Financial Post Article: B.C. couple has plenty of money, but even the wealthy need a coherent financial plan

A financial plan is really a life plan to think through what you want to do with your money and life. This is why the wealthy need a Financial Plan, just like everyone else.

What lifestyle do they want to live and what do they want to do with their money? How comfortable of a lifestyle can they afford?

The only difference between a financial plan for the middle class versus wealthy investors is the numbers are bigger and their ideas may be bigger.

You will learn:

• Why wealthy people still need a Financial Plan.
• How are financial plans for wealthy people different?
• How to pass money to your kids in a sensible way.
• Should you use life insurance policies to shelter you from tax?
• How to invest in a fee-efficient way.
• How should wealthy people think about GICs?
• How should wealthy people think about speculative investments?
• How to split income in your holding corporation with your spouse after retirement.
• Why thinking about your entire portfolio & withdrawal rate is more effective than looking at the parts.
• How should the wealthy most effectively manage a lot of investments?

CLICK THE LINK BELOW TO READ THE ARTICLE BY MARY TERESA BITTI:

B.C. couple has plenty of money, but even the wealthy need a coherent financial plan

JACK is 57 years old, married with three adult daughters in British Columbia.

Spending about $300,000/year now, which should drop to about $210,000/year when his mortgage comes due and he pays it off from his bonds. Retirement lifestyle is today’s lifestyle minus the mortgage & kids’ costs, plus a bit more for buying a car every few years & travel (longer trips they want to do in addition to the family trip). They will need about $300,000/year before tax to provide the $210,000/year after tax retirement lifestyle.

At the end of 2019, he sold his interest in a professional services firm he and his business partners had built over the course of 20 years generating a one time $20m pre-tax gain.  Tax’ in the amount of $4m have been paid.

As an owner in a private company Jack created a separate holding company and trust structure to separate his personal assets from those of the business. The family’s investments are spread across three corporate entities. Now that he’s exited the businesses, segregating holdings into multiple entities is more complicated than necessary.  Jack has a plan to amalgamate the three companies into a single holding company, which will generate mostly passive income from investments and consulting/contracting fees he and his spouse/ partner earns.

Questions for the planner:

Do we have enough money to keep us going in a comfortable lifestyle based on the things we want to do?

Yes. Need retirement income about $300K/year. Need about $8.5 million investments. Have $11.8 million. Ahead of goal by $3.3 million or 40%.

This is based on balanced investments averaging 5%/year long term.

Risk: If they lose $4 million or more from their private & early-stage investments, then they may not be able to fully support their desired retirement.

How can I pass some money to my three kids before I die in a sensible way?

Yes. Suggest $8,000/year to each of their FHSAs to help them with a house. Possibly max their TFSAs as well. $14,000/year x 5 = $70,000. They should each get about $8-12,000 in tax refunds they should save. Total $80,000 down payment for each. Plus anything they save.

Warren Buffett: “Give kids enough so they can do anything, but not enough that they can do nothing.”

Worthwhile having the kids learn to save. Financial independence is about learning money skills. Possibly offer to match their TFSA contributions.

If Jack wants to control the investments, contribute to an “In Trust For” (ITF) account in parents’ names ITF the kids. If they invest for growth, there is little or no tax, because capital gains are taxable to the kids. Then give it to them when he thinks they are ready.

Should I fund the life insurance policies to shelter some investment income and use them to protect the value of my estate that will transfer when I pass?

No. Paying for life insurance they don’t need with after-tax corporation income. Not for paying tax – just a larger estate. Net worth today is $20 million, so his wife or the kids would already get this. It is large enough already and could be more than $40 million if he lives a normal life.

$1.5 million life insurance is insignificant & expensive.

Premium at least $2,000/month just for the insurance. He needs to make about $43,000/year before tax to pay the premium. If he lives to age 85, he will have to earn $1,250,000 to pay the cost of insurance portion of the premium. That’s more than the benefit.

Premium in a universal life policy is the cost of insurance + investment all with the same insurance company (therefore probably lower return than if he can invest anywhere).

Insurance salespeople like to focus on tax-free growth & tax-free estate as a good sales pitch. However, insurance policies have disadvantages:

• They have to pay 2% tax on the premium (all contributions).
• You can defer tax in other ways with buy-and-hold investments focused on growth.
• Returns inside a policy are probably lower because of limited choice.

Insurance policies that are not needed are usually only beneficial for very conservative investors and for money that they definitely will never want to use during their life.

Is there a more fee efficient way to invest the proceeds of the business sale than mutual funds, given the amount of investible assets?

Mutual funds = hiring a fund manager. Fees can be worthwhile if the fund manager has enough skilled.

Inefficiencies that drag down their returns are in GICs & tax-efficiency, balanced mutual funds, bank (large institution) mutual funds that may not have top managers.

They will probably be in a 45% marginal tax bracket, even with effective income splitting, so trying to avoid the highest taxed interest income is a good tax savings.

Either invest with top fund managers or buy broad index ETFs.

Recommend: Invest with an independent portfolio manager (ICPM). They are elite investors. Only people in investment industry with a fiduciary duty to do what is in your best interest. Most investment choices. Look for a PM with track record outperforming the index that appears to be skill to be able to pay for their fee.

Investments now are spread with a few advisors and some self-managed. It’s a bit of a hodgepodge.

Wealthy people should focus on top investment management, not low fees. It is return after fees that matter – not the fees themselves.

Really, where should I park the capital that’s currently sitting in GIC’s, other than the $1m laddered which I think of as a base of fixed income in the overall portfolio to offset the high-risk early-stage investment funds.

Mental accounting. He can access cash for short-term cash flow from any of their investments.

Fixed income is lower income. Fixed income is what seniors complain about. Cost of living is likely to at least triple in their lifetime. A fixed income is not adequate & highly taxed (45% for them).

Pay out capital dividend of $3.5 million by moving some investments to personal. Pay out least tax-efficient investments, which are the GICs, because of passive income tax inside corporation.

Pay out total corporate investment income every year to avoid passive income tax of 50%.

RBC Income Builder GIC is just return of capital – really a SWP. It’s a GIC that gives you a part of your principal back every month. This is not a return. Not efficient. Can do this with any investment – just sell some investments every month.

Reliable income from withdrawing 3.5%/year, given balanced investments. (A bit less than 4% Rule, which requires 70-100% equities.)

Investments are mostly balanced or income-focused & Canadian dividend-paying stocks. Appears to own quirky investments that advisors like to make sales pitches about. Not top fund managers. Best to invest based on sound, long-term investments, not trendy concepts.

Decide on risk tolerance and related sustainable withdrawal rate for their entire portfolio.

Hire top ICPM (investment counsel portfolio manager) (PM) & decide on overall portfolio target investment return & risk level. He is doing it piecemeal. One PM can most effectively invest entire portfolio.

Other recommendations:

Split investment income inside his corp with his wife. If it’s a holding company only, then there is no issue with the TOSI rules (tax on split income to family members). Is his wife a shareholder of the corporation?

They need to make a return of at least 5%/year long-term to live well. Don’t get too conservative.

He is comfortable & somewhat knowledgeable about growth, so investing for reasonable growth can make sense.

Have an independent portfolio manager look at his overall portfolio. Stop doing it piecemeal.

A financial plan and estate plan can help them think through the big picture:

• How comfortable of a lifestyle do they want in retirement?
• How much do they want to leave for their kids?
• What do they really want to do with their money not needed for their existing lifestyle?
• Their estate in 30-40 years could be $30-50 million.
• They have more than they need and would have even more if they invest more effectively. What do they want to do with it? Travel a lot more? Luxury travel? Give more to kids? More angel investing? Donate to worthy causes?

A Financial Plan is really a life plan to think through what they want to do with their money and their lives. The only difference between a financial plan for the middle class versus wealthy investors is the numbers are bigger and their ideas may be bigger.

Ed