My name is Mark Goodfield. Welcome to The Blunt Bean Counter ™, a blog that shares my thoughts on income taxes, finance and the psychology of money. I am a Chartered Professional Accountant and a partner with a National Accounting Firm in Toronto. This blog is meant for everyone, but in particular for high net worth individuals and owners of private corporations. The views and opinions expressed in this blog are written solely in my personal capacity and cannot be attributed to the accounting firm with which I am affiliated. My posts are blunt, opinionated and even have a twist of humor/sarcasm. You've been warned.

Monday, August 22, 2016

The Best of The Blunt Bean Counter - How your Family Dynamic can affect your Estate Planning

This summer I am posting the "best of" The Blunt Bean Counter blog while I work on my golf game. Today, I am re-posting a September, 2011 blog post on how your family dynamic can affect your estate planning.

I have found many parents often ignore the interrelationship of their children in their estate planning, which can often be problematic when the parent dies. So ensure you consider these relationships when undertaking your estate planning.

How your Family Dynamic can Affect your Estate Planning


Estate planning is a complicated and delicate process. Where you have more than one child, the planning process is full of minefields, some are in clear sight, but many are hidden. Parents have to navigate these minefields with respect to the determination of executors, the distribution of family heirlooms and the distribution of hard assets. The above decisions may be impacted by the financial wherewithal of your children, your relationship with your children’s spouses, your grandchildren or lack thereof, and in some cases, favouritism of certain of your children.

The above are what I call vertical family hierarchy issues. These are issues resulting from parents making decisions that will affect their children and potentially, the way their children will view their parents after death.

What parents do not often consider is how these vertical decisions impact horizontally: i.e. how the interrelationship of your children must be considered in your estate planning. Any parent who does not consider these relationships runs the risk of creating a divisive wedge amongst their children as sibling rivalry and jealousies may rear their ugly heads.

In this blog, I will attempt to identify several estate planning issues that not only have vertical consequences, but also have horizontal consequences requiring parents to consider their children’s relationships in context of their planning.

The Family Business


Where there is a family business and the succession plan is to pass on the business to the next generation, several issues must be considered. The issues include the following:

How many children have an interest in the family business?

If you have more than one child, is one specific child best suited to the role of CEO or president? If so, based on your children’s current relationship(s), do you foresee them working together or will they butt heads or worse? If the eldest child is named president, have you reinforced a perception the younger child has held for years, that the eldest is favoured and always assumed the most capable?

How do you value the business?

This is not an issue if all the children are given equal shares of the business, since they will have an equal ownership no matter the actual value attributed to the company. But what if you decide to leave the business to one child and equalize a child or the other children with say cash or other assets? The value of the business can fluctuate wildly over the years, with the result being that the child who inherits the shares may in essence have inherited a significantly larger asset than the other child(ren). Alternatively, the shares of the company may prove to be worth substantially less than the assets distributed to the other child(ren) if business conditions cause the value of the business to diminish. As a parent, can you do anything to avoid potential disparities in value? I have seen situations where asset distributions were equal at the time of death, but the inherited business grew astronomically and the children who did not inherit the company shares felt wronged by their parents.

Finally, if you have undertaken an estate freeze while alive, (see my blog on introducing a family trust as a shareholder and the related discussion on estate freezes) which child will inherit the voting shares? You risk alienating the children who do not receive the voting shares, since they may feel that you did not think they had enough acumen to vote and run the company.

The Family Cottage


The family cottage is often a contentious asset. In some families all the children want to keep ownership of the cottage and in some families only one or two siblings want the cottage. As a parent, you must speak to your children and determine who wants the cottage. Where more than one child wants the cottage, you have to consider whether those children have a good relationship and if they will be able to share ownership of the cottage without starting a world war. If not, do you have to consider selling the cottage in your later years to avoid creating a divisive issue amongst your children?

Another important factor to consider is whether the children interested in keeping the cottage have the financial wherewithal to pay their share of the cottages expenses on a yearly basis? If not, how do you overcome this potential issue, especially if one child has the financial resources and another does not?

Also, where there is a large inherent gain on the cottage, you have to determine whether your estate will be able to pay the income taxes without forcing a sale of the cottage and causing the estate to unwind your original intention to keep the cottage in the family? In this case, you may be able to use life insurance to cover off this issue.

The Will


A will may be construed as a document that reflects a parent’s opinion of their children and confirms the children’s opinion of themselves. If you infer one child is more responsible than the others (by selecting a certain child(ren) as an executor and excluding others), you risk igniting the fire of past resentments amongst the children and potentially causing resentment of you even in death.

Assuming you can navigate the determination of the executor(s) amongst your children without creating jealousy or animosity (if not, a corporate executor may be required), how do you distribute your assets upon death in a manner that mitigates any damage that can occur to your children’s relationships?

The distribution of material items is fraught with danger. How does one ever balance sentimentality and value? If you provide one child a sentimental heirloom, you risk that child complaining the other children got more value, while the other children complain they were not left sentimental heirlooms. What if you have art? How do you balance the value of art that has significant value differentials?

What about the situation where one child has been financially successful and another has not. If your will provides for a greater distribution to the child with less money, how do you ensure you do not create resentment with the financially well-off child? The less well-off child, who should be ecstatic, may actually be insulted, as they interpret the larger inheritance as their parents saying they were "financial losers" as opposed to being grateful for the larger inheritance. In these cases, one must tread carefully, but an unequal allocation may be more readily accepted where you explain your reasoning to your children before your death.

Another issue is grandchildren. Where the number of grandchildren is different in each family or one child does not have any family, do you give equal amounts to each family or equal amounts per child? How about where one of your children may be incapable of providing for a grandchild’s education and you feel a trust would be appropriate? Will any consideration other than equal consideration be construed as favouritism by your children?

Finally, many parents have provided loans to their children to assist with university, purchasing a house or what have you. How do you deal with prior gifts or loans? If you forgive the loans, you may have an unequal distribution and cause an issue among your children? Thus, you may want to consider a reduction of any distributions in the will for any outstanding loans.

This whole blog may be construed as ludicrous on a certain level. Some may say this blog is evidence as to why they will not leave anything to their children. Others may say I will leave my children whatever I feel like and if the distribution is unequal, so be it. However, it has been my experience that the majority of parents truly do not want to create any dissension among their children and aim to provide for an equal distribution. Even though they will have passed on, many parents still don’t want to alienate any of their children or cause resentment upon their death.

This site provides general information on various tax issues and other matters. The information is not intended to constitute professional advice and may not be appropriate for a specific individual or fact situation. It is written by the author solely in their personal capacity and cannot be attributed to the accounting firm with which they are affiliated. It is not intended to constitute professional advice, and neither the author nor the firm with which the author is associated shall accept any liability in respect of any reliance on the information contained herein. Readers should always consult with their professional advisors in respect of their particular situation.

Monday, August 15, 2016

The Best of The Blunt Bean Counter - Personal Use Property - Taxable even if the Picasso Walks Out the Door

This summer I am posting the "best of" The Blunt Bean Counter blog while I work on my golf game. In March, 2011 I wrote this blog post on personal use property and how many families tend to "ignore" these type of items for income tax and probate purposes.

Since 2011, this has become an even larger issue in Ontario, to name one province, as recent legislation has increased the liability of executors. So if you are an executor, tread carefully with respect to Personal Use Property such as art and collectibles.

Personal Use Property - Taxable even if the Picasso Walks Out the Door

I will start today’s blog with a question. What do stamps, duck decoys, hockey cards, dolls, coins, comics, art, books, toys and lamps have in common?

If you answered that the collection of these items are hobbies, you are partially correct. What you may not know is, that these hobbies also generate some of the most valuable collectibles in the world.

When a collector dies and leaves these types of collectibles to the next generation, the collectibles can cause rifts among family members. The rifts may occur in regard to which child is entitled to ownership of which collectible and whether the income tax liability related to these collectibles should be reported by the family members.

Let’s examine these issues one at a time. Many of these collectibles somehow "miss" being included in wills. I think the reason for this is two-fold. The first reason is that some parents truly do not recognize the value of some of these collectibles, and the second more likely reason is, that they do realize the value and they don't want these assets to come to the attention of the tax authorities by including them in their will (a third potential reason is that your parents frequented disco's in the 70's and they took Gloria Gaynor singing "Walk out the Door" literally- but I digress and I am showing my age).

Two issues arise when collectibles are ignored in wills:
  1. The parents take a huge leap of faith that their children will sort out the ownership of these assets in a detached and non-emotional manner, which is very unlikely, especially if the collectibles have wide ranging values; and
  2. The collectibles in many cases will trigger an income tax liability if the deceased was the last surviving spouse or the collectibles were not left to a surviving spouse. 
Collectibles are considered personal-use property. Personal-use property is divided into two sub-categories, one being listed personal property (“LPP”), the category most of the above collectibles fall into, and the other category being regular personal-use property (“PUP”).

PUP refers to items that are owned primarily for the personal use or enjoyment by your family and yourself. It includes all personal and household items, such as furniture, automobiles, boats, a cottage, and other similar properties. These type properties, other than the cottage or certain types of antiques and collectibles (e.g. classic automobiles), typically decline in value. You cannot claim a capital loss on PUP.

For PUP,  where the proceeds received when you sell the item are less than $1,000 (or if the market value of the item is less than $1,000 if your parent passes away) there is no capital gain or loss. Where the proceeds of disposition are greater than $1,000 (or the market value at the date a parent passes away is greater than $1,000) there maybe a capital gain. Where the proceeds are greater than $1,000 (or the market value greater than $1,000 when a parent passes away), the adjusted cost base (“ACB”) will be deemed to be the greater of $1,000 or the actual ACB (i.e. generally the amount originally paid) in determining any capital gain that must be reported. Thus, the Canada Revenue Agency essentially provides you with a minimum ACB of $1,000.

LPP typically increases in value over time. LPP includes all or any part of any interest in or any right to the following properties:

  1. prints, etchings, drawings, paintings, sculptures, or other similar works of art; 
  2. jewellery; 
  3. rare folios, rare manuscripts, or rare books; 
  4. stamps; and 
  5. coins. 
Capital gains on LPP are calculated in the same manner as capital gains on PUP. Capital losses on LPP where the ACB exceeds the $1,000 minimum noted above, may be applied against future LPP capital gains, although as noted above, these type items tend to increase in value.

The taxation of collectibles becomes especially interesting upon the death of the last spouse to die. There is a deemed disposition of the asset at death. For example, if your parents were lucky or smart enough to have purchased art from a member of the Group of Seven many years ago for say $2,000 and the art is now worth $50,000, there would be a capital gain of $48,000 upon the death of the last spouse (assuming the art had been transferred to that spouse upon the death of the first spouse). That deemed capital gain has to be reported on the terminal income tax return of the last surviving spouse. The income tax on that gain could be as high as $12,000.

The above noted tax liability is why some families decide to let the collectibles “Walk out the Door.” However, by allowing the collectibles to walk, family members who are executors can potentially be held liable for any income tax not reported by the estate and thus, should tread carefully in distributing assets such as collectibles.

If you are an avid collector, it may make sense in some circumstances to have the collectibles initially purchased in a child’s name. You should speak to a tax professional before considering such, as you need to be careful in navigating the income attribution tax rules.

This site provides general information on various tax issues and other matters. The information is not intended to constitute professional advice and may not be appropriate for a specific individual or fact situation. It is written by the author solely in their personal capacity and cannot be attributed to the accounting firm with which they are affiliated. It is not intended to constitute professional advice, and neither the author nor the firm with which the author is associated shall accept any liability in respect of any reliance on the information contained herein. Readers should always consult with their professional advisors in respect of their particular situation.

Monday, August 8, 2016

The Best of The Blunt Bean Counter - Speak to your Executor - Surprise only works for Birthday Parties, not Death


This summer I am posting the "best of" The Blunt Bean Counter blog while I work on my golf game. Today, I am re-posting an oldie (all the way to August, 2011) on speaking to your executor. Even though this post is five years old, it is still as relevant today and when I first posted it.  My advice: speak to your executor to not only inform them they have been appointed, but to let them know where you keep your financial information, so they do not have to play a game of hide and seek in administering your assets.

Speak to Your Executor - Surprise only works for Birthday Parties, not Death

In my blog series on being named an executor (So you want to be an executor, You have been named an executor, now what? and Is a corporate executor the right choice?) I discussed many of the issues an executor may face. In the second blog noted above, I talked about the overwhelming responsibility one assumes upon being named an executor and the obligation I feel you have, to discuss a person’s appointment as executor of your will, with them. In today’s blog I want to expand on this topic further.

I have dealt with numerous estates where the executor(s) floundered; notwithstanding the fact they were provided direction. Where an executor(s) flounders or spins their wheels, the ultimate beneficiaries suffer in two ways: (1) Their financial entitlement is often delayed months if not years, and (2) that entitlement may be reduced because of poor investment decisions or non-decisions made by the executor.

Where an executor is in over their head, I place the blame solely upon the deceased. Many people do not take the proper amount of time to consider the personal characteristics of the executor(s) they have selected. What I consider most objectionable is that some people never provide the executor(s) with the courtesy of notice of their potential appointment. In addition, many do not even attempt to meet with their executors to discuss their potential duties and whether they feel comfortable being named as an executor. Jim Yih discusses the characteristics he suggest you consider in an executor is this blog

As noted above, I consider the personal characteristics of a potential executor to be of the utmost of importance. I would suggest a potential executor should (1) have some financial acumen, (2) not stress easily, and (3) be somewhat anal.

At the risk of stereotyping, I have been involved with a couple executors who were more artistic than financial in nature and they were overwhelmed with the position. In my opinion, the reason they were overwhelmed was that their personal characteristics were the complete polar opposite of those characteristics I recommend an executor(s) possess. Years ago I had a very high strung person named as the executor of an estate and they essentially shut down for over a year due to the stress of the job and the estate sat in limbo.

This is not to suggest that an artistic person cannot be an executor or a co-executor with a financial person, but I would suggest that before naming such a person, you sit down and explain the duties of an executor to ensure that they feel they can handle the job.

In many cases, people name their children as executors. I have no problem with doing such; however, you must look at each child’s personal characteristics and the sibling dynamic to determine whether they can handle the job as a group or whether you have to name only one or two of your children as executors. I think many people would name executors from outside the family if the potential executor fees did not approach up to 5% of the estate (you may be able to negotiate a lower rate); however, in some cases, paying the executor fee is worth the independence gained by having an arm's length person administer the estate, despite the associated fees.  

The take away from today’s blog is: (1) you must seriously consider your selection of an executor and their personal characteristics (2) once you have made your selection, I would strongly suggest you discuss their appointment with them and (3) provide them a summary of your assets (or at least where to find such a summary should you pass away).

This site provides general information on various tax issues and other matters. The information is not intended to constitute professional advice and may not be appropriate for a specific individual or fact situation. It is written by the author solely in their personal capacity and cannot be attributed to the accounting firm with which they are affiliated. It is not intended to constitute professional advice, and neither the author nor the firm with which the author is associated shall accept any liability in respect of any reliance on the information contained herein. Readers should always consult with their professional advisors in respect of their particular situation.

Monday, August 1, 2016

The Best of The Blunt Bean Counter- Should Your Corporation’s Shareholder be a Family Trust instead of a Holding Company?

This summer I am posting the "best of" The Blunt Bean Counter blog while I work on my golf game. Today, I am re-posting a June, 2012 post on whether your corporation's shareholder should be a family trust or holding company.

This determination is a very complex and requires analysis by a tax expert. If you are considering a family trust, you must obtain professional advice to ensure you do not trip over any tax "land mines".

Should Your Corporation’s Shareholder be a Family Trust instead of a Holding Company?


I am often asked by clients incorporating a new company, whether they should hold the shares of the new corporation directly or whether they should utilize a holding company or a family trust.

The exact same question often arises a second time, years later, when a business has been successful and the shares of the corporation have been held by the client and/or their spouse directly and the client is now contemplating whether it makes sense to introduce a holding company or family trust into their corporate ownership structure, for creditor proofing and/or estate planning purposes.

I have discussed utilizing a holding company and introducing a family trust as a shareholder of a private corporation in prior blogs. Today I will discuss these alternative structures in context of a newly incorporated business and a mature business.

When a person decides to start a new business and incorporates (see my blog on whether to start a business as a proprietorship or corporation) there is often a level of uncertainty as to whether the new venture will be successful and cost control is often paramount. Thus, most people opt to keep their corporate structure simple (which really means, they do not want to spend money on lawyers and accountants to set-up holding companies and trusts) which is very understandable.

However, if you have the resources upon incorporation, you may wish to consider having a family trust own the shares of the private corporation rather than directly owning the shares or using a holding company from the outset. The two reasons you may wish to consider this corporate structure are as follows: (1) you can have a holding company as a beneficiary of a family trust which can provide all the benefits of a direct holding company; and (2) a family trust provides the ultimate in tax planning flexibility.

There are several benefits to having a family trust as a shareholder of your private company (I am assuming your corporation is an active company, not an investment company, for which the above is problematic). If the company is eventually sold, a family trust potentially provides for the multiplication of the $750,000 lifetime capital gains exemption on a sale of qualifying small business corporation shares (as of July, 2016, the exemption has risen to $824,177). That is, it may be possible to allocate the capital gain upon the sale to yourself, your spouse, your children or any other beneficiaries of the trust, resulting in the multiplication of the exemption and creating substantial income tax savings. For example: where there are four individual beneficiaries of a family trust, the family unit may be able to save as much as $700,000 (closer to $880,000 as of July, 2016) in income tax if a corporation  is sold for $3,000,000 ($3,300,00 as of July, 2016) or more . In addition, where your children are 18 years of age or over, the family trust can receive dividends from the family business and allocate some or all of the dividends to the children. The dividends must be reported in the tax return of the child, but in many cases, the dividends are subject to little or no tax (if a child has no other income, you can allocate almost $40,000 in dividends income tax-free).

Finally, where you have surplus earnings in a corporation and you wish to creditor proof those earnings, but do not want to allocate those funds to your spouse or your children, you may be able to allocate those funds tax-free to the holding company if it is a beneficiary of the trust. This provides for an income tax deferral of the personal taxes until the holding company pays a dividend to its shareholders.

So you may be asking “Mark, why would I ever not choose a family trust? Some of the reasons are as follows:

1. The initial accounting and legal costs may be as high as $8,000 - $12,000.
2. You may not have children or, if you do have children, they are young and you cannot allocate them dividends without the dividends being subject to the “Kiddie Tax” (a punitive income tax applied when minors receive dividends of private companies directly or through a trust).
3. You are not comfortable with allocating to your children any capital gains from a sale of the business and/or any dividends since legally that money would belong to them.
4. If the business fails, it may be problematic to claim an Allowable Business Investment Loss (a loss that can be deducted against any source of income) that would otherwise be available if the shares of the company were held directly by an individual.
5. There are some income tax traps beyond the scope of this blog post when a holding company is a beneficiary.

As discussed in the opening paragraph, once a business is established and has become successful, clients often again raise the issue of whether they should introduce a holding company or a family trust into the corporate ownership structure. At this stage, a holding company can easily be introduced as a shareholder. The mechanics are beyond the scope of this blog but the transaction can take place on a tax-free basis. However, the holding company essentially only serves one purpose, that being creditor proofing. A holding company is also often problematic, as the level of cash the holding company holds can put it offside of the rules for claiming the lifetime capital gains exemption if the business is sold in the future. Thus, you may wish to consider utilizing a family trust, unless you do not have children or do not anticipate being able to sell the corporation.

If one waits until the business is successful to introduce a family trust, as opposed to introducing one as an original shareholder when the business is first incorporated, the value of the business as at the date of the reorganization must first be attributed to the original owner(s) utilizing special shares (typically referred to as an estate freeze). This means the beneficiaries of the trust only benefit from the future growth of the corporation (i.e.: if the corporation is worth $2,000,000, the parent(s) are issued shares worth $2,000,000 and the children will only benefit on any increase in value beyond the $2,000,000). The costs of introducing a family trust with a holding company beneficiary as part of an estate freeze could be as high as $15,000 -$20,000 as a business valuation is often required.

The above discussion is very complex. The key takeaway should be that having a holding company as a direct shareholder of an operating company, may not always be the most tax efficient decision. A family trust with a holding company beneficiary may be the more appropriate choice depending upon the circumstances.

In any event, believe it or not, the above discussion has been simplified and you should not even consider undertaking such planning without consulting a professional advisor to understand the issues related to your specific fact situation to ensure the planning makes sense and that you are not breaching any of the hidden income tax traps.

This site provides general information on various tax issues and other matters. The information is not intended to constitute professional advice and may not be appropriate for a specific individual or fact situation. It is written by the author solely in their personal capacity and cannot be attributed to the accounting firm with which they are affiliated. It is not intended to constitute professional advice, and neither the author nor the firm with which the author is associated shall accept any liability in respect of any reliance on the information contained herein. Readers should always consult with their professional advisors in respect of their particular situation.

Monday, July 25, 2016

The Best of The Blunt Bean Counter - How Much Money do I Need to Retire? Heck if I Know or Anyone Else Does! - Part 6

This summer I am posting the "best of" The Blunt Bean Counter blog while I work on my golf game. Today, I am re-posting Part six of my 2014 six part series titled "How Much Money do I Need to Retire? Heck if I Know or Anyone Else Does!" If you have not read this series, the links to each part of the series can be found down the right hand side of my blog, under the retirement section.

The intention of Part 6 of the series was to attempt to provide an actual range of numbers for your nest egg. However, as noted below and throughout the series, there are so many permutations, combinations and unique situations, that you should only view the number below as wide ranging guesstimates and understand this was more of a fun exercise then an attempt to provide a concise retirement number.

Finally, please note that some of the tax numbers and RRIF information is now outdated. If you wish, you can easily skip my personal attempt to arrive at a "number" and go directly to the Comparing Apples to Oranges to Pineapples section and you will not miss much and save reading energy.

How Much Money do I Need to Retire? Heck if I Know or Anyone Else Does! - Part 6


Parts 1-5 of this series highlighted the challenge in determining a definitive retirement number. Nevertheless, against my better judgment, today you will receive some simplistic retirement nest egg calculations; since we all like to know what everyone else thinks their number should be. Who the heck knows, if any of these numbers will be in the ballpark or not.

Before I get to the numbers, you will read about some Canadian income tax idiosyncrasies and the impact income taxes and inflation have on your anticipated retirement withdrawal amount.

Made In Canada Idiosyncrasies


One significant issue for retired Canadians is that your annual minimum Registered Retirement Income Fund (“RRIF”) withdrawal starts at 7.38% and averages approximately 8% of your actual RRIF balance over the first ten years. If your spouse is younger, you can elect to use their age to calculate your minimum RRIF withdrawal amount, which will lower your yearly required withdrawal. In either case, where the majority of your retirement funds are in your RRIF, the required withdrawal may be substantially higher than the 3-4% you plan to withdraw annually from your retirement nest egg (However, as per my example for Mr. and Mrs. Bean below, if you can split pension income with your spouse, the income tax cost of the excess withdrawal may be mitigated).

A discussion of how to manage the drawdown of your RRSP and take into account the minimum RRIF withdrawals is too fact specific and beyond the scope of this series. I may however, post a future blog on this topic.

For higher income Canadians, their Old Age Security may be clawed back as their retirement income increases. For 2014, the clawback starts at $71,592 and your OAS is fully clawed-back at $115,715.

I am The Blunt Bean Counter –So let’s get Tax Centric


As discussed way back in Part 1 of this series, the 4% withdrawal rule ignores income tax. Thus, I will provide you with some examples of how income taxes may impact your selected retirement withdrawal rate. These examples illustrate the tax centric framework I use for one of my own retirement nest egg estimates, which I then compare with other retirement calculators, formulas, etc. proposed by other expert retirement planners.

You will note my model is just a variation on the 4% rule and still ignores investment fees. However, I am going to assume you use low cost ETF’s so that your costs are minimal or if you use an investment advisor, your returns are at least market after accounting for your management fees ( ha ha). I am also going to assume the yearly inflation adjustment under the 4% rule will cover off inflation if not overcompensate for it. Just accept these assumptions for the time being. I know Michael James is flipping with the investment fee assumption.

Sample Data – Mr. and Mrs. Bean


Let’s say Mr. and Mrs. Bean each expect to receive full Old Age Security (approx. $6,500) upon retirement and that Mr. Bean and Mrs. Bean anticipate they will receive $12,000 and $6,000 respectively a year in CPP retirement benefits. Finally, assume Mr. and Mrs. Bean will have equal RRIF’s or make the election to split pension income such that they will each receive $50,000 in RRIF payments in Scenario 1, $40,000 in Scenario 2, $30,000 in Scenario 3, $25,000 in Scenario 4 and $20,000 in Scenario 5.

Using the sample data above, here is the Bean’s income tax situation upon their retirement.

Mr. Bean
Scenario 1
Scenario 2
Scenario 3
Scenario 4
Scenario 5
Old age security
$6,500
$6,500
$6,500
$6,500
$6,500
CPP
$12,000
$12,000
$12,000
$12,000
$12,000
RRIF
$50,000
$40,000
$30,000
$25,000
$20,000
Total income
$68,500
$58,500
$48,500
$43,500
$38,500
Tax payable
$14,400
$11,100
$7,700
$5,800
$4,500
Net after-tax amount
$54,100
$47,400
$40,800
$37,700
$34,000
Mrs. Bean
Scenario 1
Scenario 2
Scenario 3
Scenario 4
Scenario 5
Old age security
$6,500
$6,500
$6,500
$6,500
$6,500
CPP
$6,000
$6,000
$6,000
$6,000
$6,000
RRIF
$50,000
$40,000
$30,000
$25,000
$20,000
Total income
$62,500
$52,500
$42,500
$37,500
$32,500
Tax payable
$12,600
$9,100
$5,600
$4,200
$3,000
Net after-tax amount
$49,900
$43,400
$36,900
$33,300
$29,500
Combined after-tax
$104,000
$90,800
$77,700
$71,000
$63,500


The Tax Effect – Ouch


In Scenario 1, Mr. and Mrs. Bean will pay almost as much in personal income tax ($27,000) as they receive in OAS and CPP ($31,000). Consequently, their true cash available for spending is essentially the gross withdrawal from their RRIF’s, likely a huge cash flow surprise for Mr. and Mrs. Bean. In Scenario 2, taxes eat up approximately 2/3 of Mr. and Mrs. Bean’s pension income. For Scenario’s 3-5, the impact of taxes though still significant, starts to decrease as a percentage of pension income and overall income under each of those scenarios.

Playing with Numbers to get a Tax Centric Number


At this point, let’s play with some of these numbers and see if we can come up with a crude ballpark number for the Bean’s retirement nest egg. As I stated on day 1, this framework is clearly limited, is
based on the 4% withdrawal rule and has no academic basis and should not be relied upon as the sole determinant for your own retirement planning. 

Determine Your Spending Requirements


One of the most important inputs into any retirement calculation is your anticipated spending. Mr. Bean, who is an anal accountant, has used Quicken for years to track his spending and can project which of these expenses he will still have in retirement. The amount he needs to add to his projected spending amount for travel is his “retirement wildcard”, but Mr. Bean is comfortable he can estimate this amount and not be materially wrong. Your spending requirement should really be a yearly calculation and should typically account for higher spending in the early years of your retirement and lower spending in the later years, plus account for one-time expenses like a car purchase, helping pay for a child’s wedding or assisting your child buy a house; however, for this crude calculation, I just use a set spending rate.

Reverse Engineering Mr. Bean’s Retirement Needs

 

[Note: For purposes of this example I am assuming all the Bean's funds come from a RRIF to exaggerate the income tax effect; in reality, you will probably have anywhere from 20-40% of your retirement funds in a non-registered account(s). In addition, I do not try and account for the fact the required RRIF withdrawal may be in excess of 4%].

Once Mr. Bean determines his spending requirements, I can work backwards to help him determine his retirement number under my tax-centric formula. For example, if I assume the Bean’s spending requirement is going to be $71,000 a year in retirement and they have $31,000 in pension benefits, the Bean’s will need to make up a $40,000 retirement shortfall before I factor in income taxes. By co-incidence Scenario 5 reflects that exact situation. The Bean’s will each draw $20,000 from their RRIFs and have a combined income before tax of $71,000 ($38,500 + $32,500).

Of course, Scenario 5 reflects that after tax, they will only have $63,500 to spend, which is $7,500 short of their needs. Thus I need to gross-up the $40,000 withdrawal so the Beans can achieve their required retirement objective of $71,000 a year. Luckily I have a tax program that makes this easy to determine (you can do this with your personal tax program if you do your own taxes or use an online calculator) and when I run the numbers, I determine the Bean’s will need to take $50,000 or $25,000 each from their RRIFs (instead of the $40,000 or $20,000 each I required before tax in Scenario 5) to net out to their required $71,000 a year spending requirement. Again by a strange co-incidence, this is essentially Scenario 4 above.

Mr. Bean is short a few beans.
Since the Bean’s will need approximately $50,000 before inflation for each year of retirement (in addition to their CPP and OAS), I can now utilize the 4% withdrawal rule to estimate the amount of money they will need to retire. The magic number is $1,250,000 ($50,000/.04), which if you believe the 4% rule, will allow the Bean’s to withdraw $50,000 plus inflation for approximately 30 years or $71,000 after-tax including their pension income. If the Bean’s want to provide a measure of safety and use a 3% withdrawal rate, they would require a nest egg of $1,666,666 ($50,000/.03). Mr. Bean however told me to stick with the 4%, since as an accountant; he has led a stressed life and does not anticipate making it past 85 anyways.

The above calculation results in an inflated magic number as it assumes 100% in registered funds. In reality, the number would be based on a draw-down between your registered and non-registered accounts.

When I told Mr. Bean these results, he was thoroughly depressed. However, with my warped sense of humour, I went on to tell him if he was to retire in ten years and he required $50,000 in non-indexed RRIF withdrawals (CPP and OAS are indexed for inflation) he would actually require approximately $61,000 in yearly withdrawals if inflation averaged 2%. That would push him closer to Scenario 2 above. That would mean he would require almost $80,000 in RRIF payments and using a 4% withdrawal rate he would need to have $2,000,000 at retirement, a staggering number. Personally, I think you cannot look at a 2% inflation rate and just inflate your spending expectation. I would suggest wage increases may partially offset these increases and presumably the extra 10 years of investment returns and new deposits would make it possible to get to $2M in 10 years even if they don’t have $1.25M now. In any event, it is a sobering calculation.

Comparing Apples to Oranges to Pineapples


When I started this series, I was foolish enough to think that I could utilize the Bean's income and spending parameters to provide you with comparable nest egg numbers using various retirement expert's formulas. However, as I discussed in Part 5, there are multiple variables and assumptions that affect each calculation which makes an apples to apples comparison impossible. This will be vividly demonstrated as I walk through the various comparisons below.

Yet, I thought it would still be interesting to see how various retirement experts and their formulas, equations etc. compare when given the same retirement spending level and the same pension numbers. It is enlightening, if not slightly amusing, to see how the retirement variables are applied and the significant variances in the final nest egg determination.

What a Financial Planner Says


William Bengen, the man behind the 4% rule, says that “Where the client has any degree of complexity to their retirement situation at all, I find I must have financial planning software to incorporate all these factors….The financial planning software is essential to blending all these elements and coming up with a withdrawal rate and the use of Monte Carlo, and so forth—I just find that essential”.

So I took Mr. Bengen’s advice and had a financial planner run some numbers on his software for me, based on the above $50,000 RRIF requirement and $31,000 of pension income. In the end our comparison was not apples to apples. His software forced him to make various assumptions I could not include in my crude calculation and he wanted to use a 3.5% real rate of return. He also decided he wanted to allocate the non-registered and registered accounts equally amongst other assumptions I could not make with my limited tax centric model. So what did his software reflect as the required nest egg? His number was $1,335,000.

In this Globe and Mail article from last week, the financial planner comes up with a retirement nest egg of $1,240,000 with a couple retiring at 65 and planning to spend $75,000 a year, with a life expectancy of 95 who receive two-thirds the maximum CPP/OAS payments ($25,000 a year) and who achieve an annual return of 5 per cent, in an environment of 2-per-cent inflation.

Jim Otar’s Retirement Asset Multiplier


I next turned to Jim Otar, a financial planner and mechanical engineer (what is with engineers and retirement?). Jim is the author of Unveiling the Retirement Myth. Jim considers there to be three basic risks for retirement financing:

1. Longevity risk
2. Market risk
3  Inflation risk.

He uses an asset multiplier to factor in these risks. Jim does an awesome job of using “plain English” in this article “Do we have enough to retire?”.

You may not believe this, but I had done all my calculations above before I found Jim’s article. Honestly, it is just a fluke he used $70,000 as his required retirement spending (versus my $71k) and $32,000 for his pension income (versus my $31k). When I use Jim’s multiplier of 28 x my $40,000 pre-tax shortfall, I come to required retirement assets of $1,120,000. I am not sure how, or if Jim even factors in income taxes, into his multiplier.

Moshe Milevsky’s Equation


In Chapter 1 of Mr. Milevsky’s book , “The 7 Most Important equations”, he has a chart showing how much money you need for a 30 year retirement based on a real (after inflation) spending amount. Now to be fair to Mr. Milevsky, he says his first equation does not address taxes and you should use his final all-encompassing equation in Chapter 7. However, that chapter is about sustainable spending and I can easily grab a number from his Chapter 1 chart, so I will use the numbers in this chart and take some liberties with my calculations. If I gross my required spending up to $50,000 to account for  taxes as I did in my tax centric model and use a 3% real return rate that Mr. Milevsky says in his book is reasonable in today's economic environment, his equation would reflect a retirement nest egg of  approximately $990,000.
However, I have read where Mr. Milevsky has stated that in general you need 20-30 times your anticipated spending in retirement, so I think $990,000 would be at the low end of what he would suggest, so I will take the liberty of saying he would probably be more comfortable using a number closer to $1,100,000 for comparison purposes.

 

Michael James


I asked Michael to use his calculator that I discussed in Part 3, to determine the Bean’s required nest egg. He assumed an allocation of 15% in bonds, 15% fully safe and 70% in stocks. He also assumed a 4% real return for stocks and a 2% real return for the bonds. He also assumed a very efficient ETF portfolio with fees of only 0.2%:

Michael determined if the Bean’s want to live indefinitely, they will need a nest egg of approximately $1,680,000. If they plan to live to the age of 95, they will need approximately $1,070,000. If they plan to live to 90 they will need around $960,000 or so.

If Michael used a 2% Management Expense Ratio (“MER) instead of his ultra low cost MER of 0.2%, his figures jump to $3,250,000 if you plan to live indefinitely, $1,270,000 for age 95 and $1,090,000 for age 90.

Summary of $71,000 Spending Requirement


If the Bean’s require $71,000 to spend in retirement after-tax (including $31,000 in pension income), the various calculations would suggest that they should be shooting for a nest egg at the low end of $1,100,000 to $1,350,000 at the high end.

As noted above, I have taken liberties with some of the calculations and the variables would change for your specific assumptions and facts. Like I say in my title, who the heck really knows what you need to retire; all these numbers may be consistently wrong, but the above at least provides a starting point of some sort, even if simplistic.

What if the Bean’s have a $104,000 after-tax Spending Requirement?


Since my chart for the Bean's includes a scenario (#1) where they have a requirement for a $104,000 in after-tax spending ($131,000 in pre-tax income), let's see what the various formulas would reflect as their nest egg requirement for that level of spending.

Blunt Bean Counter – $2,500,000 ($100,000 RRIF/.04%=$2,500,000 for a 100% registered account).

Jim Otar –$2,044,000 (as the $104,000 is an after-tax spending amount and Jim uses a pre-tax spending shortfall, I have estimated that spending shortfall to be approximately $73,000)

Financial Planner –$2,250,000 using the same variables as noted in the prior example.

Moshe Milevsky –$1,978,000 at 3% real return, $2,100,000 at 2.5% return (as per his chart in Chapter 1 for a $100,000 after-tax shortfall).

Michael James – if you want to live indefinitely you will need approximately $3,370,000, if you live to age 95 the magic number drops to around $2,150,000 and at 90, it's $1,920,000 and finally, at 85 it's approximately $1,650,000.

If Michael used a 2% MER instead of his ultra low cost MER of 0.2%, his figures jump to $6,510,0000 if you plan to live indefinitely, $2,530,000 for age 95 and $2,190,000 for age 90.)

Summary of $104,000 Spending Requirement


If the Bean’s require $104,000 to spend in retirement after-tax (including $31,000 in pension income), the various calculations would suggest that they should be shooting for a nest egg at the low end off $2,000,000 to $2,500,000 at the high end.

Canadians Know Best


A recent BMO Harris Private Banking survey said that Canadians with investable assets of $1million or more say they need on average $2.3 million to live out their ideal retirement lifestyle. Based on the above, it looks like they are in the ballpark.

Final Caveat


Throughout this series, I’ve shared with you my research and analysis and provided you with as much information as possible so that you can try and determine (or at least consider) the assets you need to accumulate for your own retirement nest egg. There is not one definitive number. Keep in mind, one size does not fit all. My retirement funding includes the sale of my partnership interest; yours may include the sale of a business or a severance payment for taking early retirement. The point being, we all have unique situations.

Conclusion – This Series is Finally Over!!


After going through the analysis I provided to you, I've determined that I am much further away from my retirement goal than I had anticipated and I will still be working for several more years. I now wish I had a company pension. The largest surprise of this exercise to me is that I may give consideration to purchasing an annuity with some portion of my retirement funds, to ensure I have a constant minimum cash flow. Depressing as this exercise was, it brought some clarity to my retirement planning. I also realized that I have no idea whose Monte Carlo simulator will hit the jackpot and that historical data can be interpreted in so many ways it leaves your head spinning.

I do know a multitude of factors beyond my control may impact my expected withdrawal rate (see Part 5 for the laundry list) and thus as a result, I will have to:

1. Be flexible in my spending requirements and may need to be open to working part-time in retirement

2. Review, revise and refine my retirement plan on a consistent basis to account for financial and life events and any changes in my behaviour
In conclusion, I hope my quest or journey for freedom 55,65,75, helps guide your retirement planning.

This site provides general information on various tax issues and other matters. The information is not intended to constitute professional advice and may not be appropriate for a specific individual or fact situation. It is written by the author solely in their personal capacity and cannot be attributed to the accounting firm with which they are affiliated. It is not intended to constitute professional advice, and neither the author nor the firm with which the author is associated shall accept any liability in respect of any reliance on the information contained herein. Readers should always consult with their professional advisors in respect of their particular situation.