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By Gail El Baroudi
The Globe And Mail
Report on Business
Wednesday, February 11, 2004
It's decision time for investors turning 69 in 2004.
This is the year they must wind up their registered retirement savings plans and make one final contribution before year-end.
Adrian Mastracci, investment counsel at Vancouver based ‘fee-only’ KCM Wealth Management, says, “For most, it's the rational choice because of its flexibility: they can choose their own investments, decide whether to withdraw more than the required yearly minimum and arrange either monthly, quarterly or annual withdrawals.”
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| KCM's Adrian Mastracci: Virtually all of his clients choose a RRIF when collapsing an RRSP. "For most, it's the rational choice." |
At this point, they face three options. By far, the most popular is moving into a registered retirement income fund, or RRIF, thereby retaining control of the capital in their RRSPs.
The second option is to purchase an annuity from an insurance company, which offers a guaranteed income for life, or for a certain term.
The third option, converting the RRSP into cash, makes no sense for most people, because the entire amount would be taxed as income, wiping out nearly half of it in many cases, says Doug Macdonald.
But be warned: if you ignore that Dec. 31 deadline, that's what will automatically happen.
RRIFs are very similar to RRSPs, Mr. Macdonald says, the big difference being that yearly contributions are no longer allowed but yearly withdrawals are now mandatory and must follow a schedule set by the federal government. He adds that all RRSP-eligible investments are also eligible for a RRIF.
But the objectives of the two are different, points out financial author Gordon Pape.
"In moving from an RRSP to a RRIF, you go from a portfolio that is balanced but has a growth bias to one that is balanced but now has an income bias. So you may want to replace some growth companies that pay no dividend, for example, with income-producing investments," Mr. Pape says.
Mr. Pape advises making some moves early. "Start planning at least three years ahead of time, so that you can make the changes while taking advantage of price opportunities as they arise and you won't be forced into buying income-producing securities at the top of the market, or selling other securities when they're down."
And he warns against chasing high yields. "Remember the rule: the higher the yield, the greater the risk."
For those who set up a RRIF in 2004, the first mandatory withdrawal will be next year, says Adrian Mastracci, president of Vancouver-based KCM Wealth Management Inc. At 70, according to the schedule, the minimum withdrawal is 5 per cent of the dollar value of the RRIF at the start of the year.
He adds if there is a younger spouse, the RRIF holder can choose to withdraw the minimum based on that spouse's age. The minimum for a 65-year-old, for instance, is only 4 per cent, but this arrangement must be made at the time the RRIF is set up.
Mr. Mastracci says nearly all of his clients choose a RRIF when collapsing an RRSP. "For most, it's the rational choice because of its flexibility: they can choose their own investments, decide whether to withdraw more than the required yearly minimum and arrange either monthly, quarterly or annual withdrawals," he says. There's no upper limit to the yearly amount that can be withdrawn but all withdrawals are fully taxable as regular income.
Nevertheless, there are disadvantages to a RRIF. "First, it requires close management and involvement, and this can become more difficult with age, failing health and memory," Mr. Macdonald says.
Second, those with limited financial knowledge may make poor decisions or take on too much risk. And third, there's a real danger of "outliving your money."
That last concern arises because of the escalating percentages set out in the withdrawal schedule, which rapidly drains the RRIF in an individual's later years.
For example, at age 80, 8.7 per cent of the RRIF must be withdrawn, at 85 the minimum percentage is 10.3 per cent, at 90 it's 13.6 per cent and from 94 onwards, it's a minimum 20 per cent each year.
Thus retirees in their eighties may choose to transfer some or all of their RRIF into a standard life annuity, which is sold by insurance companies and guarantees a lifetime income.
"It can make sense in the later years, to get around that rising schedule and conserve the capital, especially if it is your only source of income," Mr. Macdonald says.
But standard annuities are currently unappealing, says Warren Baldwin, because their income stream is based on interest rates, now at 40-year lows. "Interest rates may rise over the next three or four years, so you don't want to lock in to long-term rates now."
He adds that investors make a binding commitment when they buy an annuity. "You can always go from a RRIF to an annuity but you can't go from an annuity to a RRIF."
A relatively new product, the variable payout annuity, offers payments linked to the performance of a portfolio of stocks and bonds rather than interest rates, Mr. Mastracci says.
After buying the annuity, you decide the percentages of equity and fixed income you want and then buy mutual funds from the insurance company that will reflect the asset allocation you've chosen.
But he adds that these funds can be expensive. "Some of the management expense ratios are high, so ask about that and go in with your eyes wide open."
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