Contradictory Retirement Plans

I get a lot of friends and family asking for help figuring out their retirement finances when they’re just a few years from retiring.  These discussions follow a common pattern: people say they want to spend more in their 60s while they’re still able to enjoy new experiences, but they make plans that involve spending less in their 60s than they will have available in their 70s and beyond.  They resist a simple idea even after I show them how much more they could be spending early on.

I’ll illustrate what’s going on with an example that borrows from some of the real cases I’ve helped with.

Meet Dan

Dan is a single guy about to retire at 60.  Here are his relevant financial details:

TFSA: $200,000
RRSP: $300,000
Pension: $4000/month indexed to inflation + $800/month bridge until he is 65
CPP: entitled to 90% of the maximum amount ($826 at 60, $1290 at 65, $1832 at 70)
OAS: entitled to the full amount ($740 at 65, $1006 at 70)

Dan tried to work out what to do on his own initially.  His thinking was mostly short term.  To compensate for his drop in income when he retires, he would take his CPP right away, and take his OAS at 65.  He wants some money to do some traveling over the next decade, and his work pension isn’t enough.

Here’s a chart of Dan’s inflation-adjusted income based on these plans.  Note that in nominal terms, his income will go up with inflation each year, but we show it in constant 2025 dollars.

The first thing to notice is that Dan hasn’t included his RRSP or TFSA in these plans.  He didn’t really think about them; he just assumes that they are for “later.”  By default, Dan will have to convert his RRSP to a RRIF when he’s 71, and will have to start drawing from the RRIF when he’s 72.  Let’s add in Dan’s RRIF income assuming conservatively that his RRSP/RRIF will earn 2% above inflation.

We see now that contrary to Dan’s stated goal of having more income for traveling in his 60s, he’s actually planning to live small in his 60s.  This is the point where I suggest starting to draw from his RRSP/RRIF right from the start of retirement.

Immediately, we run into a problem.  Dan doesn’t think of himself as the sort of person who spends his RRSP.  That’s for old people.  He doesn’t feel very old.  He doesn’t like this idea.  He’s still the kind of person who saves money.

Not everyone can get past this point.  Some live small for years to give themselves a large income in their 70s and beyond.  Let’s hope that Dan can get used to the idea of starting to live now.  Here’s a plan that smooths out Dan’s RRSP/RRIF income:

If Dan can wrap his mind around spending from his RRSP, this plan gives him more money to travel now, and he still leaves his TFSA for safety.  His income will be $6568/month, $942 more than he would have started with in his original plan.

Let’s look now at what happens if Dan delays the start of his CPP and OAS until he is 70, and he uses his RRSP to fill in the gap in his 60s:

The first thing to notice is that by delaying CPP and OAS, Dan’s income rose by $392 to $6960/month.  Next, we see that Dan uses up most of his RRSP before he is 70.  This feels risky, but it’s actually a risk reduction.  Dan will be using his RRSP to buy guaranteed inflation-indexed CPP and OAS income of $2572/month.  Further, he will get this guaranteed income at a price he can’t match with the returns he can get from his investments, even if he manages to beat inflation by a little more than 2% per year.

Starting at age 70, almost all of Dan’s income is guaranteed.  Any age-related mistakes he might make managing his RRSP or TFSA will be less damaging.  If Dan wants to spend even more in his 60s, he could deplete his RRSP/RRIF in his 60s and live on his guaranteed income and his TFSA after that.

If Dan decides he doesn’t need this much income one year, then he could save any excess in his TFSA.  It will be better for Dan’s heirs if he draws out RRSP/RRIF money to smooth his taxable income.  Leaving an estate with a lump sum in a TFSA rather than a RRIF will reduce taxes at Dan’s death.

Conclusion

The simple idea that Dan and many others resist is that they need to draw from their RRSP early in retirement to avoid living small during the years when they are most able to enjoy their money.  This idea goes a step further when we use RRSP money early in retirement to buy more guaranteed CPP and OAS income later in life.  Ironically, by delaying CPP and possibly OAS too, people with enough other savings make it possible to spend more money safely right from the beginning of their retirements.