Robert and his spouse Elaine are 2 years away from turning 65, at which time they would like to retire after working hard, raising a family and saving for retirement for many years.
Robert has worked for the past 32 years at a small manufacturing business, for many years as a line worker and more recently as a production line manager. His salary is now $60,000/yr. The company does not provide a pension plan but instead contributes 5% of Robert’s base salary to his RSP each year. For the past 10 years, Robert has also made extra contributions to his own RSP and a spousal RSP for Elaine.
Since marrying Robert in 1963, Elaine has managed the household and raised their four children. She has not worked outside of the home.
At retirement, Robert and Elaine will be eligible for the following public plan payments:
|
Robert - Canada Pension Plan (“CPP”) |
= $ 9,850 /yr. |
|
Robert - Old Age Security (“OAS”) |
= $ 5,892 /yr. |
|
Elaine - Old Age Security (“OAS”) |
= $ 5,892 /yr. |
|
Total Public Plan Income: |
= $21,634 /yr. |
(The above figures are 2007 maximum payments for OAS and 95% of maximum for CPP)
After retirement, they thought they could get by on about 70% of their pre-retirement income. This means Elaine and Robert will need about $42,000 in income in retirement (70% x $60,000 = $42,000). With only $21,634 provided from public plans (see above table), income from their own retirement savings will have to fund the balance of $20,366.
The amount of savings needed to generate that additional annual income of $20,366 at different rates of return is shown below.
|
% Return Earned |
Savings Needed to Earn $20,366/yr |
|
3.5%
4%
5%
6%
7%
8% |
$ 581886
$ 509,150
$ 407,320
$ 339,433
$ 290,943
$ 254,575 |
(To simplify, we assume that future inflation and rising costs will be handled by Robert and Elaine taking on a reverse mortgage on their home to borrow the additional amounts needed to top of their income to offset such cost of living increases and any other extraordinary expenses they may face.)
Robert and Elaine have been good savers given their modest station in life and the demands of raising four children (braces, hockey, college help etc.) and paying off a mortgage. They are proud to have accumulated $275,000 in RSP savings. Based on past interest rate levels, they had been expecting to earn income returns of 7-8% at retirement.
They now face the unhappy situation that millions will face. If the federal government’s income trust proposals are implemented, they will no longer have access to higher yielding income trusts that could provide the 7.4% in income returns they need to sustain their current standard of living ($275,000 x 7.4% = ~ $20,366). This then leaves them with the following choices:
1. Cut their Lifestyle in 1/2: Invest the $275,000 they have saved at the current low rates on other income investments. But that will generate only $10,725 in income ($275,000 x 3.9% = $10,725), about half the $20,366 needed to sustain their already very modest lifestyle. In total, their post-retirement income would then be about half their pre-retirement income. In this case, there will be no gold in Robert and Elaine's "golden years". Instead, they will be "lean" years. Certainly not what they expected or planned for.
2. Work until 75: Save $247,205 more so they will have enough savings to generate $20,366 at the low rates paid on other income investments [($275,000 + $247,205) x 3.9% = $20,366]. This would maintain their modest pre-retirement lifestyle but would delay their retirement for about 10 years or so to age 75. They have been responsible citizens, parents and savers in a wealthy country. Why do they find themselves having to work so late in life ? It would be a big shock.
3. 100% Stocks at 65 ?: Try to reach for higher returns through investing their accumulated savings in traditional common stock investments. But at 65 they can’t really stomach the gyrations of the stock market and the sleepness nights and stress that comes with extended market downturns. This would not be advisable or workable for them. They need regular income to live on, not the "hope" of capital gains that may in fact turn out to be capital losses.
These are unhappy choices indeed. Its a recipe for a lot of hardship and distress. We should all expect to be dealing with the fallout of this.
See the "Policy Issues” page of this website for a look at some of the social and economic impacts associated with these trends and other important policy questions
