Will you outlive your money? That’s the big question a lot of pre-retirees are asking. I am a firm believer in “pensioning your retirement income,” which means creating a secure stream of income from a variety of sources that will last as long as you do. And fortunately, there are a number of planning strategies that will let you do just that.
The Canada Pension Plan and Old Age Security, of course, provide the very minimum guaranteed income stream with payouts dependent on the size of your contributions through your working years.
But for those with large additional savings through both registered plans and non-registered investments, there are a number of additional tax-efficient ways to create a guaranteed income stream to supplement whatever CPP and OAS payments are available.
Converting some of your RRSP to an annuity at maturity is one option to consider. An annuity is a contract from an insurance company that guarantees a stated income flow for a specified time. A standard “Life Annuity” contract is not meant for growth or to supply a residual value at the end of the contract. It will simply pay out the agreed income for the duration of the contract. If you die before the contract ends, the residual will go to your beneficiaries, but that may not be much. If the contract expires before you die, the payments end and there typically is no residual value.
However, there are several other types of annuities that may allow some flexibility in the terms of the contract. A “Term Certain Annuity,” for example, guarantees a monthly income for as long as you want, up to age 90. If you die before all payments are received, the balance will go to your estate.
There are several kinds of annuity strategies as well, including laddering strategies and insured annuities, which can increase their flexibility as part of your retirement income plan and as part of your estate plan. Options can include guaranteed minimum withdrawal benefits on certain types of annuities.
Annuities are complex products, and it is important that you understand how interest rates and other factors affect how much income you will receive. It may not be advisable to convert all of your RRSP into an annuity. Annuities are not an all-or-nothing proposition. They are simply one retirement income option that you can combine with others to suit your needs.
For another client who had invested in stocks for most of her life and still wanted good exposure to the growth that stock markets can offer, but didn’t care to risk her principal, I recommended a segregated fund to add to her income portfolio. These are funds that combine the growth potential of mutual funds with the security of a principal guarantee.
Essentially, segregated funds are an insurance-based product that offer guarantees on your principal investment of up to 100% at the maturity of the contract. While you stand to benefit from any income distributions and capital gains from your holdings, your principal amount will be protected from loss. Many of these funds also offer additional protection with the opportunity to reset the term, locking in any gains made to the date of the reset.
In addition, segregated funds offer a death benefit, bypassing estate probate, as proceeds go directly to beneficiaries. And because segregated funds are tied to an insurance product, they generally offer protection from creditors. This all comes at a price, of course, and the management expense ratios of these funds can be on the high side. But for high net worth retirees seeking an additional source of secure income and principal protection, it may be worth discussing with your advisor.
What to do
My advice for those looking ahead to retirement is to make sure your retirement “nut” is covered first – that is, ensure you have the minimum income you need to live on. Annuity contracts and insurance products with a guaranteed income withdrawal feature are two available products, but these can be complicated. For that extra growth kick, but with a principal guarantee, segregated funds are an option, but you have to very carefully balance cost against benefit.
You can see that there are many innovative strategies available to combine these products to maximize income. I’ve sketched only the briefest outline here – there are many ways to mix and match these options for the most tax-efficient retirement income stream. Your best bet is to speak to a financial advisor who is qualified in both securities and insurance products to help you build an income plan that best meets your retirement needs.