Articles on Saving and Investing
How Can You Meet Your Retirement Goals
Imagine that you are about to retire and looking back at your life. You can see the various stages that you experienced. In your thirties, you started your family and career. You purchased your first house, a brand new car and did not have much left to build up your RRSP.
In your forties, you got more serious about saving for retirement, as you became more established with your career. Your net worth increased and you managed investments to maximize growth and minimize taxes.
In your fifties, while you were seeking healthy investment returns, you did not want to bet the farm. Your goal was preservation of wealth and you focus was on preparing for retirement.
With retirement about to happen, it is time to switch to more conservative investments to protect your assets from market fluctuations.
This sounds like a nice blueprint. But to meet your retirement goals, you need a real life strategy that does not involve betting your savings on lottery tickets. So here are a few practical ideas on planning your retirement.
Start Saving Now
The sooner you start, the more time you have to build up your retirement nest egg. If you don't already have one, open an RRSP. You get an immediate tax-break and your interest and principal grow tax-free. Only withdrawals will ever be taxed and by the time you are retired, it is very likely that you will be in a lower tax-bracket and income tax will be lower with announced reductions.
If you're laid-off or are in a financial crisis, never dip in your RRSP. Keep an emergency fund of liquid assets that will cover your expenses for 3 to 6 months.
Make Retirement a Priority
It is not unlikely that you retirement years will be longer than your active working years. To get a handle on how long you may live, try our Life Expectancy Calculator. Life expectancy is based on existing statistics for the average population. If you're healthy and take care of yourself, you should add at least five years to this number. If your family has a longevity history, add even more. And don't forget, that the advances in medicine and a better quality of life will extend life even further in the future.
For many people who will retire in the next 10 or 20 years, retirement will be more important than the "active" working career. Retirement will be long, varied and fulfilling. Financial preparation for this long period of our lives must be at the top of our priorities.
Consider carefully the level of your expenses. The rule of thumb says you should plan for 70% to 80% of current expenses. This rule assumes that your expenses will go down after retirement. Your commuting, clothing and lunch expenses will disappear, your mortgage will be paid off and you will no longer need to save for retirement. But if you plan to travel extensively, go back to school, and fully maintain your standard of living, expenses may very well be at least 100% of current expenses. Your spending may taper off with reduced activity in late life, but then you may have to pay for expensive long term care for you or your spouse.
Do not Count on Full Government Benefits
We all heard predictions that the Canada Pension Plan would run out of money when it's our turn to retire. While this may have been true a few years ago, it seems that the provincial governments have now put their act together and revised the funding and contribution requirements to meet the future needs of our aging population. (for more information, read Will there be a CPP When You Retire?).
However, in the same breath, although it is here to stay, Old Age Security is shifting its focus from a "universal" program available to everyone without regards to their means, to a "selective" program providing income to those of us with the least financial resources. This is achieved with the "claw-back" provision of the OAS (If you want to see how much Old Age Security will be clawed back, try our OAS Claw-back Calculator).
We are always presented with the maximum amount that the Canada Pension Plan (or Quebec Pension Plan) will pay at age 65. However, this assumes that you earned the maximum pensionable earnings (currently $38,300) for 40 years between age 18 and 65. This is easier said than done. Anything short of that and your CPP goes down.
Thus, it is important to plan your retirement assuming that you will be getting less than the maximum government benefits.
Plan to Work Part-time After Retirement
With advances in medicine and a healthier lifestyle, retirement may be longer than your working career. Therefore, you will need a lot of activities to occupy your time. Why not work part-time in your field, develop a sideline business or acquire a new skill? The additional income will provide you with additional flexibility to do things that you enjoy such as travelling, skiing or golfing.
Think Carefully Before Buying a Vacation Home
Money spent buying and maintaining a second residence is money taken away from your retirement. Too often, it is not a good investment. You'll know if this sounds right to you: if your dream is to live close to nature or in a sunny location, then having this cottage or condo makes sense, but you must ensure that you have sufficient liquid assets and other income to pay your living expenses.
Don't Retire Early
If you do not want to ever run into dire straits during your retirement, don't retire early. With early retirement, you often walk away from the most productive earnings years of your career. If you have a company pension, your pension may be reduced significantly when you retire before the age of entitlement to a full pension. In addition, you cease accruing years of service and it hurts both the company pension and the Canada Pension Plan.
As well, if you need to draw from your investments to supplement your income during your early retirement years, you lose precious years of compounding on the funds you use. Unless you're planning to start a business, or have a way to replace your income in a significant way, early retirement will cut into nest egg, pension plan and government benefits.
Contribute to Your RRSP Even if You Have Enough Money
The tax refund is unbeatable. Contribute the maximum allowed amount to your RRSP each and every year even if you already have enough money for retirement and even if you think you need to withdraw it later. The tax-deferred growth will do wonders to your investment returns. Your returns are higher because there is no tax, and the compounding provides incredible leverage.
Don't Pay Down Your Mortgage
Don't be house rich and cash poor. Instead of paying down the mortgage, invest the money. Otherwise, you'll have a lot of home equity and a smaller nest egg, and you will be able to access this money by selling the house or getting a reverse mortgage. It will reduce your flexibility at retirement.
Don't Count on an Inheritance
You thought baby-boomers had it made? Well, the biggest wealth transfer in history will take place over the next 20 years, as baby-boomers receive inheritances from their parents. However, it may be prudent not to count on this money for your own planning. You parents' nest egg may be eaten up in many ways.
First, if they live to be very old, it is likely that they will require long-term custodial care. Second, current elderly persons tend to invest in savings accounts, term deposits and GICs that earn not much more than the rate of inflation.
Their will, if they have one, will split what remains of the estate among children, grandchildren and possibly charities. And of course, the Government will get its cut in the way of estate taxes and taxes in the final income tax return. For example, if a registered retirement income fund is not transferred to the other spouse on death, the full amount is included in the final return.
Don't Give Money Away
It may sound as a wonderful altruistic gesture or a great tax strategy, but you probably will need this money at some point in your retirement. Don't give unless you have much more than you will ever need. This rule may be true even with respect to your children's education. Your retirement is more important than funding their education. There are loans and work programs for students. If you run out of retirement money, you don't have any other options. And as much as they love you, they may not be thrilled with the idea of taking you as a roommate forever.
Formulate Your Investment Strategy
You must formulate an investment strategy in line with your needs and goals, with which you are comfortable, and with a level of risk that you can tolerate.
Learn about the various asset classes. Cash or cash equivalents include investments such as savings, treasury bills, money market funds, Canada Savings Bonds. Fixed income investments are term deposits, GICs and corporate bonds. Equity investments are stocks and equity mutual funds.
You can invest for various reasons, such as income, growth or safety or a combination of these. Income means you will seek investments that will provide a steady stream of income. With growth, you are seeking a better return but you risk a loss of your principal. For safety, nothing is better than cash or cash equivalents. Overall, you should hold several investments to ensure that you are at all times properly diversified. This will smooth out fluctuations that may happen from time to time with a particular investment or type of investment.
While in your 20s and 30s, most of your portfolio will be in growth-oriented investments if you don't mind the risk, near retirement you will tend to hold less risky investments.
If handling your own investments is too overwhelming, consider hiring a financial advisor. These professionals will suggest strategies for investments, help you develop a financial plan, organize your estate and minimize taxes. Financial institutions also provide these services.
You may have a lot to learn and it is important to raise your level of knowledge, because investments decisions will affect the rest of your life. Be an informed investor: read books, magazine, go to seminars or on the Internet.
Even if you get the best team of advisors, don't invest in things you don't understand. Don't invest if you'll be worried all night and most of all, review your portfolio regularly and ensure you are achieving the returns that you will need to retire comfortably.
So, in a nutshell, our golden rules are:
- Start Saving Now
- Make Retirement a Priority
- Do not Count on Full Government Benefits
- Plan to Work Part-time After Retirement
- Think Carefully Before Buying a Vacation Home
- Don't Retire Early
- Contribute to Your RRSP Even if You Have Enough
- Don't Pay Down Your Mortgage
- Don't Count on an Inheritance
- Don't Give Money Away
- Formulate Your Investment Strategy