Many people, upon reaching their forties or fifties, come to the conclusion that their retirement savings, even if already quite substantial, might not be enough for all the years of their retirement. Here are some ideas for implementing a catch-up strategy.
According to a study by the Charles Schwab company, people who start saving in their twenties can expect to maintain their standard of living in retirement if they save 10% to 15% of their income each year. On the other hand, people who wait until age 45 or later would have to put away no less than 35% of their income each year.
These figures show how important time is when it comes to retirement planning. And when time is growing short, a catch-up strategy might be required.
How to adjust your strategy: an example
Essentially, retirement capital is the result of savings that have generated a return over a certain length of time.
In the following lines, a few calculations1 will demonstrate how these three levers can be used as part of a catch-up strategy by a fictitious person, aged 50, with an income of $120,000 per year. The assumptions are:
- Annual RRSP contributions since age 30: $1,250 per month
- Average annual return
- before retirement: 4%
- after retirement: 2%
- Capital accumulated to date: about $460,000
Note, too, that to simplify this example, the person is assumed to earn the same income until retirement, and the effect of inflation is ignored (although this should not be left out of any real-life planning).
The status quo scenario
If this person carries on with the same strategy until age 65, the capital will have grown to about $1,142 million. This amount could generate annual income of about $51,000 for the next 30 years, which is only 43% of the person’s prior income.
Factor 1: more savings
Let’s suppose that this person increases RRSP contributions to the maximum allowable, based on income, which would be $21,600, or $1,800 per month. As this graph shows, this strategy boosts the capital to $1.277 million at age 65. This could represent an annual income of about $57,000 per year, or $6,000 more than the status quo.
Factor 2: optimize returns
In this second calculation, let’s imagine that, in consultation with an advisor, the person decided that a slightly higher risk level would be tolerable in the hope of generating a higher return. Assuming the same monthly contribution of $1,250 but an average annual return of 5% (instead of 4%), the capital at age 65 would be $1.303 million. As a result, the person could anticipate an income of $58,000 per year – an increase of $7,000 over the status quo.
Factor 3: delay retirement
Third option: hold contributions and anticipated returns at their current levels, but delay retirement by five years. Here the time factor proves its importance, since at age 70, the person would end up with almost $1.477 million – and five fewer years of retirement to finance. Result: the person could be looking at an annual income of over $75,000, a spectacular increase of $25,000 per year of retirement.
A compromise solution
In reality, few people at age 50 are prepared to work until age 70, and few really want to increase their risk level very much at that time of life. So the final example suggests a compromise: the person maximizes RRSP contributions while slightly adjusting the investment portfolio in the hope of increasing the average annual return by 0.5% between now and retirement, and also delaying retirement by two years. The result: the person can look forward to retirement capital of $1.533 million at age 67, and an annual income of $72,000 per year, i.e. $22,000 more than with the status quo. As well, this figure equals 60% of the person’s income while still working.
Other tactics to consider
It must be stressed that these calculations are based on assumptions that might not come to pass. Moreover, they don’t take into account any erosion of buying power by inflation. With that in mind, here are four additional techniques to consider.
- Use up RRSP room from previous years
Unused contribution room adds up year after year.
- Maximize your TFSA (tax-free savings account)
Capital growth and withdrawals will not be taxable in retirement and will not reduce Old Age Security payments.
- Quickly pay down any high-interest debt
Especially if it is not tax deductible.
- Immediately reinvest any income tax refunds
Instead of spending them.
As we can see, adopting a catch-up strategy requires discipline, but it is completely possible. If you think you need one, feel free to talk it over with your mutual fund representative or your financial security advisor, who will use his or her retirement planning tools to establish your personal projections.
1All figures mentioned here are fictitious and used for illustrative purposes only. The calculations were done using
the calculator on the Get Smarter About Money website of the Ontario Securities Commission.
The following sources were used to prepare this article:
Charles Schwab, “Waiting to Save for Retirement Could Cost You.”
Discover / Modern Money, “10 Tips for Catching Up on Retirement Savings.”
Forbes, “How To Catch Up In Your Retirement Saving.”
Get Smarter About Money, “RRSP Savings Calculator.”
The road to successful financial planning is long and winding. As a fact of life, this journey will be dotted with detours, potholes and bumps. Regardless, it is important to focus on the longer term, all the while, forging ahead to your well-planned destination.