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| This Calgary couple fear that they cannot keep up with the city’s soaring level of wealth and the conspicuous consumption of those who have it. They are wondering what to do. |
By Andrew Allentuck
The Globe and Mail
Report on Business
Saturday, April 29, 2006
Calgarians Charles, 41, and Celine, 42, feel that they are on the outside of their city's financial boom. Fearful that they cannot keep up with the city's soaring level of wealth and the conspicuous consumption of those who have it, they wonder what to do.
Charles is a civic employee with a $78,000 gross annual income. Celine runs a consulting business from their home that grosses $25,000 a year. They live modestly with two cars, two young children, and no debts. Their century-old home is worth an estimated $450,000 and would be a mansion in some towns, but in Calgary, it's a fixer-upper in need of repair.
Adrian Mastracci, investment counsel at Vancouver’s ‘fee-only’ KCM Wealth Management, says, “This couple is in the enviable position of being debt-free. That has allowed them freedom in the accumulation of their nest egg.”
"At times, we feel like utter outsiders in a town that is booming with real estate and oil money," Charles explains. "We have been considering buying a rustic property in the southern foothills of Alberta, but can't figure out if we can afford such a luxury."
What our expert says
Facelift asked Adrian Mastracci, a fee-only financial planner in Vancouver, to speak with Charles and Celine. The goals -- to protect capital, map out a strategy for asset growth and to determine how the couple can afford to retire in their mid-50s.
"This couple is in the enviable position of being debt-free," Mr. Mastracci said. "That has allowed them freedom in the accumulation of their nest egg."
What's more, he notes, Charles has been in a pension plan for 16 years. If he remains with the employer until age 56, his target date for retirement, Charles will receive $47,000 a year in 2006 dollars, he estimates. The plan is partly indexed, the planner adds.
But there are problems. Charles and Celine estimate that they will need $70,000 gross income a year in 2006 dollars in order to retire comfortably. They therefore need to generate $23,000 a year more than Charles' pension pays. If they retire when Charles is 56, there will be three years before he can apply for early benefits from the Canada Pension Plan. A year older, Celine will be able to apply in two years. Their present portfolio of registered retirement savings plans, taxable investments, guaranteed investment certificates and cash totals $384,000.
Charles and Celine need to boost their investment returns, which have averaged only 4 per cent a year for the past decade, Mr. Mastracci says. Moreover, their portfolio is not efficiently invested. They have 24 mutual funds, all purchased with deferred sales charges that have imposed penalties for sale prior to the elapsing of a typical six years from purchase. The funds carry annual management fees of 2.4 to 3 per cent. The penalty periods have ended, however, and the funds can now be sold at net asset value with no charges for early redemption.
Some of the management fees charged by the funds, including an average of 2 per cent paid on income funds, take a large cut off returns. As well, their $26,000 of GICs with low single-digit interest rates could be invested with acceptable security and higher returns. Moreover, the funds overlap and therefore they provide a false sense of diversification.
The time has come to cull the herd of funds, the planner says. He recommends a 50/50 allocation to equities and fixed income. The plan is to put income-producing, relatively low-risk assets in the RRSPs and reserve higher-risk equity assets for the taxable portfolio. That way, any capital losses realized can be deducted from realized taxable gains.
The rebuilt taxable portfolio should have a mix of stock mutual funds that can benefit from professional management and exchange-traded funds that have management fees that average a 10th of those of the managed funds. The regional equity allocation can be 60 per cent Canadian, 20 per cent U.S. and 20 per cent global, the planner says.
Mr. Mastracci suggests that the fixed-income portion within the couple's RRSPs be a blend of investment-grade bonds and stocks that pay strong dividends. He suggests that half of the registered plans be in bond coupons successively due in one, two, three and four years. Spreading terms reduces the risk of rolling bonds when interest rates may be at a temporary low. The next 30 per cent of the RRSPs should be in stocks such as those of financial institutions and utilities that currently yield 3 to 4 per cent a year and are likely to have rising market prices. The remaining 20 per cent of the fixed-income portion can be in short-term cash instruments such as treasury bills or banker's acceptances.
The children's registered education savings plans should be invested in a blend of 80-per-cent large-capitalization stocks and 20-per-cent fixed income. The funds will not be required for the next decade and some asset price volatility is therefore acceptable, the planner suggests.
Charles and Celine will be able to realize their retirement goals and the educational goals for their children if they can recapture the management fees they have been paying their financial advisers. The fees charged by their conventional funds will take a third of their money for management services in the years before they retire and perhaps a quarter of the children's RESP funds before they are drawn for post-secondary education.
Fees, after all, are certain, while investment returns are unpredictable. Over periods of two or more decades, high-fee managed funds cannot fight the headwinds those fees create. Efficient investing is its own reward, the planner explains.
In 2021, when Charles is 56 and Celine is 57, the couple should be able to start retirement with their blend of pension and investment income. At the beginning of retirement, assuming that present taxable and registered assets of $384,000 have grown to $900,000 through annual RRSP contributions of $14,400 and an easily attainable 4-per-cent annual return, the couple should have $47,000 of pension income and $36,000 of investment income. They will be $13,000 over their $70,000 target retirement income in 2006 dollars.
Their retirements will grow richer in financial terms as time goes on. When each partner reaches age 60, it will be possible to take Canada Pension Plan benefits of $4,595 a year, 30 per cent less than the maximum benefit each can receive, Mr. Mastracci says. Early application for benefits cuts the payout by 0.5 per cent for each month prior to age 65 that CPP begins. At age 65, each partner will be able to received Old Age Security of $5,800 in 2006 dollars. CPP and OAS benefits are indexed to the consumer price index and will rise over time.
The couple should be able to escape the OAS clawback which begins in 2006 at $62,144 of annual income, provided that Charles has contributed to Celine's RRSP through a spousal plan and thus achieved substantial income averaging, the planner says. They will be able to control much of their clawback exposure by ensuring that Celine, who has no corporate pension plan, makes most of the withdrawals from their RRSPs through her own registered retirement income fund, Mr. Mastracci explains.
"Charles and Celine are becoming aware of the costs of their investments," Mr. Mastracci says. "The goal is to reduce investment costs. That will make the retirement they have planned a reality."
"We're going to look into our returns," Celine explains. "We're going to ask our investment adviser why we have so many high-fee mutual funds and no low-fee exchange-traded funds."
Client situation
Charles, 41, and Celine, 42, live in Calgary with their children, ages four and eight.
Net monthly income: Charles, $4,100; Celine, $1,666.
Total: $5,766.
Assets: House, $450,000; two cars, $14,000; RRSPs, $209,000; RESPs, $39,000; GICs, $26,000; taxable investments, $128,000; cash, $21,000.
Monthly expenses: Property taxes, $210; utilities and phones, $450; food, $850; entertainment, $250; clothing, $140; child care, $450; house insurance, $140; car expenses and insurance, $486; RRSPs, $1,200; RESPs, $330; charity, $30; savings, $1,230.
Total: $5,766.
Liabilities: None
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