Financial Post Article: Retired multi-millionaire wants to know pros and cons of LIFs vs. RRIFs, but he has a bigger issue

The Financial Post asked me to review the finances of a retired multi-millionaire who needs to prioritize tax efficiency, as well as the pros and cons of LIFS vs. RRIFs.

In the article you’ll learn why it’s so important for someone with this amount of wealth to create a financial and retirement plan.

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

Retired multi-millionaire wants to know pros and cons of LIFs vs. RRIFs, but he has a bigger issue

Ed’s Financial Planning Advice

Financial Plan

• What does he plan to do with his money? He has $4.4 million in investments and is spending none of it.
• It looks like he is only spending about $50,000/year, even though he has a net worth about $5 million. He gets $113,000 from his pension & CPP and then pays about $62,000 in tax. He can plan for far lower tax.
• He can reliably spend about $175,000/year cash from his investments (plus $113,000 from pensions) with the same tax he is paying if he invests tax-efficiently and withdraws evenly from RRIF/LIF and from his non-registered.
• Jim needs a financial plan to think through his life. He can reliably spend $290,000/year before tax (investments + pensions), which is about $230,000/year after tax. He is spending about $50,000/year after tax.
• The path he is on, he will live a very simple life and then his kids will inherit more than $20 million. That is probably not what he wants. What lifestyle does he really want? What would he do with a lot more comfortable & fun life? Perhaps he wants to help his kids sooner or donate to causes he values. A financial plan will help him think through what he wants in his life. A financial plan is a life plan.

LIRA & LIF

• Since he does not need the money, he should probably defer converting his RRSP to RRIF and has LIRA to LIF until age 71, so he does not need to withdraw anything until age 72. This defers the tax on income he is not spending.
• When he turns 71 and converts them, he should definitely unlock 50%. There are no disadvantages. He should 100% do it. That means he would put 50% of his LIRA into a LIF and 50% into a RRIF, instead of 100% to a LIF. RRIF & LIF are the same except that the RRIF has more flexibility because there is no maximum withdrawal. In other words, a RRIF is a LIF with fewer restrictions. The restrictions limit his freedom of choice. There are no offsetting disadvantages.

Tax Inefficient

• Jim’s investments are very tax inefficient with $180,000 taxable income for money he does not spend.
• Dividends and interest from his non-registered taxable investments are probably $130-150,000, which show as $180,000 taxable income. He does not spend any of it, but pays tax on it. He is paying 26.4% tax on these dividends. He could take a reliable cash flow of about $175,000/year and pay the same or less tax if he invested for long-term total return.
• Jim is investing focused on getting taxable income in dividends & interest. Some investment education would show him that the stock market total returns are quite reliable in the long-term and he can save a lot of tax by investing more tax-efficiently focused on capital gains. Then he would only pay tax on the capital gains related to cash he withdraws, instead of paying higher tax on dividends and interest he does not withdraw.
• He is focused on dividends, even though dividends are a “brain fart”. A dividend is a withdrawal from his investment that the company forces on him – even though he does not need it. When he receives a dividend, the value of his investment drops by the amount of the dividend, which is exactly the same as selling a bit of his investment. He thinks he is getting “income”, but it is a brain fart. He is essentially selling some of his investments regularly and paying tax for no reason.

Borrowing to invest

• Most retired people do not borrow to invest, but it is clearly beneficial for Jim. He can easily afford the interest payments of about $1,100/month. He has no other tax deductions.
• The investments should have a higher return after tax than the interest payments. He is paying 3.1% interest on average and is in a 42% marginal tax bracket, so the interest costs him 1.8%/year after tax. His investments should make considerably more than that.
• It is risky that he will decide whether to sell investments to pay off the 2 mortgages based on interest rates at the time vs. dividends & interest he can get from dividend stocks & structured notes. That means he might sell at a low. If he invested more tax-efficiently for total return instead of investing as he is focused on getting taxable income, then it would be clear that he should continue to have the tax-deductible mortgages long-term, which makes the chance of being beneficial for him very high. Stocks go up & down short term, but are far more reliable than most people this long-term, which is why borrowing to invest should always be a long-term strategy. The stock market has reliably produced large gains over 25-year periods and longer, but not necessarily for short periods of time.
• He has borrowed 47% of the value of their 2 properties, but they should be able to get 80%. If 47% makes sense, 80% makes more sense. When their mortgages come due, it is probably best for them to ask for a home reappraisal, increase their limit and mortgage to 80% of the appraisal, and invest the extra cash. It should be more investments from moderate interest rate mortgages with a 42% tax refund on the interest. This is especially true if he invests more tax-efficiently.

Estate Planning

• Jim & Linda have done their estate planning very well, considering they were married late in life. They have taken all the legal steps to make sure they are both provided for until age 90 and each of their kids will inherit all their estate (not each other).
• This makes sense for couples that marry late in life.

Ed