Tuesday, December 23, 2014

Avoiding Retirement Setbacks

Ignorance or bad luck?

There are many things that can derail retirement dreams.

We all make mistakes when it comes to investing, but with retirement all our chips are on the table. There are no more chances to recover what we lost. Whether caused by bad luck or bad skills, we need to be aware of what can go wrong when we plan for retirement.

Retiring early

According to statistics, about 40% of workers retire earlier than anticipated. About half apply for the Canada Pension Plan before age 65, the age where the pension is not reduced for early retirement. Postponing retirement is a great way to get "actuarially" increased pension benefits (available for the CPP or any defined benefit pension sometimes offered by employers), and the later we retire, the more money we can spend each year from our nest egg.

Underestimating longevity

Our retirements will be much longer than our parents. We are healthier, more active and medical advances will keep us alive for as long time.

At age 65, a male has a 50% chance of living to age 85. A female has a 62% chance. So retirement is going to last 20 to 30 years, longer if you retire earlier. It is necessary to pace our spending in order to go the distance with the funds that we have.


Retiring with large debts, such as a home mortgage makes it very hard to accumulate wealth when a part of our savings have to pay off debt. Being debt-free is an essential ingredient of a worry-free retirement.

Medical expenses

Unforeseen medical expenses is a bit of an oxymoron. They are not unforeseen because they will happen at one point during retirement and there's unfortunately no way around this. You should explore ways to cover these costs, preferably via medical expenses insurance, otherwise by having funds set aside to cover the cost. Part of this should include funds or insurance to cover long-term care needs.

Excessive withdrawals

Withdrawing too much each year is a prescription for disaster. Either have a detailed and financial plan for retirement where you can assess your odds of success, or abide by the "4% rule", a popular guideline stating that you should withdraw only about 4% of your retirement savings annually. The "4% rule" is not a rule, but many studies concluded it is a "safe" withdrawal rate (read this blog post about the 4% rule).

So try not to overspend and live it up too much, be reasonable and curb your appetite for costly undertakings such as travel, toys or adventures.

Out of the market

The return on guaranteed investment certificates and savings account are pitiful. Investing in a diversified portfolio that includes equities has higher risk, but historically has earned way more despite the added volatility. Remember that retirement is a "long" game, and that a few disappointing years are rewarded many times over by much higher overall returns.

Education first?

If money is not sufficient for retirement, it cannot be diverted to your children's education costs. Putting education costs before retirement costs can put you in a dire situation. Your children have their whole financial lives ahead of them. Try to refrain from depleting your retirement assets or your home equity to pay for your children's education.

Impact of tax and fees

Knowing that your retirement can last very long, it makes sense to take advantage of tax efficiencies that can be achieved by investing equity-type assets in a non-registered account and less tax-efficient investments in a tax-sheltered plan such as a RRSP or RRIF. This is because capital gains and dividends have a preferential tax treatment, while interest income (e.g. interest income on guaranteed investment certificates) is taxed the same as income or withdrawals from registered funds.

Account fees also have a large impact. For example, an RRSP with a 1.5% annual account fee would leave you with 28% less money than a plan with a 0.5% annual fee.

My plan is no plan

One last retirement mistake is retiring with no plan or investment strategy. Many of us do this. Lack of planning can bring unpleasant financial surprises because we don't know how much we can spend and where the money will be coming from.

The flip side is being overly conservative and not living life to the level that our funds can support. So our retirement becomes a lost opportunity to do all the things we wanted to do during our lives.

A plan will make you spend just the right amount, while having the peace of mind of knowing you can maintain your standard of living to an advanced age.

Plan plan plan

These are a few of the retirement planning mistakes that are so easy to make. We should do our best to avoid them.

Take some time to review and formulate a retirement strategy. It will set the course for a carefree retirement where you can enjoy life to the fullest.

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