There’s lots of chatter about how much money people need when they retire from both soon-to-retire farmers and from people who offer tips. From my experience, most retired people need more cash flow than they realize but if they want to learn a new skill they can retire in comfort on a lot less money than they think.
The main word here is cash flow and being prepared for how the money is going to be taxed in the future. Several things affect how much tax you pay. I’ve only been retired for three years but I have worked with farmers who have been retired for 20 years. As long as they were healthy most travelled, drove a nice car, bought stuff for children and grand children and generally seemed to have enough money. Of course they did plan well, in my opinion.
And most of them didn’t even use all the tools they could have used to manage their money. I will now outline a list of what I would call a good way to plan for retirement.
INVEST IN A TAX-FREE SAVINGS ACCOUNT
TFSAs are a gift from the federal government that started in 2009. Every Canadian over age 18 can put up to $5,000 per year into a TFSA. If you didn’t start one in 2009 you can put $10,000 in this year and then $5,000 per year going forward. All the money earned in that account will be tax free. Of course, how well the investments do in the account will depend on what you buy with the money. Many with no investment skills or a low risk threshold put the money into three-to five-year notes of some kind and earned roughly $150 in 2009.
The government saved $1,500 in taxes on some of these people because they did not put money into their RRSP because they filled the TFSA. At that rate it will take you nine years or so to make up for one tax refund.
Our readers of StocksTalk took more risk, learned a new skill and many picked up 20 per cent or more on their money in 2009. I don’t know if they can do that year after year but I have made very good money with my investment strategy these past few years, in bull and bear markets. I sell covered calls on good stocks, but that is another story.
People with cash on-hand should likely try to fill their TFSA and their wife’s TFSA as soon as possible and learn how to turbo charge earnings. If parents plan to give money to their children then another step is to have the children set up the TFSA or help the children set it up and put some cash into the TFSA as a gift or cost share it the way the government used to do with NISA.
You could then help the children with the investment strategy and all the money earned would be tax free, reduce the value of your estate, reduce your income tax, reduce the probate fees on your estate and maybe the children might even learn something new about investing.
Done properly that money could earn some capital gain from stocks, some dividends and collect premiums from selling covered calls. Yes, three streams of income, all tax free.
USE A TRADING ACCOUNT
The trading account has been around forever and if we make capital gain in it or sell covered calls, the gains are half taxable, so maybe half of the income in a trading account can be tax free. Between a TFSA and trading account, up to 75 per cent of gains can be tax free.
If you want to keep more of your money now or when you retire, this is one part of the overall secret to keeping taxes down so you keep more of your money.
Let me put it another way. At some point in time, let’s say you made $5,000 in your TFSA and $5,000 in your trading account, or $10,000. With this strategy you would be taxed only on $2,500, so you might pay $1,000 to $1,250 in taxes and keep something close to $8,700 out of that $10,000. If you managed to earn that much interest, you might keep $5,000.
If that doesn’t turn your crank, work out the same example if you made $10,000 in a TFSA and $10,000 in your trading account. The numbers become very attractive and you sure do keep a lot more money than if your money earned interest only.
Sure it might take a few years to set up and learn how to do this and this is why you really should start sooner than later. But imagine if your TFSA made $10,000 tax free and your trading account made $10,000 and half was tax free. The total tax bill might be $2,500 on the taxable $5,000 so you would keep a total of $17,500 out of the $20,000. Since you would have lower taxable income, you might not have your OAS clawed back and you might even qualify for other tax perks.
Let me assure you, making $17,500 tax free is a lot of money, on top of other income you might have.
How much money would that take? Around $100,000 if the
money made you 20 per cent, $200,000 if money earned 10 per cent and many of readers of StocksTalk made more than 15 per cent on their money in 2009. I guess we’ll see how they do in the years ahead.
MAKE A PHANTOM PORTFOLIO
A new reader recently called with a question. He sold the farm and had $500,000. Someone invested it at some rate so he got $24,000 per year, of interest taxed at whatever rate of tax he was at. That is $2,000 a month of taxable income or 4.8 per cent per year — that’s quite good, actually. I explained phantom portfolios to him and I’ve set 15 or 20 of these with readers the past few months. A phantom portfolio is a “What if?” type of portfolio. Consider it a practice account — let it run for a three or four months and see what returns your decisions are making. Once you’re comfortable with the set up, you can go ahead and make this a real portfolio.
If we stick to good stocks, these phantom portfolios can make $2,000 a month quite easily or $24,000 a year on $100,000. He could leave the other $400,000 where it was, make $19,200 of taxable income and another $24,000 of money taxed as capital gain on the $100,000. So he’d make a lot more money with this double strategy and keep a lot more as well.
Yes there are risks, but they can be managed. And yes, it takes some new skills but they can be learned. And yes it will take some work. That now becomes a personal decision, does it not?
From what I see, parents seem to lead families with this strategy of selling covered calls. But sooner or later I think some children will learn this stuff and if parents get to the point where they can’t read and think then surely someone in the family could do this for them.
But again, selling covered calls takes money, to be used to buy stocks which have risks, and it takes some work. It takes less and less work as people get more experience and we learn to relax but this is not a “put the money in and forget it” strategy. It’s a strategy where we learn a new skill and get paid very well to use it.
Andy Sirski is more or less retired. He manages his investments and publishes a newsletter called StocksTalk where shares what he does with his stocks. You can read it free for a month by going to www.Stockstalk.net,click on “free month”, click on “form”, fill in four lines and click submit.