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This article was published 18/10/2014 (1221 days ago), so information in it may no longer be current.
Max and Ruby aren't all that different from other Manitobans: In retirement, they'd like to spend winter somewhere warm and during the summer, they want to relax by the lake.
Where they differ from most is how they plan to fund it.
While Ruby, in her early 50s, can count on a government pension — like many other Manitobans — Max will largely rely on his successful business to provide retirement income.
"My business is my RRSP," says Max, in his late-50s.
He doesn't plan to sell his business or pass it on to his children. Instead, he plans to close shop and liquidate.
"I will conservatively get between $800,000 and $900,000 out of it," he says, adding both he and Ruby are no longer eligible for the lifetime capital-gains exemption for business owners, having used it after selling a previous business.
Once the assets are sold, the corporation will remain in place, paying out a dividend to both Max and Ruby, providing tax-efficient income throughout retirement.
Even though they have savings and property exceeding $1 million in addition to the business assets, Max says he is still concerned whether they will have enough money for the next three decades to maintain the lifestyle they've grown accustomed to.
"The question I have is when I look at all the money we're making is where the hell does all of it go?"
Max estimates they spend about $70,000 annually and they will need about $100,000 to $120,000 a year before taxes to maintain their lifestyle. Despite having access to financial professionals to help run the business, they have never sought the advice of a financial planner.
"I want an unbiased opinion," he says, adding he plans to take CPP at age 60. "Does our plan make sense?"
Certified financial planner Daryl Diamond says retirement planning doesn't differ that much for business owners than it does for other people — except for the additional benefit of the business potentially becoming an income-producing asset.
"The issue is in knowing how to make the retained earnings in the company produce enough income for them when they retire while tax-efficiently blending it with other sources of income," says Diamond, author of Your Retirement Income Blueprint and owner of Diamond Retirement Planning in Winnipeg.
To illustrate his point, Diamond has laid out a plan to draw income based on the numbers they've provided.
When they retire in about five years, Max and Ruby should have about $2.2 million in income-producing assets — business and personal.
Diamond says Max should take his CPP, which would be about $450 a month at age 60 because he has not contributed to the plan in a few years while earning dividend income from his business.
"If Max waited until age 65, he would have 11 years showing zero contributions to CPP," he says.
"So waiting could actually be harmful to his benefit, not helpful, and the same applies to Ruby if she is retiring at age 55."
As for taking income from the business for retirement needs, choosing to receive non-eligible dividends is a sound strategy because it will save them on taxes in the long run, Diamond says.
Here's how the numbers play out.
"At age 65, Max's payments from the company would come after having established a fully taxable base of income using his CPP, OAS and $18,500 from his RRSP / RRIF, based on a five per cent payout rate for a total $31,500 a year."
At the same time, Ruby would be earning about $27,600 from her pension.
"Max can also split 50 per cent of his RRIF income with Ruby, which he should do since the payout rate of dividends from the company, based on the current numbers, is roughly $1 to Ruby for every $3 for Max."
This would create a fully taxable base income of $22,250 for Max and $36,850 for Ruby. Next up is the income from the business.
"The dividend tax credit for non-eligible dividends paid from a small business works in such a way that the amount of dividends is grossed up by 18 per cent for the purposes of calculating taxable income."
This results in a very tax efficient source of income, so if Max was paid $40,000 in non-eligible dividends from the company ($47,200 with the gross up), his total taxable income from all sources would then be $69,250, keeping him below the OAS repayment threshold of $71,592 based on 2014 limits.
After taxes, his income would be about $50,200. Ruby would receive non-eligible dividends, about $13,300 worth, creating a total taxable income for her of $52,544, Diamond says.
This would provide Ruby with an after-tax income of $40,497. In total, the couple would have an after-tax cash flow of more than $90,000, exceeding their income target.
"They could have more paid out from the company should they wish to or need to," he says.
"If they do, however, Max's level of taxable income will start to erode his OAS entitlement."
Of course, they could always look to their TFSA for extra cash without tax implications.
"It would be beneficial to look for ways to fund these accounts to their maximum as they move through retirement," says Diamond, adding they have yet to maximize contributions of $31,000 each to their TFSAs, amounts that will increase by $5,500 annually per individual.
Diamond says one way to make the most of these tax-free savings accounts is having additional dividends from the business paid to them so the after-tax proceeds can be used for contributions.
"They would just want to be sure they don't draw too much in dividends, though, so they are bumped into a higher tax bracket or losing OAS income."
By the time they retire, they will have created a sizeable tax-free slush fund for emergencies and spur-of-the-moment big-ticket costs.
So it appears Max and Ruby's retirement plan is on the mark. It's now just a matter of minding the details, Diamond says.
"If the details are thought through and mapped out in advance, then they can rest assured their needs will be met in a tax-effective way throughout retirement."