What is Retirement Planning?
Retirement means different things to different people. Retirement usually means you stop earning an income and start spending what you’ve saved for your retirement. Transitioning from working life is one of the biggest life changes people go through.
So it’s essential that you gather all the various sources of retirement income and then assess your ability to fund the lifestyle you want during your retirement life. It’s also important to give early consideration, on whether your plan is to continue your existing interests or start entirely new endeavors so essentially the more you save for retirement, the more lifestyle choices you’ll have available to you.
Most retirees have access to some income sources, Canadians generally rely on three distinct sources of income:
Some of the phases in our life cycle remain identical to everyone. Each phase below has a profound impact on our future development and this should be an essential part of every good retirement strategy. This dimension focuses on retirement planning through the four steps below, which help to evaluate how much should be set aside each year to retire comfortably.
- Determine your retirement age
- Determine the income you will need for retirement
- Determine sources of income you will be able to rely on
- Determine your saving needs
Risks During Retirement
Having a solid retirement plan can help you control your financial future. Yet even the best plans can be subject to the unexpected, unpredictable or unknown. While you can’t control these risks, you can address them in your planning.
There are five key challenges that any retirement-focused financial plan should address. Retirement risks add a layer of complexity, but Investwell advisor can help you understand how to best manage them.
Longevity increases over time, as a result, retirement now tends to last much longer than it used to. The inherent risk is that some people could end up underestimating their own life expectancy and therefore run the risk of outliving their capital. In other words, in some cases individuals may have 10 to 15-years of retirement and some may even last as long as 30 years or more.
Inflation that occurs long-term can significantly erode your buying power. When making investment decisions, many investor do not take into account the adverse effect inflation can have on their portfolios over time. This is particularly important for RRSPs when investments are made to provide retirement income for 10, 20 or even 30 years from now. For example, if annual inflation is at 3% in just 10 years, investors will have to withdraw over $130 from their RRSP to purchase the same products that cost $100 today. And in 20 years, that retiree will have to withdraw $180 to maintain today’s lifestyle.
Assessing your health-related financial requirements during retirement is a very important part of your overall financial strategy, even if it is somewhat difficult to narrow down some of these factors. Every case is unique, and your own circumstances may change with time. You must therefore try to predict your future healthcare costs by considering your current physical condition. However, keeping in mind that your health situation could change at any time, having a plan will help you avoid unwanted surprises that could ultimately compromise the longevity of your capital.
Not having enough income at retirement is not an option! Many factors, such as your rate of withdrawals will have a significant impact on your savings during this period. Too many withdrawals could end up seriously compromising the longevity of your capital. Inversely, investors with a lower rate of withdrawals could end up with more capital than initially projected, and could therefore turn the situation to their advantage. However, estimating the longevity of your capital based on inflation and withdrawals can be an arduous task.
You have most likely heard the saying “Don’t put all your eggs in one basket.” This is particularly true when it comes to investing, especially in situations where you are looking to preserve your capital. Some investors prefer to focus exclusively on highly volatile yet potentially high-paying investments, while others favour security. Balance is key and a sound portfolio diversification will offset some of the risks inherent to your selected investments such as market risk and premature capital depletion. That way, should one of your asset categories underperform, its effect on your portfolio would be lessened.
WHAT IS RRSPs
The easiest and most prudent way to manage taxes during your active work life is to make contributions to an RRSP. RRSPs allow you to defer income tax. The goal is to deduct your RRSP contributions while your income is subject to a high tax rate and withdraw the funds at a time when your income may be lower and subject to a lower tax rate. RRSPs allow you to reduce your annual tax burden while building retirement savings.
Benefits of RRSPs:
Immediate Tax Saving – Contributions to your RRSP are tax-deductible (subject to Income Tax Act limits) which will reduce the amount of income tax you pay each year. The more you contribute, the less tax you will pay.
Tax-deferred Growth – RRSP contributions will grow on a tax-deferred basis. The income earned in your RRSP is not taxed until it is withdrawn. While your investments sit in your RRSP, their growth is tax sheltered and so the total value may grow more quickly.
Systematic Approach – One of the most effective ways of saving for retirement is to commit to making regular contributions. Many people find that having money automatically deducted from their account each month is more beneficial for saving than relying on themselves to remember to put money yearly in a lump-sum into an RRSP.
RRSP Contribution limit:
You can contribute up to 18% of your earned income to a maximum of $ $27,230 in the 2020 tax year (minus pension adjustments from your company pension plan) in addition to unused contribution room from previous years.
RRSP Contribution deadline:
You must make your contribution within the first 60 days of the new year.
WHAT IS TFSA
Tax-free saving accounts were introduced by the federal government in the 2008 budget as an incentive for Canadians to save and invest for their future. A tax-free savings account is a registered savings vehicle, where contributions are made with after-tax dollars and withdrawals are tax free. This means that money can be earned in the account and withdrawn at any time without being taxed.
TFSAs can hold the same investments as other registered accounts, including mutual funds, segregated funds, stocks, bonds, and GICs. But they are different from RRSPs because any amount withdrawn from the account is automatically added back to the contribution room for the following year. Any unused contribution room can be carried forward indefinitely for future years.
Information you need to know & TFSA Limits
TFSA contributions, including the replacement or re-contribution of amounts that you withdrew from the account during the year, reduce contribution room. Also, withdrawals made from your TFSA in the previous year increase contribution room in the current year.
Qualifying transfers, exempt contributions and specified distributions are not considered in the calculation of contribution room.
|Years||TFSA Annual Limit||Cumlative Total|
|2009 – 2012||$5,000.00||$20,000.00|
|2016 – 2018||$5,500.00||$57,500.00|
|2019 – 2021||$6,000.00||$75,500.00|
How taxation affects the choice
When choosing between a TFSA and an RRSP, one of the main considerations is your current and future levels of taxation.
Generally, individuals who expect to have lower tax rates during retirement in comparison to their working years benefit more from the RRSP, while others would benefit more from a TFSA.
When choosing between the two accounts, individuals should consider how much tax they will be paying in retirement. Another consideration may be an individual’s eligibility for income-tested benefits such as Old Age Security and the Guaranteed Income Supplement. Unlike income from an RRSP or Registered Retirement Income Fund, which is included when calculating these benefits, withdrawals from a TFSA do not affect the level of benefits received. It should be kept in mind that every individual faces different circumstances and financial needs.
Our goal is to help you take the right steps to prepare for financial independence and successfully transition into retirement
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