Getting ready for the coming retirement

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After 35 years in the same job, Nate is more than ready to retire when he turns 60 next January. Annabelle, who is 52, would like to quit at the same time.

They both work in manufacturing, he on the technical side and she in administration.

Annabelle and Nate plan to sell their house in a small southern Ontario town and move to their summer home on Lake Huron.

"We feel that once we are down to one home, we could easily get by on $35,000 a year after taxes but $40,000 would be more comfortable," Annabelle writes in an e-mail.

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They have savings, investments and defined-contribution pension plans that together with their two properties add up to nearly $1.5-million.

They wonder, is this enough?

They also have a number of questions about their investments. Should they switch their registered retirement savings plans (RRSPs) to registered retirement income funds (RRIFs) as soon as they retire? Should they sell their high-cost mutual funds to buy annuities?

We asked Neil Murphy of Weigh House Investor Services in Toronto to look at Nate and Annabelle's situation.

What the expert says

From a financial planning perspective, Annabelle and Nate really don't have any problems, Mr. Murphy says. "They easily have sufficient funds to retire."

But they do have problems with their investments. Their portfolio is "product-driven" - mainly expensive mutual funds - and "they have no plan to manage their portfolio as a whole."

Given the size of their holdings, Nate and Annabelle could consider moving to an independent investment counsellor, Mr. Murphy suggests. Investment counsellors manage money for wealthy people for an annual fee.

Alternatively, they could set up a passive portfolio of exchange-traded funds. He recommends an asset mix of 50-per-cent fixed income and 50-per-cent stocks.

The first step is to sit down with a professional adviser and draw up an investment policy statement, Mr. Murphy says. Without a policy statement, Annabelle and Nate "are making decisions on pieces of the portfolio rather than the portfolio as a whole."

Based on their holdings and their company pensions, they can easily generate $40,000 a year - even $65,000 if they'd like to spend a little more, Mr. Murphy says.

Nate will begin collecting his Canada Pension Plan as soon as he retires next January. As well, they are getting $1,100 a month in dividends.

Still, they will have very little in the way of taxable income at first so Mr. Murphy recommends they withdraw the minimum amount from their life income fund, or LIF. In Ontario, private pension plans are first rolled into a locked-in retirement account (LIRA). Then when the income is required, they are converted to a LIF, much like an RRSP is converted to a RRIF.

The difference between a LIF and an RRIF is that with an RRIF there is a minimum amount that must be withdrawn each year, while with a LIF there is both a minimum and a maximum. With both, there is no tax withheld on the minimum withdrawal amount, although tax will be withheld if more than the minimum is withdrawn.

"It makes sense to generate taxable income prior to age 71 as they will be in the lowest tax brackets," Mr. Murphy notes. If they need more money, they can draw it from their non-registered savings.

After age 71, they will have to convert their RRSPs to RRIFs or annuities and start withdrawing a set amount of money each month, which will put them in a higher tax bracket.

Mr. Murphy recommends they put as much of their interest-bearing investments as possible in their registered accounts to take advantage of the tax sheltering. Stocks should be held in non-registered accounts to take advantage of the dividend tax credit and lower capital gains tax.

Annabelle has asked whether they should convert the mutual funds in their non-registered accounts to life annuities so they would have some guaranteed income.

"This doesn't make sense at this time" because interest rates are so low, Mr. Murphy says.

"You should simply have a good asset mix and hold fixed-income or guaranteed investment certificate-type securities for the time being."

Because annuities provide a fixed payment each month over a long term (for example, 30 years), "it is always best to buy them in a high-interest-rate environment."

Nate and Annabelle wonder, too, if they should shift their defined-contribution pension plans to low-cost index funds with 40-per-cent bonds, 60-per-cent equities once they retire.

"Low-cost index funds will normally outperform expensive, actively managed funds over time, so this would make sense," Mr. Murphy says. While there is nothing wrong with the proposed asset mix, "it would probably be better to work from your own asset mix laid out in an investment policy statement."

Annabelle has also asked whether they should convert their RRSPs to RRIFs immediately so they would not have to pay withholding tax if they withdraw the minimum amount.

"The only benefit of this strategy would be to not pay the withholding tax, which settles up every April anyway on their tax bill," Mr. Murphy says.

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