from your money and improve your finances by more than 1%, consider hiring the right (human) person for the job.
by Thomas Johnson
If you’re like most Canadians, at some point in your life you’ve experienced (or are currently experiencing) some stress or anxiety when it comes to personal finances. Debt levels, volatile markets, aggressive news cycles and big decisions all take a toll on our mental well-being. If you’re looking for a few simple ways to combat this strain and unburden yourself, here are a few suggestions:
1. Refocus on your goals. A way to alleviate financial anxiety is to take a step back and re assess your goals. Money is not and should not be your end game; rather, you should focus on what money can do for you and your family. Are you working towards buying a home? Retiring early? Taking a vacation? Ask yourself what your money is to be meant for and keep that mission at the forefront of your mind.
2. Build a plan. Take time to concentrate on the factors you can control (what you save, how you save, what you choose to invest in) and do the math to see if you’re on track. At your current pace, how long will it take you to be debt free? How long until you can switch careers? How long until you can hit that goal? By having a timeline in place for achieving your financial goals, you’ll feel much better about your current state and where you are in your journey.
3. Mitigate the risks. Ask yourself, “what can stop me from reaching those goals?” Would an unexpected injury, job loss, illness, or bear market put an end to your plan? If so, take the necessary steps to review and shore up your personal insurance protection (home, life, disability, critical illness etc.), build an emergency fund (three to six months of living expenses) and assess your investment allocation. Putting these guardrails in place will help you understand that your plans can run smoothly through any life scenario.
4. Work with a professional. You don’t have to go it alone and shoulder all the responsibility for your household financial decisions. Consider offloading some, most or all the weight on a financial security advisor you trust. Making one decision on who to work with will save you countless hours of energy and effort in your future decisions.
5. Ignore the noise. Take some time away from the things we all know cause stress. Social media and news outlets are competing for our attention, so sensational stories make the best stories. What happens in the outside world often has far less bearing on our household finances than you may think. You won’t lose anything by taking a break from the noise while you will certainly gain some relief. This information is general in nature, and is intended for informational purposes only. For specific situations you should consult the appropriate legal, accounting or tax advisor.
by Thomas Johnson
Nothing erodes a person’s finances more quickly than paying unnecessary taxes! While taxation is a necessity for a functioning society, paying more than you are required to is a detriment to yourself. The Canadian tax code allows us some flexibility to structure our affairs to be tax efficient, and these are a few tips to help you do so:
- Take RRIF Payments over RRSP Withdrawals. On the surface, this seems like a “po-tae-to / po-tah-to” scenario. Registered retirement income funds (RRIFs) are just a registered retirement savings plan (RRSP) income stream, so why would one be better than the other? RRIF payments are one of the eligible income sources for claiming the Pension Income Tax Credit while RRSP withdrawals are not. The Pension Income Tax Credit is a non-refundable tax credit on the first $2,000 of pension income earned in a year. If you have no other pension income, taking a RRIF payment will earn you a credit that RRSP money can’t!
- Allocate Tax-Preferred Investments to Non-Registered Accounts. Not all forms of investment income are taxed the same. Rent and interest are taxed at your marginal tax rate, capital gains are only half-taxed and eligible Canadian dividends earn you the Dividend Tax Credit. If you have both registered and non-registered investments, consider skewing your holdings so that the interest-bearing investments are tax-deferred while the capital gain and dividend-earning holdings sit in your non-registered accounts.
- Avoid Registered Withdrawals for Lump Sum Purchases. If you have a lump sum purchase coming up (new car, vacation, home renovation, etc.), avoid taking the funds for that project out of registered accounts like RRSPs, RRIFs, or life income funds (LIFs). Lump sum withdrawal from registered accounts are subject to withholding tax, then reconciled when you file your tax return for a refund or potentially additional tax owing. To get $10,000 out of your RRSP for example, you’ll need to redeem $12,500 pre-tax as 20% is withheld on redemption. These kinds of redemptions deplete your investment capital in a hurry!
- Time Your Income When Possible. If you have options to time your income payments across different tax years, it may be of a significant advantage to do so! For example, if you have a large severance benefit when you retire, consider retiring at the beginning of next year instead of the end of this year. That way you won’t have 10 or 11 months of taxable salary bumping up your tax bracket when the money comes in. Same with starting a Canada Pension Plan (CPP) or Old Age Security (OAS). If possible, deferring the start dates to the start of a year with lower taxable income can maximize the tax savings of your decision!
Being tax-smart with your retirement can add significant financial security and flexibility to your plans! As always, with any tax planning, you should confirm these decisions with your accountant to ensure they’re applicable to your circumstances.
Recent Comments