National Post article: Divorce wiped out her savings. At 65, should Kate start drawing CPP?

The National Post asked me to review the retirement and financial situation of Kate*, a 65-year-old who recently relocated to Alberta after a costly divorce wiped out her savings. 

She’s determined to rebuild her life and finances, but she has questions:

“Can I realistically buy a house, or is renting my best option? How do I grow my small nest egg while paying off debt?”

Having spent most of her life in Ontario, Kate moved west to be closer to her son and grandchildren. 

She retired from her full-time government job at 58 and stepped away from part-time work last year after realizing the extra income wasn’t worth the tax hit.

With a monthly income of $6,469 (work pension and Old Age Security) and plans to start Canada Pension Plan benefits next year, Kate wants to ensure she’s making the most of what she has. She’s also focused on paying down $30,000 in debt while building a path toward homeownership.

Some of the key questions we explore in the article:

• Should Kate start her CPP next year or wait?
• What is her best strategy for paying off her two high-interest lines of credit?
• How can she make her TFSA investments work harder for her?
• Should she buy a home or does renting make more financial sense?
• To buy a home, how could she pay off her debts and build a down payment faster?
• How can she rebuild financial security in retirement while still enjoying life with family?

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

National Post article: Divorce wiped out her savings. At 65, should Kate start drawing CPP?

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Financial Plan

Kate has a relatively large pension and lives a pretty frugal life. Her company pension pays $69,000/year plus CPP and OAS gives her an income of $91,000/year just from pensions.

Her pension is a government pension, so probably fully indexed to inflation.

Her desired lifestyle expenses are only $78,000/year, after her credit lines are paid off and including $2,500/month total cost of owning a home.

Therefore, she does not really need any retirement savings, other than for larger purchases and emergencies.

Questions

She plans to apply for Canada Pension Plan benefits (approximately $1,100 a month) next year. “Does this make sense?”

Kate should take her CPP now for 3 reasons:

Deferring CPP to age 70 gives her an implied return of 6.8%/year, which is a bit lower than the interest on 2 of her credit lines, and probably lower than her investments would make as growth mutual funds.

She wants to pay off her credit lines and then save up a down payment to buy a home, which will probably take about 4 1/2 years, but can be 3 1/2 years if she starts her CPP now and saves it.

CPP will not push her into a higher marginal tax bracket. She will still be in a reasonable 30.5% tax bracket.

Her primary focus is paying off $30,000 in debt held in two lines of credit. She makes monthly payments of $500 and plans to have the debt paid off within five years. “Is this a good goal? Is there a better way to restructure debt repayment?”, she asked. 

Her 2 credit lines have interest rates of 8.0% and 9.4%, and her RRSP catch-up loan is at 5.45%. Her investments in bank-sponsored growth mutual funds should reasonably be expected to average about 7/year long-term. She might be able to negotiate lower interest rates on one of the 2 credit lines. There are not simple lower-rate unsecured loan options. It is probably better to focus on paying off the 2 credit lines before investing more.

One option could be to make her credit lines tax-deductible. She could cash in her TFSA, use the proceeds to pay off her 2 credit lines and then borrow the same amounts back to buy similar investments in a non-registered account. If the credit lines become tax-deductible, it would probably be better to keep them and the investments. This is, however, a bit complex and possibly not a good idea for her. She would have to make sure not to co-mingle her investments or the credit lines with any other amounts that are not tax-deductible, and she is not working with a financial planner to help her with this.

Kate plans to continue to live with family but ideally would like to purchase her own home. However, she is not sure she would qualify for a mortgage or if she’d be better off renting. Home prices in her desired area are in the $350,000 range. 

To buy a home for $350,000, Kate should save up 20% down, or about $70,000, plus a bit for closing costs and costs to move and personalize her home. She would need to get a mortgage for $280,000, and should be able to qualify with an income of $91,000/year, after starting her CPP.

Owning a home would likely cost Kate at least $300/month more than renting, even after a $70,000 down payment. A mortgage of $280,000 with an long-term average mortgage rate of 4.5% would have mortgage payments of $1,550/month. Adding property tax, utilities and some maintenance costs puts her cost of owning about $2,500/month.

She can rent for about $2,200/month, which is the mid-point in her range of renting between $1800/month and $2600/month.

Renting would likely be cheaper for her, is something she could do within a year, and gives her more flexibility. Retired people often prefer the flexibility of being able to move anywhere at any time, and not having to worry about selling their home, so it is a good option for Kate to consider.

Kate prefers to own and should be just as well off owning. Her costs would likely be about $300/month higher and she would have to save $75,000 which she could invest at perhaps 7-8% return over time if she rented. However, homes in Alberta have been rising in value about 2-3%/year average in the last decade, so she should gain some growth in value over time.

Overall, buying a home would likely make her better off financially over time only because it is a forced savings. Renting would allow her to have her own place in a year instead of 3 ½ years to buy.

Kate could be better off if she stays with family a few years while paying off her loans and investing $3,000/month, and then rents a home. She could save up $75,000 or more to invest, which should be able to growth to about $300,000 in 15 years. This could allow her a more comfortable lifestyle, but she has not said this is important to her.

If she wants to buy a home, she should pay off her credit lines first. She has been paying $500-600/month on her credit lines, but should actually have enough cash flow to pay $3,000/month once her CPP starts.

Paying off the 3 loans of $42,625 and then saving $75,000 for the down payment, closing and moving costs, is a total of $118,000. If she can save $3,000/month, she should be able to be ready to buy her home in about 3 ½ years.

“I’d like to invest the money in my TFSAs and reinvest the earnings/dividends to increase the value but I don’t know how to go about it,” said Kate. “How can I grow this tiny nest egg? I just turned 65 so I’m feeling RRSPs are probably not the best way to go, since I only have six years before I’d have to convert to a Registered Retirement Income Fund. I do not have an investment advisor or a non-registered account of any kind. If I am advised to purchase ETFs, I wouldn’t know what to do.  I’m also worried about the global economy and Trump’s next move. I do not want to support the American economy.”

Kate’s investments in growth mutual funds should probably get a higher return than most seniors get on their investments over time, since most seniors invest more conservatively. She does not need to save or invest more to have her desired lifestyle, so just paying off her loans and buying a home without investing anything more is a reasonable option for her.

Kate is in a 30.5% tax bracket now and is expected to be in the same tax bracket regardless of claiming RRSP tax deductions or taking income from a RRIF in the future. RRSPs are best for people that are expected to be in a lower tax bracket when they withdraw. Kate should prioritize TFSAs if she does save & invest more. However, RRSPs would be similar benefit for her.

If Kate decides to invest more, which she could easily do if she stays with family a few years and then rents a home, she should probably find an investment advisor that can explain the risk and the expected returns from various types of investments. She has very little investment knowledge to make wise decisions and may make decisions for political reasons, instead of effective investing. Investing globally is the broadest diversification and the US is about 70% of the world’s stock market and the main investment growth area, so avoiding it for political reasons could cost her a lot over time.

Ed