Since Thursday I’ve been worried about you. More than usual.
Last week we mashed the public pension scheme after I described plans some politicians have to double CPP payments and premiums in order to stave off a middle-class crisis. It’s the biggest issue of our times. As I said, it’s barely discussed. The potential exists to cave the economy, especially for those now in their 30s and 40s. In fact, it probably will. So I hope you have a plan to take care of yourself.
It was kinda sad to see the debate in the comment section Thursday about whether a wrinklie should take CPP payments starting at 65, instead of 60. (The answer is sixty, of course.) Sad because people reaching the sixth decade of their lives shouldn’t have to sweat about whether they receive $600 a month or $420. In either case, it’s not enough to live on because CPP was never designed to replace your income in retirement (as the US Social Security was). So for those who must depend on it, plus the $540-a-month in OAS (universal at age 65, soon to be 67), it’s a financial failure.
Raising the premiums and doubling the benefits won’t happen soon, if ever. The economy can’t stand it right now. But this won’t save the Boomers, anyway, while doubling the amount siphoned off the paycheques of their offspring. You’re on your own for two reasons. Most people don’t have corporate pensions, while they gamble massively on real estate. Risk on.
What to do?
Boomers should dump houses before the market erodes, and get invested in income-producing assets. Already properties are turning more illiquid in many markets. How do so many people not get this?
For their kids, it’s more complex. Simply put, if you don’t have a robust portfolio by the time you’re 45, you’ll probably live to regret it. The two obstacles to achieving that are financial ignorance and trying to pay off a house. Both are curable.
For example, so long as mortgages remain in the 3-4% range, why throw all your cash at getting rid of one? Unless houses swell in value for years on end (highly doubtful), you’re merely shovelling money into equity which earns nothing. Better to use extra cash flow funding a good portfolio of financial assets promising a better return plus diversification. Remember that without inflation or an expanding economy, real estate is no financial plan. Just a place to live.
How much money do you need to not be old and pathetic? There’s no single answer. Some people live on air. Others want fat incomes for boats and (mature) babes. But by 45 you should have that figured out. The average CPP plus OAS gives $13,680 a year. If you have a corporate pension, add it in. But seven in ten don’t, so subtract the government pension from what you figure you’ll need, then work backwards. And don’t underestimate your income needs. Most retirees spend more than they did as workies.
The average retired person in Canada now grinds through $51,000 a year. If inflation over the next 20 years averages 3%, you’ll need $92,100 to buy the same stuff. If government pensions grow by 2% annually for two decades (they always lag the CPI), then count on $20,300 from the feds. The shortfall is more than $71,000. How much invested money does it take to spit out that, then last for 20 more years? Well, $1.25 million cranking 6% would satisfy the income needs, while preserving the capital, which would degrade over time thanks to inflation. Plus, you’d have some money to leave to your kids or spouse.
To achieve this you’d need roughly $400,000 at age 45, invested at an annual average return of 6% (assuming no new contributions). Then, on your 65th birthday, you’d have $1,282,854. (This does not factor in taxes, which would be nil on unrealized capital gains, and at preferred rates for dividends. Plus you can shelter tax-free within a TFSA, but RRSP money is taxable as income.)
Compare this to what one big US financial company advises: By age 35 you should have saved one year’s salary. By 45, three years of earnings. Five years’ worth at 55 and eight by 65. That means if you’re 45 and earn $90,000, you should have a nestegg of $270,000. Or, as another author/blogger states, your net worth should be 10% of your age times your income. So a 45-year-old making $90,000 needs a liquid portfolio of $405,000.
Okay, so average the three and you get $358,000. Plus your house – because equity earns 0% unless real estate values are growing. And a 6% rate is impossible when incomes are barely moving and mortgage rates can’t fall further. But let’s cut it in half – $180,000 – and assume between 45 and 65 you save and invest like a crazed beaver.
Now, see the problem? A recent CIBC poll found that 45% of people aged 50 to 59 have saved less than $100,000. The survey asked the same folks when they plan on retiring. 63, they replied. And who says Canada’s not a funny place?
A Canadian Payroll Association survey last month found 40% of people spend all, or more, of their net pay. They save nothing. Of working people, 73% have saved less than a quarter of their goal. Half save less than 5% of what they make. About 47% of people nearing retirement have saved only a quarter of the needed amount. Worse, a BMO project discovered 80% of the money in TFSAs – the only place investments can grow tax-free and be cashed in – sits in savings accounts making diddly.
How can all these cash-poor, house-rich people finance their lives without dumping real estate?
Answer: they can’t. And what a market-killer that’ll be.