The article “How To Choose A Retirement Date” was originally published on MoneySense on May 19, 2015.
Don and his wife are worried that they will pay too much tax if they keep working and accumulating retirement savings
Q: With $560,000 in RRSPs between my wife and I, $37,500 in TFSAs and another $120,000 in savings, is it wise to stop working now or continue to 65? I am currently collecting $870 from the Canada Pension Plan (CPP), but also working. I am on track to earn $100,000 or more. My wife will collect $600 per month from CPP when she starts to collect. We are both 63 and cannot decide when to stop working. I am trying to sort the tax problems of working too long before spending.
—Don
A: There is a fine balance between work and retirement, Don. Many people who are still working want to be retired. Some who are retired miss working. But as you approach retirement, you owe it to yourself to try to figure out if you’re ready to retire financially as well as from a lifestyle perspective.
First, Don, let’s do some number crunching.
In addition to your CPP retirement pensions, you should both likely be entitled to Old Age Security (OAS) pensions of up to $564 per month each at 65. This is the current maximum and is indexed to inflation, so will likely be $15-$25 per month higher in 2 years when you’re both 65, depending on inflation.
If we assume that you retire now and start taking withdrawals from your RRSP now and increase those withdrawals at 2% inflation each year–creating a notional indexed pension–you can take about $28,000 per year, in addition to your CPP and OAS pensions. This assumes that your RRSPs earn a 5% average annual return and that you live until age 90 years old, more or less depleting your RRSPs by then.
This puts your income at about $60,000 per year. Your tax payable would be minimal–likely $3,000 – $5,000 depending on tax credits and deductions and your province of residence.
Assuming you’re OK dying broke, I figure you can probably spend about $60,000 per year, indexed at 2% inflation, drawing down modestly on your $120,000 in savings along the way. You should probably use those savings to make TFSA contributions each year as well, to try to shift taxable non-registered investment income into a tax-free environment in the TFSA. In the meantime, given your modest $30,000 taxable incomes, consider investing some of your non-registered savings into Canadian equities, as the dividend income will likely be tax-free or close to it depending on your province of residence.
Strictly from a tax perspective, Don, I don’t think you and your wife are going to be all that highly taxed in retirement. You’ll likely pay an average tax rate of 5-10% a year, depending on your tax credits and deductions and your province of residence, which is very minimal. You’re paying a high rate of tax right now given your salary, but even then, at $100,000, the range of average tax rates across Canada is between 25% and 32%–so you’re still left with about $68,000 after-tax at worst.
I’d be inclined to base retirement on your ability to cover your retirement expenses, primarily, Don. I estimated a budget of $60,000 per year using some very rough assumptions. If you factor in sporadic expenses like new cars, home repairs, children’s weddings and so on, perhaps your actual budget should be less. It also depends on your expected investment rate of return, life expectancies, potential inheritances, potential downsize and so on. Your actual target budget may be higher or lower. But a retirement plan will at least help you assess if you’re ready to retire financially based on your own parameters, assumptions and stress testing.
If the math works out–are you ready, Don? Being ready goes beyond just the numbers. Shifting from work to retirement is easier for some than others. But don’t just base it on how much tax you’re paying now or expect to pay in the future. Tax is a small consideration generally and a small impact for you and your wife.
Jason Heath is a fee-only, advice-only Certified Financial Planner (CFP) at Objective Financial Partners Inc. in Toronto, Ontario. He does not sell any financial products whatsoever.
