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The Slow Route To Retirement

Retirement income CPP PAYMENTS TO TERRENCE: CPP PAYMENTS TO WENDY: OAS FOR TERRENCE AT AGE 65: OAS FOR WENDY AT AGE 65: RSP INCOME FOR WENDY: CASH FROM TERM DEPOSITS: FARM CORPORATE DIVIDENDS: TOTAL : $300 PER MONTH $200 $517 $517 $76 $500 $1,500 $3,610 PER MONTH

Terrence and Wendy have many sources of income for their retirement. Added together, it should meet their needs.

Terrence and Wendy want to retire. He is 62 and she is 60. They have a ranching operation with 380 beef cows on 2,800 acres of land they own and 2,400 acres they rent. They also have another 160 acres that are not part of their farming business.

Terrence and Wendy would like to make the move to retirement slowly, receiving income from operations while minimizing income taxes generated by the transfer of ownership to one son. They want to do the transfer in a fashion that is both tax-efficient and fair to their other five children — none of whom has stayed on the farm.

Terrence and Wendy want to stay on the farm after they have transferred it to their son. This plan would keep their housing costs down, though in a decade or two, health concerns might force them to move to the city. If they did that, they would use their non-registered cash to buy a house or condo. Eventually, that property would revert to their estate and be distributable to their children.

In principle, they can transfer their family farm corporation to the son on a tax-free basis. The farm was incorporated in 2000 with an estate freeze, in which Terrence and Wendy were paid for their interest in the new business with preferred shares. The son who farms got 40 per cent of the common shares at the time of the freeze. There is an outstanding mortgage of $625,000 at 2.75 per cent variable interest rate with a 24-year balance on a 25-year amortization.

Farm Financial Planner asked Don Forbes, head of Don Forbes & Associates/Armstrong & Quaile in Carberry, Man., to work with Terrence and Wendy to finalize the transfer and minimize taxes.

HOW MUCH DO THEY NEED FROM THE FARM?

The transfer raises several significant issues, Forbes notes. First is how much money the couple needs from the farm. They need only $3,000 per month, including the $1,000 of taxable benefits the farm provides. (See the box for their anticipated retirement income.)

If their income is $3,610 per month, Terrence and Wendy have no urgent need to increase income through sale of the farm. On the other hand, transfer is actually opportune. Between 2001 when the farm business was incorporated and today, the farm’s book value has fallen by about $300,000. There are no capital gains and, in addition, the $750,000 lifetime exemption on gains would cover such gains if they did exist, Forbes notes.

Given the parents’ modest cash requirements and the fact that they have $200,000 in off-farm financial assets, they can afford to wait, Forbes says. In this scenario, Terrence and Wendy would gradually bring their son into a full ownership role, dealing with creditors and taking full charge of the financial management of the farm.

THE OTHER FIVE

With the plan to leave the farm with their actively farming son, the question then is how to provide for their other five children. Terrence and Wendy could buy life insurance to provide a legacy, Forbes suggests. They could also channel more of the farm’s income to a trust or reserve for the non-farming children.

Terrence and Wendy already have substantial life insurance, but it is a 10-year level term policy due to renew in three years at a drastically higher rate. Terrence and Wendy should replace the policy with an age-to-100 level term policy — which covers them until age 100 — written with benefits payable on a joint and last to die basis.

Forbes suggests a $500,000 policy on the parents’ lives. If the parents live to their mid-80s, the inflation-adjusted value of the term coverage would tend to decline. It could be increased if needed. This change would boost life insurance coverage costs from $2,200 per year today to $6,500 for the new policy structure.

With the other option putting farm income into a trust — the parents could set up a dedicated savings program, putting $10,000 per year into their Tax-Free Savings Accounts. On top of their existing $200,000 of non-registered assets, they would be able to build up $500,000 in 15 years at a three per cent rate of return before any inflation adjustment.

Using the TFSA scenario rather than the life insurance plan, which insurors could nix if they decide not to provide coverage, the couple would build up a substantial estate by diligent saving.

Ten years from now, when Terrence is 72 and Wendy is 70, the couple would have total net worth of $1,372,430, including $235,600 of non-registered financial assets, $148,200 of TFSA assets, $16,100 in pension capital, and the farm business worth $972,500. By the time Terrence is 81, the couple’s net worth would grow to $1,911,000.

Income from those assets plus Old Age Security and Canada Pension Plan payments would give the couple total income of $58,470 at Terrence’s age 71 and $62,100 at his age 81, assuming three per cent annual inflation. Their cost of living would likely have doubled with this inflation assumption. But the combination of indexed public pensions plus rising income from their investments and their farming business would keep them in good stead, Forbes says.

For now, the farm’s only significant liability, the $625,000 mortgage, should be left in place and paid off at the current rate of $50,000 per year, Forbes says. The son will take over the mortgage and handle it in due course as a business debt. This plan leaves and some costs in having a lawyer review these restructured estate plans.

“The resolution that I have suggested should be transparently equitable for everyone — parents, children and even the bank that holds the mortgage. Given the parents’ wish to transfer their farm, this plan can be implemented right away. As long as the farm is profitable and pays dividends to Wendy and Terrence, the plan will work well. The only decision Terrence and Wendy have to make is whether to buy a joint and last to die insurance policy or to attempt to build equivalent equity through saving.”

“This makes sense,” Wendy says. “The plan seems reasonable and fair. What we don’t know is whether to buy more life insurance or to invest more in TFSAs. But this report gives us an idea of what we can expect for our farm and for our children. Next stop is to run this by our accountant for the math and by our lawyer for changes to our wills.”

Andrew Allentuck’s latest book, When Can I Retire? Planning Your Financial Future After Work, was published earlier this year by Penguin Canada.

About the author

Columnist

Andrew Allentuck’s book, “Cherished Fortune: Build Your Portfolio Like Your Own Business,” written with co-author Benoit Poliquin, was recently published by Dundurn Press.

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