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financial facelift

Facelift

Carlos is a retired health-care professional, Elena a teacher. They are both 57.

The couple's $400,000 home in southwestern Ontario is fully paid for. They also have a cottage property on the west coast of Vancouver Island where they hope to build a modest cabin soon. Their two children, in their early 20s, are living on their own.

Over the years, Elena and Carlos have made some good business and real estate decisions. They now have a sum of money that they have just begun to manage themselves, investing mainly in dividend-paying stocks. But they're new to financial markets and wonder how they can generate more income and still guard against a market downturn.

"We feel we are making it up as we go on," Elena writes in an e-mail. "We've always had a business plan and hope a 'financial facelift' will set us on the path to one."

As former residents of Britain, they want to continue contributing to their public pensions there until they are 65. Carlos will also receive a small pension from a previous employer. Both have unused contribution room in their registered retirement savings plans and tax-free savings accounts.

Recently, Carlos inherited $100,000. About the same time, they sold part of their Vancouver Island property for $170,000. They have no idea how much they will need to live on once Elena is no longer working, but they want enough money to travel. Elena expects to get a $45,000 lump-sum payment as part of her retirement package.

We asked Eric Davis, senior investment adviser at TD Waterhouse Canada Inc. in Kamloops, B.C., to look at Carlos and Elena's situation.

What the expert says

At present, Elena and Carlos are spending about $80,280 a year including income taxes, Canada Pension Plan contributions and employment insurance, Mr. Davis notes. Their CPP, EI and pension plan contributions will stop when they retire, freeing up $13,080 a year. Debt payments, life insurance and RRSP contributions might also stop.

As a rule, most Canadians require 50 per cent to 70 per cent of their working income to maintain their standard of living during retirement, Mr. Davis says. Elena and Carlos's income stream from pensions, the Canada Pension Plan, Old Age Security and dividends will total $74,669 before taxes. Their RRSPs could easily supplement this figure by $16,000 a year (based on current value of $534,500 invested at 3 per cent a year), thereby resulting in annual income of more than $90,000, leaving them plenty of money for travel.

Elena and Carlos have invested mainly in stocks, but they are concerned about protecting their investments from future stock market downturns. To do so, the planner suggests they shift some money to guaranteed investments - GICs, bonds, mortgages and preferred shares. They don't need to take much risk to meet their financial goals because of their pensions.

He suggests their assets be allocated 60 per cent to 80 per cent in fixed income (GICs, corporate and high-yield bonds, and preferred shares) and 20 per cent to 40 per cent in a basket of diversified stocks.

The easiest way to increase the fixed-income component would be to place 100 per cent of their RRSP and TFSA funds in interest-bearing vehicles, Mr. Davis says. He suggests Carlos and Elena also hold some preferred shares in their non-registered accounts because they will pay little tax on the dividend income and preferred shares are less volatile than common shares.

"The only other solution is to consider annuities or variable annuities; however, given your excellent pension base, I do not see the need."

Mr. Davis suggests Elena top up her RRSP because she is near a 40-per-cent tax bracket. Once her contribution room is used up, they should contribute as much as possible to their TFSAs.

They should arrange things so that the interest they are paying on their credit line is deductible if possible, the planner says. If the withdrawals from the credit line are deposited into an investment account, for example, the interest would be tax-deductible.

When Elena retires, the couple will have significant opportunities to reduce taxes by income-splitting opportunities, Mr. Davis says. "CPP can be split once they are over age 60, and RRIFs and company pensions can be shared with your spouse once you are over the age of 65." (RRSP income cannot be shared.)



CLIENT SITUATION



The People

Elena and Carlos, both 57



The Problem

Figuring out whether their pensions and investment income will give them enough money to live comfortably and do some travelling. Organizing their portfolio to guard against a stock market downturn.



The Plan

Take advantage of Elena's unused RRSP contribution room ($11,900), then put money into TFSAs. Shift registered assets to fixed-income securities and preferred shares, as well as the latter part of their non-registered holdings.



The Payoff

A secure retirement, a cabin on Vancouver Island, and a portfolio that will allow them to sleep at night.



Monthly net income

$6,840



Monthly disbursements

Elena's employer pension plan $670; groceries, eating out $700; clothing $100; property taxes $550; house insurance $120; utilities $250; phones, cable, Internet $350; repairs, maintenance $100; entertainment, travel $600; auto expense $80; loan payment $1,000; life and group insurance $225; donations, gifts $200. Total: $4,945. Savings capacity: $1,895.



Assets

Bank accounts $13,000; property sale proceeds $170,000; inheritance $100,000; stocks, non-registered $380,000; Carlos's TFSA $15,000; Carlos's RRSP $379,000; Elena's RRSP $155,500; residence $400,000; property $180,000. Total: $1.79-million.



Total pensions, age 65 (excluding CPP, OAS): $43,555 a year.



Liabilities

Line of credit $33,500.





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