Looking for income - another option

In my last column I talked about using the “T” class funds to create a tax efficient income in retirement. In this column I will look at using a Guaranteed Minimum Withdrawal (GMW) which is a contract offered by Insurance Companies, and offers predictable, sustainable income in retirement.

As Canadian’s we are living longer than the generations before us, but it also poses an important question and that is, “will we have enough money saved to allow us to maintain our lifestyles?”

In the past, it was common to go a job and take part in a Defined Benefit Pension Plan which would guarantee you a steady income when you retired. However, we have seen a considerable shift from Defined Benefit Plans to Defined Contribution Plans. These plans will see the employer and the employee make regular contributions to the plan. However these plans are market driven and your income is based on contributions and rates of return.
Another factor that we need to be aware of and build into our financial plans is inflation. Inflation will continue to rise over time and can erode our purchasing power significantly. Based on the consumer Price Index of 3%, a basket of goods that cost $200 today will cost $361 in 20 years.

Using a strategy that utilizes a GMW is an option to provide retirement income that can provide a guaranteed, predictable income of up to 5% of your deposit for life starting at age 65. The contracts offer several features and may vary slightly from each company that offers them.

1. Guarantees an annual income for life from age 65 regardless of how the market performs.
2. For individuals that need an income before age 65, they guarantee a return of the original principle over 20 years regardless of market performance.
3. A 5% income bonus will be added in years that there are no withdrawals and increases the base on which the income is based on.
4. Locks in your investment gains every three years so that you benefit from the growth in the markets, thereby increasing the GWB.
5. The contract will offer a broad range of investments and you have the ability to make switches.
6. You have access to your savings at any time.
7. Allows for a smooth transition to your estate.
8. Offers potential creditor protection.

Case Studies

Taking Income Now, In a Down Market

Peter, age 65 has $500,000 in retirement savings and needs to take an income immediately. He wants to use the $500,000 to guarantee an income for life.
In this example, Peter’s initial deposit establishes a GWB benefit base of $500,000 and annual guaranteed income of $25,000 (5%). Within 16 years, his portfolio market value declines to zero. However with the GMW contract he will continue to receive the $25,000 income for life.

Taking Income Now, in a Up Market

Morgan can benefit when she invests $500,000 and the markets perform well.
Resets can capture market growth and reset Morgan’s income to a higher value every three years. With an initial deposit of $500,000 her guaranteed income would be $25,000. Based on market growth of 8.41% the reset would be based on $542,028 which would now produce an annual guaranteed income of $27,101.00. Looking forward at the reset in Year 18, Morgan’s GWB has increased to $829,622 and her annual guaranteed income starting in year 19 is now $41,481. (5% of $829,622). She will be able to withdrawal this amount for the rest of her life and if the markets continue to perform well this amount could potentially increase again.

Hypothetical portfolio consists of 60% globe Canadian equity Index and 40% Globe Canadian Bond Peer Index. Calendar years from 1989 to 2008.
Performance histories are not indicative of future performance.

Using a GWB contract is a way of pensioning part of your retirement income to create a life time income. Careful consideration must be taken when you are structuring your retirement income sources to ensure all consideration is taken into account so that you don’t run out of money in your retirement years.

If you have any questions on this topic or would like to find out more about a financial planning topic of interest, please call 250-762-4100 or email [email protected]

This column is presented as a general source of information only and is not intended as a solicitation to buy or sell investments, or life insurance, and should not be taken as providing, investment, financial, legal, accounting or tax advice.

This article is written by or on behalf of an outsourced columnist and does not necessarily reflect the views of Castanet.