The secret to reducing your “How much is enough?” number
Making strategic funding choices will allow you to do more and worry less during retirement
Without question, the most popular retirement question probably is: How much is enough? In other words, what is the dollar amount I need to achieve within my retirement nest egg account before I choose to relinquish my reliance upon a pay cheque to fund my desired lifestyle? Obviously, the lower your “enough number” is, the sooner you can contemplate enjoying the freedoms associated with retirement.
One of the fastest ways to reduce your “How much is enough?” savings target is to start to incorporate a strategically sound funding strategy that identifies specifically where funds should come from on a year-by-year basis. The strategic objective is to build a funding strategy that optimizes lifetime cash flow from your recurring retirement income sources – and to minimize the amount of income tax you will pay over the balance of your lifetime – as you make choices of which savings account types to access, when and how much.
Here are five cash flow and tax planning tips to help you reach your “How much is enough?” number sooner. These strategic choices will also allow you to do more and worry less during retirement because, generally, more money is always better than less.
1. Avoid tax traps
Retirees rely too heavily on tax-free compounding. Many Canadian couples enter retirement with a couple of $1,000,000 accumulated in their RSPS, but an over reliance on tax-free compounding can create very expensive retirement tax traps. It’s better to pay a little more tax earlier on, than it is to pay significantly more later in life.
2. Embrace year-to-year spending variability
Your retirement spending likely consists of three or four different account types — Registered Retirement Income accounts, Tax Free Savings accounts, Non-Registered accounts and sometimes a Corporate Holding account. How can you optimize the best time to withdraw? By strategically choosing how you allocate and combine dollar amounts from each of these account types to achieve the current year’s cash flow requirements, you can often stay below higher marginal tax rates.
3. Be strategic when you start your CPP & OAS
Statistics from Canada Pension Plan that identify the age that people start to collect their CPP benefit confirms that the vast majority of Canadians leave hundreds of thousands of dollars of government retirement income benefits on the table. Instead of taking these entitlements as soon as they are available, we recommend reviewing how your CPP income entitlements will integrate with all of your other potential sources of retirement cash flow. Ideally the funding of your retirement should be based upon a strategically constructed year-by-year tax-optimized recipe, where CPP and OAS have been tactically integrated into the plan.
4. Maximize income splitting opportunities
One gift the CRA has given us is income splitting during retirement. It’s important to take advantage of these tax savings early on. In situations where there is a high probability of one spouse outliving the other, due to a significant difference in age or in longevity expectations, you may want to increase the level of aggressiveness used in drawing down on RRIF assets while both are still alive.
5. Use debt as a strategic retirement funding option
It’s better for retirees to ensure they have a secured line of credit in place before they leave the security of a pay cheque. Why? To add an extra arrow into the quiver for retirement funding options you have available. Moving into a higher marginal tax bracket can be extremely expensive. Sometimes the strategic use of short-term debt, to spread large expenditures over a year or two, can keep you from incurring this tax cost.