In British Columbia, a couple we'll call Sylvia, 48, and Henry, 49, have an annual combined net income of $80,000. They have a house they figure is worth $469,000, a couple of cats, no kids and a life they feel is constrained by lack of money. They aspire to helping others more than to building up wealth, but they would like to improve their standard of living.
"We would like to make improvements to our house and yard, take a tropical vacation once every year or two, and we want to replace our 22-year-old car," Sylvia says. "But should we pay off our mortgage sooner?"
What our expert says:
Facelift asked Derek Moran, head of Smarter Financial Planning Ltd. in Kelowna, B.C., to work with Sylvia and Henry to help them balance debt management and spending, the core of their issues.
"The couple want a financially more comfortable life," Mr. Moran explains.
"They have no aspirations to be rich, nor are they in a hurry to retire. But Sylvia's work as a nurse can be physical and even potentially injurious. She wants to quit work before that happens - age 60 appeals to her. Henry, a social worker, is content to work to age 65. That is the easy part. The harder part is to manage their balance sheet."
Assets under their control include their house and $169,000 of registered retirement savings plans. Their liabilities consist of their mortgage, $128,337 with a 4-per-cent rate of interest, and a $36,690 line of credit with interest at prime - currently 4.75 per cent.
They should focus on a strategy for debt reduction, Mr. Moran says.
First, pay off the line of credit. That will take 2½ years if interest rates stay the same. Then the couple can shift the monthly $1,189 payment they make on their line of credit to accelerate payments on their mortgage, currently $1,686 a month. That will save them $5,040 in total interest and enable them to pay off the house two years sooner than the 7½ years left on its amortization, the planner estimates.
After the mortgage is retired, which should be in 5½ years, they can begin to build up non-registered savings with the $2,875 a month ($34,500) that they will have been paying on the mortgage. After five years, assuming savings grow at 6 per cent a year and inflation is 3 per cent a year, savings should total $183,165 in 2008 dollars on a pretax basis. After 10 years on the same basis, the account would add up to $395,504, the planner says. This fund would cover house repairs, travel, a new car and more.
Sylvia and Henry are paying $96.35 a month or $1,156.20 a year for mortgage life insurance sold by their bank. This is a very high cost for a policy that can never pay more than the declining balance of the mortgage, Mr. Moran notes. A conventional 10-year term policy sold by an independent agent could replace the bank-issued coverage for $54 a month and offer a rising benefit to the couple as the mortgage is paid down. The couple could switch to the less-expensive term policy and save $508 a year, he explains.
There are other economies that the couple can make to increase their investable cash flow. They have bills of $200 a month for care of two cats. Pets are an emotional issue, but Henry and Sylvia could try to find less costly ways of caring for them. They could also rent out a basement suite at an estimated $700 a month. That might impair their privacy, but the cash flow would pay for the lease cost of a very good car or a fine annual holiday. As well, getting a job closer to home would help Henry cut the cost of his one-hour daily round-trip commute.
Henry and Sylvia have each built up credits in employment-related pension plans.
Henry is entitled to $6,024 a year as early as age 55 from a previous job. At age 60, Sylvia can take a pension of $18,876 a year with a bridge of $6,288 a year to the earlier of her death or age 65, a total of $25,164.
When they turn 65, Henry will be eligible for full Canada Pension Plan benefits of $10,615 a year and full Old Age Security payments, currently $6,070 a year. Sylvia will be entitled to 90 per cent of CPP benefits, $9,554 a year. As well, she will receive $6,070 in OAS benefits a year.
The couple currently add $700 a month to their registered savings. If they maintain that rate of savings, then, including their present $169,000 of RRSPs, they would have $341,520 in 2008 dollars of registered savings by the time Sylvia could retire at age 60, assuming that assets grow at 6 per cent a year and that inflation runs at 3 per cent a year. That capital would support withdrawals of $17,425 a year until Sylvia turns 90.
Adding up all public and employment pensions and their RRSP/RRIF income, the couple will have $74,898 of pretax retirement income in 2008 dollars, Mr. Moran estimates. Income from their non-registered savings can add to their retirement cash flow.
"If Sylvia can make it to age 60 without serious injury and Henry can work to age 65, their retirement looks reasonably bright," Mr. Moran says. "With their debts paid and no daily commutes, their disposable income will be more than they have now."
B.C. couple in late 40s planning retirement.
Ensuring adequate cash flow in retirement.
Pay off line of credit, then mortgage, then use cash for retirement savings.
A retirement with an inflation-adjusted income higher than the couple's present income.
Net Monthly Income
House $469,000, RRSPs $169,000. Total: $638,000.
Mortgage $1,686, utilities & phone $355, line of credit $1,189, food $700, RRSP $700, car insurance & fuel & repairs $450, cabin lease $50, clothing $50, entertainment $635, travel $50, pet health & food $200, professional fees $35, charity & gifts $67, mortgage life insurance $96, miscellaneous $404.
Mortgage $128,337, line of credit $36,690. Total: $165,027.
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