I read with great interest the C.D. Howe Institute’s recent paper, “The Piggy Bank Index: Matching Canadians’ Savings Rates to Their Retirement Dreams” by David Dodge, Alexandre Laurin, and Colin Busby. It highlights the challenges faced by individuals who are attempting to save enough for their retirement. These difficulties are intensified by relatively low contribution levels for registered retirement savings plans, and low investment returns.
While I agree with most of the assumptions the authors make, I do not agree that the “gold standard” for estimating an appropriate retirement income is 70 per cent of pre-retirement income. I would suggest a more appropriate estimate is closer to 50 per cent, highlighted by the example below.
Let’s take Jane Lawyer as an example, a 55-year old with two children who earns $150,000 per year. While working, Jane’s costs include childcare and related expenses, mortgage costs, savings, and a significant tax bill. We can break the numbers down into monthly amounts:
Income $12,500
Less:
Taxes 2,500
Mortgage costs 2,000
Savings (retirement and education) 3,000
Total lifestyle expenses 5,000
In retirement Jane does not have to save, with proper planning her mortgage should be paid off, and she will experience a lower tax rate. Child-related expenses should also diminish. Thus, Jane is only spending $5,000 per month on actual day-to-day expenditures. If we gross this number up to account for taxes, we get to a total income requirement of $6,250 per month, or $75,000 per annum. This works out to 50 per cent of pre-retirement income.
This is only a hypothetical example, and everyone is different. Retirement income planning should be done with a qualified financial planner. But using a 50-per-cent pre-retirement income estimate, rather than 70-per-cent, significantly lowers the percentage of income one must save.
In percentage terms, for those wanting to retire at 65 and replace 70 per cent of their income, they must save 21 per cent of their gross income according to “The Piggy Bank Index.” A 50-per-cent replacement rate requires a more manageable 11 per cent savings rate.
The authors of “The Piggy Bank” note employer-sponsored defined-benefit pension plans contribution rates are higher than RRSP contribution rates. Why should Jane only be allowed to put $22,000 into her RRSP, when she could incorporate, establish her own pension, and contribute $30,100 to an individual pension plan? This makes no sense. The RRSP and pension contribution levels should be similar, if not the same.
It takes proper planning to achieve a comfortable retirement. The key is to start early. All that said, remember that everyone’s situation is different. Individuals must take the time to assess their personal situation to see which retirement lifestyle and savings rate is best for them.
Alan Acton is a financial adviser in Ottawa and can be reached at [email protected].
The opinions expressed are those of Alan Acton and not necessarily those of Raymond James Ltd. Statistics, data, and other information are from sources believed to be reliable but their accuracy cannot be guaranteed. This document has been prepared to assist individuals with financial concepts and is for informational purposes only.
