Situation career woman wants to buy home, build savings
Strategy Put home on hold, focus on investment risk, fees
Solution Home she can afford, sufficient retirement savings
Single and independent, a woman we'll call Maureen is making her way through the corporate world in Calgary. At 33, she is an experienced supply-chain manager. Divorced, with no dependents, she would like to buy a home, likely a condo, and think about retirement at age 60 or so while she is still young enough to enjoy winter sports and travel. She is thoughtful, balancing a past in which she spent too much, ran up debts, then struggled to pay them. She came out of the experience resolved to manage her financial life better. She has accumulated $89,400 in financial assets.
For now, she faces the challenge of buying a condo in Calgary, where, according to the Royal LePage House Price Survey for the first quarter of 2011, a standard unit, depending on neighbourhood, is about $250,000.
Maureen currently grosses $6,000 a month and takes home $4,164 after deductions of tax and benefits. That's ample for a single person in many cities, but for her plan to buy a home in a thriving property market, it's not a lot. A standard mortgage with a 25% down payment would deplete her non-registered savings of $47,000 and still leave a gap before she could make a $62,500 down payment.
She has contemplated a move to Vancouver, where salaries are higher for her type of work. She might get a similar job to the one she has now with a $100,000 salary. But Vancouver standard condos, according to the Royal LePage survey, average $500,000 to $600,000 with wide variations among neighbourhoods. Even at the low end of the price range in most areas, Maureen would need $125,000 to make a 25% down payment.
Maureen is caught in a career dilemma: If she pursues a higherincome job, the cost of property in Vancouver may still leave her renting. Even a high-ratio mortgage insured by Canada Mortgage and Housing Corp. could be problematic. She might be able to make a 10% down payment in Calgary, but the cost of a high-ratio mortgage is huge over the life of the loan. If she could scrounge up a 3.6% rate for a five-year closed term, a 30-year mortgage for $225,000 would have total interest costs of $143,841, about $24,000 more over the three decades than needed to pay off a $187,500 conventional mortgage loan.
"I'm trying to figure out how to plan for my future," she explains. "I've realized that it's more difficult to leverage one income than two."
Family Finance asked Graeme Egan, a portfolio manager and financial planner with KCM Wealth Management Inc. in Vancouver, to work with Maureen.
"She wants to earn and save more with a new job and to build up capital for a home and in retirement savings," he says. "That's a lot of ambition for her stage of life. Maureen is financially mature beyond her years." For now, a condo of her own should wait, Mr. Egan suggests. Rather than plunge into a purchase, Maureen should rent for a while longer, try to get a higher-paying job, and build up savings for a conventional 25% down payment. Before her divorce, she owned a home and therefore cannot qualify for the RRSP Home Buyers Plan.
Maureen saves $1,299 a month in her RRSP, her tax-free savings account and in cash. RRSP tax savings are not very tax-efficient, for her average tax rate is only 24%, counting federal and provincial taxes. She could skip RRSP contributions and add the $575 a month to a home down payment account. In one year, her TFSA and other savings would grow to $62,588 and she would have sufficient money for a 25% down payment on a Calgary standard condo, Mr. Egan says.
Maureen's RRSP assets are two funds that her bank has cobbled together with blue-chip Canadian, U.S. and global stocks. One of these wrap funds is 75% stocks and 25% bonds. The management fee of 2.5% is cheap compared to some other global balanced funds but is still costly for the fixed-income content, eating up most of the bond interest. Her other wrap fund has a 2% management fee but almost all equity exposure. The funds have underperformed the majority of similar funds and carry currency risk, too. She is paying a good deal for performance that hasn't happened and future performance is likely to be drained by high fees. She is exposed to the European national debt crisis, Japan's posttsunami economic abyss, and the recurrent melodrama of how the United States will pay its debts. All this may work out for the best, but for now, Maureen's global investments are suffering.
ResolvinG Risks
Maureen should use lower-cost investments to avoid erosion of her assets by fees, Mr. Egan suggests. After all, performance is speculative but fees are certain. She can buy exchange-traded funds, which are mutual fund portfolios traded like stocks, with management fees 20% or less than those she pays for her mutual funds. She might also consider index funds sold by banks and other vendors. They tend to have somewhat higher fees than ETFs, but they expand the menu of substitutes for high-fee managed funds. She can pick from many bond index funds or bond ETFs that ladder their holdings in corporate and government bonds and that can easily ride up the trend of rising interest rates with new bond returns offsetting small declines in the market price of old, low-interest bonds.
Assuming that Maureen remains a diligent saver and assuming further that her $42,400 of present RRSP balances grows at 7% a year for the next 27 years and that she contributes $500 a month after a one-year suspension while she builds a down payment for a Calgary condo, she should have $711,000 at her age 60. If that portfolio is drawn down to zero by the time she is 90, it will yield $51,600 a year. While a 7% return might seem aggressive, she has the time and resilience to use investments a little riskier than average and to have bond allocations in a range of just 20% to 30%, Mr. Egan says.
Add in CPP payments of $11,520 a year and OAS benefits of $6,404 a year, all in 2011 dollars, and Maureen should have permanent retirement income of $69,524 a year. She would lose a small amount of income to the OAS clawback that currently starts at $67,668. However, in retirement and with RRSP savings discontinued, no rent and a mortgage fully paid, she would have more disposable income than she now enjoys. She will have met her goals by disciplined saving with a potential boost from a higher salary -if she can get it.
z Need help getting out of a financial fix? Email andrewallentuck@ mts.net for a free Family Finance analysis.
Financial Snapshot
Income
monthly after-tax income $4,164
Monthly Expenses
subtract
Rent $1,265
food $300
Restaurants $250
entertain. $350
car fuel, repairs $150
clothing, grooming $150
RRSP $575
TfSa $600
cellphone, cable $200
Travel $100
Savings $124
misc. $100
Total $4,164
Assets
RRSPs $42,400
TFSA $17,000
Savings account $30,000
car $30,000
Total $119,400
Debt
subtract
no debt
Net worth
$119,400
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