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Nearing 50 and in debt

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Couple, 49, with large debts but substantial assets — mostly in real estate — and income want to retire at age 59 Sell unproductive assets — a trailer and lot they use occasionally — to reduce debts, plan income to cover future expenses In Alberta, a couple we’ll call Hugh and Toni, both 49, have come to a point in their lives where they are looking beyond middle age to a time when they will no longer be working. They have take-home income of $11,500 a month and about $2.15-million in total assets though much of that is in their home, cottage and a trailer they also use from time to time. They also have about $472,000 in line of credit debt. They would like to work less — Toni, a health-care professional, dreams of leaving her full-time job at a clinic in order to teach meditation and yoga for free. She would be giving up a good job with a $4,600 monthly pre-tax income. Hugh, a property management executive, would like to retire by 59. Or sooner. For now, however, the couple can’t afford to give up their well-paid jobs. Toni’s dream will have to wait. Family Finance asked Caroline Nalbantoglu, head of CNal Financial Planning Inc., in Montreal, to work with Hugh and Toni. “They do not know how to retire. They have been driving without a map. So far, they have been lucky, but they must devise a plan for migrating from work to retirement,” Ms. Nalbantoglu says. A good deal of their registered pensions are locked up in group RSPs. Hugh does not know how the plans operate. He does not know what his own investments are doing nor does he have a yardstick to measure their performance. So far, benign neglect has done them no apparent harm. Yet anticipating retirement with almost half a million dollars in debt and no plan to eliminate it is precarious, the planner warns. They have only one child left in university. Two others have graduated and are independent. The child in university has a $36,000 RESP, enough for a few more years of study. They need add nothing to the account. Their debt is in lines of credit at 2.3% interest a year. That’s a low rate, but the interest rates will rise and a 5% rate in a few years is foreseeable. They make payments of $3,233 a month, $38,796 a year. At present interest rates, their debt would be paid off in a dozen years when they are 61. They can pay down their debts even more quickly if they sell a trailer and lot with an estimated value of $100,000. With debt reduced to $372,000 by that sale, their present monthly payments would make them free of debt by age 59. Most of their assets are in RRSPs. Hugh contributes 6% of his gross $145,000 annual salary a year to his group RRSP. The employer matches the contribution so that Hugh’s total annual contribution is $17,400. Assuming their RRSP accounts with present balances of $969,758 generate a 3% annual return after inflation, then at age 59, in the first full year of retirement, they would have $1,508,729 in the RRSPs. Their TFSAs, with a current value of $35,000, would grow with annual contributions to $182,830 assuming 3% returns and $11,000 a year for ten years combined total annual contributions. Thus their total financial assets at the beginning of their 60th year would be about $1,691,560. That sum, generating 3% annual income after inflation, would provide $50,746 a year or $3,763 a month after 11% average income tax. They could use an annuity model which allows for spending all capital by age 95 to make investment income rise by half, but that would deprive their three children of much of their inheritance. Still, after age 71, RRIF payouts will rise by regulations. We are using a long RRSP payout average starting at age 60 blended with TFSAs that have no mandated payouts. Creative budgeting If their monthly expenses were reduced by eliminating the trailer and lot fees (which would still leave them with their cottage for vacationing), the 3% payout model would leave them with a monthly deficit of $2,437. That’s $29,250 a year. They can bridge the gap to age 60 and the start of CPP with asset sales. They could sell one home, preferably the principal residence to avoid capital gains tax. If they received $450,000 after painting, repairs and selling costs, the returns at 3% after inflation would add $13,500 a year or $1,000 a month after tax. Their total pre-tax monthly income would rise to $64,250 or $4,700 after 12% average tax. If they add age 60 CPP benefits, $13,556, reduced by 36% from their full age 65 benefits at an estimated 85% of the maximum, totaling $21,182, their total income would rise to $77,800 before tax. With careful splits of qualified pension income taken through Registered Retirement Income Funds and no tax on TFSA payouts, they could pay tax at a 14% rate and have $5,576 a month to spend. They would be $624 a month short of covering their $6,200 of expenses, but a bit of trimming of restaurant, travel and entertainment, current total $1,323 a month, would close the gap and make it unnecessary to dip into capital. That would still not support present spending with all savings and debt service removed. They would be seven years from the time they can receive Old Age Security. At 67, they would each receive $6,618 each in OAS benefits in 2014 dollars. Their total pre-tax income at age 67 would therefore be $91,036 a year. Assuming they divide qualified pension income and use all available tax credits, then after 15% average annual tax they would have $6,450 a month to spend. With only one home to be taxed and maintained, their income would finally equal expenses, Ms. Nalbantoglu notes. The irony of their situation is that they have ample means to generate more retirement income. But they would have to become active, involved managers of their money. Their present portfolios are invested in a blend of segregated funds which are mutual funds wrapped in life insurance to guarantee repayment of 80% to 100% of contributions if held for 10 years. These are secure investments, though they come with increased management fees to cover the guarantees. They also have a major investment of nearly $415,000 in a single cyclical asset. “Disorganization is not the same thing as diversification,” Ms. Nalbantoglu says. “The couple has a nice nest egg and, indeed, they have achieved a high degree of security already. They need to assess where they are going, how they will get there and, if that is too much to handle, they should hire an investment manager to help them.”