Frank and Caroline have been saving year after year, forgoing a lot of self-indulgences just so they can retire comfortably one day. Now all their hard work is about to pay off as their retirement date nears -- so they hope.
"We think we're ready," says Frank, an aerospace worker who earns about $57,000 a year.
The couple doesn't have extravagant retirement plans and believe the more than $500,000 they have invested in mutual funds in RRSPs will be enough to fund their modest plans.
"I'm going to be poking around the house and the yard," Frank says. "We'll probably do some travelling, but nothing big -- maybe one winter vacation a year and one road trip during the summer."
In his early 60s, Frank would like to retire in about six months, but he will work longer if need be.
Caroline, in her mid-50s, plans to work two more years at her job with a local school division, earning about $30,000 annually.
While their financial adviser has assured them they can afford to retire as planned, Frank and Caroline would like a second opinion.
"Our planner is quite thorough, but I want to make sure that I'm going to be ready," he says. "What I really want is that second opinion to find out where we sit financially."
Certified financial planner Karen Diamond examined their retirement plan and says they are on track to retire as planned, earning an income for several decades that will cover 70 per cent of their current expenses.
This is good news, but there are a few potential problems that could foul up their plan.
"Based on simply crunching the numbers, it might appear that Frank and Caroline could achieve their target retirement income with their current savings if all the assumptions regarding lifestyle needs, inflation factors, income sources and projected rates of return unfold as per initial guesstimates over the next 30 years or more," says the Winnipeg adviser with Diamond Retirement Planning. "But reality never unfolds in a straight line, and small differences in any of the factors could skew the outcome significantly."
For example, if inflation and market returns are not as expected -- that inflation is higher and returns are lower -- they will have to reduce spending or face the prospect of running out of money.
Based on a 30 per cent reduction in their current annual spending of about $50,000, indexed at two per cent inflation, they need their investments to average annual returns of 5.5 per cent.
This strategy involves a fair amount of risk for a retired couple, she says.
"I would not feel comfortable about their ability to achieve that rate of return over 30-plus years with a moderately conservative portfolio suitable for a retired couple depending mostly on their personal savings to produce income."
If inflation averages three per cent during retirement, they would have to reduce their spending by $6,000 a year to keep up with costs.
"If the numbers suggest it's tight but doable and their income sources come with lots of variables, I would counsel them to consider a more gradual approach to full retirement," she says.
Neither of them has a defined-benefit pension plan, so they will have to rely heavily on their savings. Their only guaranteed income is old age security and the Canada Pension Plan, which are indexed to inflation, but these pensions only make up roughly half of their total retirement income.
Moreover, Caroline will have to wait until age 66 to receive OAS.
Making matters even dicier is the fact most of their wealth is invested in registered accounts, so all withdrawals to create the other half of their retirement income are fully taxable.
Diamond says creating income from investments in retirement has little in common with receiving a regular paycheque while working. It involves a lot of planning and variability, so the more breathing room they can build into their plan, the more likely it will turn out as intended. As a result, Diamond suggests Frank should consider transitioning into retirement more slowly.
"By that I mean being prepared to work part-time for a few more years to bridge the gap until their government benefits can provide a bigger source of their basic income."
They should also carefully track their spending to ensure their estimated expenses are realistic, because Diamond suspects they have overlooked money for vehicles and home repairs.
With so much of their wealth tied up in registered accounts, any lump-sum withdrawal to cover these costs could be subject to significant taxation.
To avoid this, they should develop a strategy to withdraw cash from their registered accounts tax efficiently, in turn contributing those withdrawals to their TFSAs. Until now, their TFSAs have been largely ignored in their savings plan, but in retirement, these would provide an excellent source of a tax-free income for big-ticket costs.
While retirement is within their grasp, Diamond says it's always best to transition into retirement gently instead of calling it quits.
"Transitioning involves a little bit of part-time work, but it does not have to have negative connotations," she says.
Instead, this strategy would help take some pressure off their savings early in retirement, reducing the risk of over-withdrawing early on while underachieving with investment returns -- a situation with negative long-term implications.
So yes, they can retire as planned, but exercising a little more caution can only help stabilize their future, Diamond says.
That may not involve delaying retirement, but taking a more critical eye to their plan. Asking those 'what if' questions is never a bad idea, she says.
A retirement plan is always a work in progress that needs regular maintenance.
"Frank and Caroline especially need to revisit their plan often in the early years to make sure they are on track and that their plan reflects all the new realities as they have unfolded."