Throughout your working days the focus is savings and growth. At retirement, objectives change and you begin looking at capital preservation and income needs.
These changes in investment objectives are best outlined in a four-part plan. The first part of the plan is to prepare a financial plan or budget estimating how much income you require from your investments.
The second part of the plan is to determine how much your current investments are generating in income. We recommend breaking this income analysis down by account type (i.e. non-registered, RRSP, TFSA).
The third part of the plan is to determine the hierarchy of which accounts to pull the income and capital, from first.
The last part of the plan is to ensure that income is transferred from the investment account to the bank account at the right time, like the end of every month.
Step 1: Whether you prepare a budget or have a detailed financial plan prepared, you will have a better understanding of your cash in-flows and out-flows. In some cases, pensions and other income sources are enough to fund retirement cash flow. Others rely primarily on the cash flow generated from their investments. Your financial advisor should be able to assist you in reviewing this information and mapping out an appropriate income stream given your situation.
Step 2: Investment advisors are able to generate reports beyond the monthly statements mailed to your home. One statement we provide to our clients is called an expected income report. This report lists every single investment that pays income and provides the frequency, dates and amount of each payment. This is a useful report to assist people with cash flow and budgeting for the upcoming year. Note that investors who only invest in mutual funds may not be able to generate this type of report. An expected income report can be generated when you own individual holdings, such as preferred shares, common shares, bonds, debentures and GICs.
Step 3: If you have multiple types of investment accounts you should determine which account you pull your income (and capital) from first. As an example, we will use Mr. and Mrs. Thomson who have a non-registered investment account, RRSPs, and TFSAs. Based on their tax situation we recommended they first deplete the non-registered account (over the next six years), then the TFSA, and then the registered accounts. Every financial situation is unique. Factors we look at are whether or not someone is married, pension splitting options, marginal tax brackets, percentages of registered versus non-registered, life expectancy (genetics/lifestyle), and cash flow needs.
Step 4: The third component of the income plan outlines how your investments are converted to cash and then transferred to your bank account. Although manual cheques are still issued and mailed, most transactions are now being executed electronically. Investors are more comfortable trusting the electronic transfer of funds from one account to another. With electronic transfers there is no risk of mail being lost and transactions are done in a timely manner.
When an investment account is first opened we request a void cheque from our clients’ bank account to obtain the institution information, including transit and account numbers. This information is required to set up electronic transfers between their investment account and the bank they deal with.
When transfers from an investment account to a bank account are done on a scheduled basis they are referred to as a systematic withdrawal plan – often referred to as a SWIP. SWIPs are set up to electronically transfer a predetermined amount from an investment account to a bank account. Understanding the income currently being generated from the investments, maturity dates, and liquidity of the portfolio are key components to look at when setting up an appropriate SWIP.
Investors have flexibility with respect to the amount of income they would like to receive and when they would like to receive it. The following illustrations provide an overview of how SWIPs are often used.
Mr. Williams requires a high level of income from his portfolio. He has requested that we send him all of the income from his non-registered investment account on the first of every month. Mr. Williams has $250,000 invested generating approximately $12,000 per year in income (interest and dividends). We provided Mr. Williams with an expected income report and noted that his monthly income ranges from $600 to $2,000. However, his average income is approximately $1,000 a month. For the current month he earned $740 in dividend and interest income. This total amount will automatically be transferred to his bank account on the first day of the next month.
Mrs. Walker has a cash flow need of approximately $4,000 per month. Her sources of income are from CPP, OAS and a small pension, all of which add up to approximately $2,400 per month. How is Mrs. Walker going to fund the monthly shortfall of $1,600? The most obvious place to look is her investments, currently generating approximately $800 per month (short of the $1,600 she requires for monthly expenses).
We explained to Mrs. Walker how a SWIP can be set up to transfer a flat dollar amount, such as $1,600, even if this amount exceeds the monthly income generated in the account. We established a plan that allowed for certain investments to be partially or fully liquidated over time to ensure the monthly payments could be sustained during her lifetime. This included factoring in projected income amounts and maturity dates of her investments. With this type of SWIP additional planning is required.