Handling the unexpected on a fixed income

Many retirees and pre-retirees are well-versed in budgeting for the needs and wants of life during retirement, whether it involves everyday costs such as groceries and utility bills, or funding the trip of a lifetime.

However, as an Ipsos Reid survey for the Canadian Institute of Actuaries pointed out earlier this year1, 72 per cent of pre-retired Canadians are concerned about maintaining a reasonable standard of living in retirement, with a majority also worried about depleting their savings and having enough money to pay for adequate healthcare. So, in retirement, how can you successfully handle unexpected expenses that arise from health-related events, home repairs and tax bills for example? A contingency fund is key, says two Canadian financial experts — here are some tips on how to build and maintain your emergency fund.

Build more contingency income needs into your plan: Part of planning for retirement is to build in contingencies, says financial education expert Jim Yih, author of 10 Things I Wish Someone Had Told Me About Retirement. If you are able to, plan to increase your income per month above the amount needed to cover your usual expenses, which will help you build up a cushion to deal with the variability of life.

Build assets: Yih explains that Tax-Free Savings Accounts (TFSAs) make great contingency accounts, opposed to an RRSP, because of the ramifications associated with withdrawing the money. With an emergency fund, the more assets you have in TFSAs and non-registered accounts such as high interest savings accounts, the less you need to build into your monthly cash flow, he says. Personal finance speaker Gail Bebee, author of No Hype – The Straight Goods on Investing Your Money, agrees, and says almost everyone should have a TFSA. “If the furnace fails in your house in January and you have to buy a new furnace, you need some kind of fund to pay for it and if you’ve got limited cash, then put your emergency fund in a Tax-Free Savings Account,” she says.

If you’re disciplined, consider a line of credit: If you’re a disciplined person, who tracks your expenses, and is good at knowing where your money is being spent, Yih explains that a line of credit can also be a good contingency account. Rather than keeping money in an account where the interest rate is low, he suggests you can do something more productive with the money. And when an emergency comes up, use the line of credit to pay the unexpected expense and then go to your other assets to pay off the line of credit. “The line of credit becomes the emergency fund,” he says.

Start retirement with little to no debt: When you’re on a fixed income, ideally you don’t want to have debt, explains Bebee, namely a house mortgage. “You want to make sure that your basic expenses that you have to pay every month are as low as possible, and so one obvious way is to make sure the mortgage is paid off before you retire,” she says. This also includes avoiding outstanding balances on credit cards, she says, allowing you to cut monthly expenses, leaving more money in case of emergency.

Prepare for possible tax-related expenses: One unexpected surprise in retirement involves the taxes that can arise with a move to a multiple paycheque system (such as CPP, OAS or part-time employment income), as opposed to the one paycheque system that most people experienced before retirement, explains Yih. “The problem is that all these paycheques, they do take off tax, but the minimum amount of required tax, based on that individual paycheque,” he says, resulting in tax being owed. As a result, the amount may not be enough to cover the taxes you owe. You can arrange to increase the withholding taxes on some of your income sources or arrange to make installment payments to the Canada Revenue Agency. To save for tax-related bills, Yih says retirees need to learn how withholding tax works, as well as the simple calculations to figure out your average tax rate.

Visit My retirement café for more information on unexpected events that cause extra expenses.

Article courtesy of Sun Life Financial. Check out My Retirement Café to help you plan for and live a happy retirement. On it you will find up-to-date information on a range of topics, both financial – saving for retirement, managing your money during retirement, taxation – and quality of retirement life topics – aging, mental and physical health, working after retirement, relationships – to name just a few.

1Retirement Risk Defining retirement horizons, Page 5 http://www.actuaries.ca/members/publications/2010/210037e.pdf
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