Retirement Income Needs Analysis

8.1 Retirement Income Needs Analysis

Retirement planning—one of the most pivotal topics in personal finance—can sometimes feel a bit overwhelming. You know, like when you’re preparing for a trip and you’re not sure if you’ve packed enough clothes, or if the airline is actually going to lose your baggage. But it doesn’t have to be that way, especially if you approach it step by step. In this section, we’ll discuss something fundamental: retirement income needs analysis. Essentially, we’re figuring out how much you (or your client) will need to maintain the desired standard of living once full-time work has ended.

Even if you’re just joining us from earlier chapters—like Chapter 7 on Registered and Trust Accounts, or you reviewed the basics of net worth in Chapter 2—this portion aims to help you see the big picture of retirement planning in Canada. We’ll dig deeper into how to forecast expenses, factor in inflation, handle longevity risk, and incorporate various income sources like Old Age Security (OAS), the Canada/Quebec Pension Plan (CPP/QPP), employer pension plans, and personal investment portfolios. Balancing risk, exploring partial retirement, and remembering to review your plan from time to time all play huge roles in making sure your retirement strategy is effective and future-proof.

Below, we’ll walk through the essential building blocks of retirement income needs analysis in an informal but thorough way—sort of like chatting with a friend who’s very enthusiastic about retirement. Except that friend might occasionally say “um” or “ah,” and share a few personal anecdotes or tips learned from real-life experiences (like me!). Anyway, let’s get going.

Understanding the Purpose of a Retirement Income Needs Analysis

The main goal of retirement income needs analysis is to figure out how much money someone ought to have saved (and be able to withdraw) each year to maintain their chosen lifestyle in retirement. This can involve:

• estimating your current and future expenses,
• projecting how costs will increase with inflation over time,
• looking at how long your retirement might last (longevity risk), and
• adding in potential major expenses such as home renovations, medical procedures, or, if you’re like a friend of mine, that dream boat you just can’t stop imagining.

Doing this analysis thoroughly is so important because most people prefer not to reduce their standard of living once they retire. If you get it right, you can plan more accurately and reduce fear, uncertainty, and doubt. If you under-plan, you might run out of funds too soon—something none of us wants.

Key Steps in Retirement Income Needs Analysis

Here’s a handy overview of the process, which we’ll explore in detail:

    graph LR
	    A["Existing Lifestyle <br/>and Goals"] --> B["Estimate Retirement Costs"]
	    B["Estimate Retirement Costs"] --> C["Adjust for Inflation"]
	    C["Adjust for Inflation"] --> D["Account for Longevity"]
	    D["Account for Longevity"] --> E["Determine Income Sources"]
	    E["Determine Income Sources"] --> F["Finalize Retirement Plan"]
	    F["Finalize Retirement Plan"] --> G["Periodic Reviews <br/>& Adjustments"]

Reading this diagram from left to right, you start by clarifying the person’s existing lifestyle and retirement goals. Then you estimate retirement costs, adjust for inflation, factor in longevity, identify sources of income, finalize the plan details, and schedule periodic reviews. Let’s unpack each step.

Understanding the Client’s Lifestyle and Goals

Before you can figure out how much cash will be needed, you’ve got to know the client’s daily lifestyle. Does your client spend a lot on hobbies like golfing or traveling? Do they eat out every night? Do they have a large family with grandchildren they might want to support, or are they living solo in a cozy condo?

Lifestyle and personal goals often include:
• Travel aspirations (e.g., is your client planning an around-the-world cruise or a simple local vacation?),
• Health considerations (e.g., if they have a chronic condition, future medical costs might be higher),
• Family obligations (e.g., children or grandchildren who may need help with tuition or just an occasional unforgettable family trip),
• Volunteer or part-time work plans,
• Potential relocation plans (some folks like to move to warmer provinces or even outside Canada after retiring).

Once you help the client define these wants and needs, you get a clear picture of what future expenses might look like.

Estimating Retirement Expenses

Here’s the step-by-step approach to estimating retirement expenses:

1. Start with a basic budget or cash flow statement (if your client has one from their working years).
2. Separate mandatory or essential expenses—often called “non-discretionary expenses”—like utilities and groceries, from “lifestyle expenses,” which are discretionary (like that dream trip to Greece).
3. Project how each type of expense might change in retirement. Perhaps the home is paid off, so mortgage costs go away. But maybe new expenses show up, like increased travel or healthcare.

A simple table can help:

This is a hypothetical example of how your client’s monthly costs might shift in retirement. The individual’s housing cost might drop once the mortgage is fully paid, but travel might take off dramatically. The numbers will vary a lot based on personal preference, location, and existing debts.

Impact of Inflation

Inflation simply means things usually cost more as time goes on. Did you notice how a coffee that was $1.50 some years back can easily cost $2.50 or more now? Over a long retirement period (which could be 20-40 years), even a moderate annual inflation rate can significantly erode purchasing power. Financial planners typically factor in a rate of around 2% to 3% for Canada, but you can adjust depending on economic conditions.

Using an assumed inflation rate, you’d “grow” your estimated retirement expenses over time. For example, if you need $50,000 in the first year of retirement and you assume 3% inflation, you’d expect the next year’s expenses to be:

(Katex formula for future expenses)

Year 3:

And so on. These are not huge leaps year to year, but over decades, they add up.

Considering Longevity Risk

Longevity risk is the risk of outliving your savings—basically living longer than expected without enough financial resources. This is great from a “enjoying life” perspective but can cause worry about finances. To handle longevity risk, many planners assume a longer-than-average lifespan when building forecasts. For example, if the average life expectancy for a woman is around the mid-80s, you might plan up to age 95 or 100, just in case.

Clients with a family history of longevity, or who are in excellent health with diets and exercise routines, might plan for even longer retirements. Some individuals also buy annuities or incorporate other insurance products to mitigate this risk.

Factoring in “Lumpy” Expenses

Lumpy expenses are one-time or irregular costs that can spike your spending. These can include:

• Home renovations (like that kitchen you always wanted),
• Major medical expenses,
• Wedding gifts for family members,
• Buying a vacation property or timeshare,
• Replacing a car.

I remember one client who suddenly decided, five years into retirement, to treat their entire extended family to a multi-week European excursion. That’s definitely a lumpy expense that can send your carefully crafted plan reeling if you don’t plan for it. So keep a buffer for these big-ticket items, or at least discuss them as possibilities.

Identifying Income Sources

Canada has several potential income sources for retirees, and combining them all can greatly affect the final plan:

1. Government Pensions (OAS, CPP/QPP)

   • OAS and GIS (Guaranteed Income Supplement) details are covered in more depth in subsequent sections (8.2, 8.3).
   • CPP/QPP is typically based on your contribution history and average earnings over your working life.

2. Employer-Sponsored Pension Plans

   • Defined Benefit (DB) plans provide a predictable lifetime income based on your salary and years of service.
   • Defined Contribution (DC) plans are more like an investment account—what you accumulate is what you get.

3. Personal Savings

   • RRSPs, RRIFs, TFSAs, non-registered investments, etc. See Chapter 9 for more on RRSPs and retirement income products.
   • For business owners, it might include selling the business or drawing dividends.

4. Other Income Streams

   • Rental income, part-time consulting, or phased retirement.
   • In some cases, an inheritance or lawsuit settlement could also be relevant.

A thorough plan weaves these sources together, aligns the withdrawal schedule, and optimizes tax efficiency. You might want to reference the Canada Revenue Agency (CRA) (https://www.canada.ca/en/revenue-agency.html) for rules on RRIF withdrawals or how retirement income is taxed. Also, you can look to the Canadian Investment Regulatory Organization (CIRO) (https://www.ciro.ca) for regulatory updates on investment advice in Canada.

Balancing Potential Returns with Risk Tolerance

We explored investment fundamentals in Chapter 5 (Investment Management), including Modern Portfolio Theory. But let’s reiterate here: the closer you get to retirement, the less time you have to bounce back from a market downturn. It’s one thing to watch your portfolio drop by 30% when you’re in your 30s, but if you’re 65 and retiring next year, that loss could be catastrophic unless you have fallback strategies.

Hence, a cautious approach—balancing growth with capital preservation—often works best for or near retirement. A well-structured portfolio might include:

• A core of lower-risk fixed-income products (bonds, GICs),
• Some equities for growth potential (Canadian, U.S., and global),
• Possibly alternative investments for diversification, if suitable,
• Adequate cash or short-term reserves to cover near-term expenses.

We want our client to outpace inflation but also sidestep undue volatility. Rebalancing is key, especially when market conditions change or your client’s risk tolerance changes.

Exploring Retirement Models (Partial or Phased Retirement)

Life isn’t always black or white; you might not jump from full-time work to 0 hours in a day. Some folks test out “phased retirement,” cutting back working hours gradually. Consider the following benefits:

• Eases the financial burden by delaying full retirement withdrawals,
• Maintains social networks and mental engagement,
• Allows for a more flexible lifestyle,
• Extends employment benefits (in some cases).

So maybe if your client is 63, they decide to work two days a week, effectively bridging a few more years of paychecks before drawing from personal savings. That can reduce the total amount they need saved.

Putting It All Together: A Simplified Example

Let’s walk through a hypothetical scenario to see how these concepts blend in real life.

Case Study

Imagine a client, Samantha, age 55, who wants to retire at 65. She’s relatively healthy, and her parents lived into their late 80s. She currently earns $80,000 per year and saves 15% of her income.

• Right now, her monthly essential spending (mortgage, groceries, utilities, insurance) is $2,400. Discretionary spending (travel, hobbies, entertainment) is $1,200, for a total of $3,600.
• She expects her mortgage to be fully paid by 63. So at 65, she estimates essential spending might drop to around $2,000/month. However, Samantha loves traveling—she wants to budget $1,800/month for leisure in retirement (every couple of years, she’ll do a large overseas trip). So total spending might be $3,800.
• She uses an inflation rate of 2.5%. By the time she hits 65, that monthly $3,800 might become $4,875 by age 75, and possibly around $6,250 by age 85.
• Samantha’s also planning a one-time expense of $40,000 for major home renovations around age 70.
• She expects to collect full CPP benefits at 65 and OAS a few months later. She might also delay CPP to 70 if beneficial for higher monthly benefits.
• She’s got an RRSP that she’s been maxing out and a small TFSA. She also has a modest defined benefit pension from a previous employer projected to pay her $1,000 per month starting at 65.

From here, we can project whether her total resources—inflation-adjusted returns from her RRSP, her pension, and government benefits—will cover her retirement lifestyle. If the numbers are too tight, Samantha might choose to retire at 68 (instead of 65) or adopt partial retirement from 65 to 70.

Periodic Reviews

Retirement plans aren’t “set it and forget it.” Life is unpredictable: a sudden change in health, a spike in inflation, or a shift in family commitments (like a grandchild you want to support through college) can impact the plan. That’s why we encourage:

• Annual or biannual plan reviews,
• Adjusting the asset allocation if risk tolerance changes,
• Updating life expectancy assumptions when health conditions change,
• Reevaluating discretionary spending to keep everything in balance.

It’s good practice to keep an eye on legislative or regulatory changes too, such as new government programs, modifications to OAS or CPP, or updates from CIRO that could impact investment strategies.

Glossary

• Inflation: The general increase in prices and decrease in purchasing power over time.
• Longevity Risk: The risk of outliving one’s retirement savings due to a longer-than-expected lifespan.
• Cash Flow Statement: A financial statement showing income and expenses over a set time.
• Phased Retirement: A gradual shift from full-time to part-time work before fully retiring.
• Lifestyle Expenses: Discretionary spending that can vary based on personal choices (travel, hobbies, dining out).
• Non-Discretionary Expenses: Essential expenses (housing, groceries, utilities).
• Retirement Horizons: The time period over which one’s retirement strategy is planned, often aligned with life expectancy.
• Withdrawal Rate: The percentage of an investment portfolio withdrawn each year to cover living expenses.

Tools and Resources

If you (or your client) like the idea of plugging in your own numbers and playing “what if,” there are plenty of free retirement calculators available from Canadian banks and credit unions. Some popular ones include:

• RBC Retirement Planner
• TD Retirement Calculator

You can also check out Service Canada – Public Pensions (https://www.canada.ca/en/services/benefits/publicpensions.html) to estimate your CPP/QPP or OAS benefits. For more sophisticated analysis, you might consult advanced software used by financial planners.

To deepen your knowledge on retirement planning, you might find these books helpful:
• “Your Retirement Income Blueprint” by Daryl Diamond
• “Retirement Planning in 8 Easy Steps” by Michael Gordon

For tax-related inquiries, the Canada Revenue Agency (CRA) (https://www.canada.ca/en/revenue-agency.html) offers official guides on RRSPs, TFSAs, and more. Regarding financial regulation in Canada, visit the Canadian Investment Regulatory Organization (CIRO) (https://www.ciro.ca).

When you think about it, retirement planning is like a puzzle. Each piece—expenses, inflation, longevity, income sources—fits together to form the big picture. Doing an in-depth retirement income needs analysis ensures no major piece is missing. And if your clients are anything like me, they’ll sleep better knowing they have a roadmap for their golden years, even if that roadmap occasionally needs to be tweaked.

I recall once telling a close friend, “Retirement planning is just as much about dreaming as it is about the numbers. You need to ask yourself how you want your life to look and feel.” That’s what keeps most of us motivated to stay the course, even when the markets get bumpy.

Now, let’s wrap up with some questions so you can test your knowledge of retirement income needs analysis. Enjoy the quiz!

Test Your Knowledge: Retirement Income Needs Analysis