Retirement is a big life change that often marks a time to kick back, relax and finally indulge in all the hobbies and freedom that the working world often limits.
However, before you can tee off on the golf course or embark on your dreams of travelling the world, you need to ensure you’re financially well-prepared for retirement. Today, we’ll dive into how to prepare for retirement in Canada, ensuring you can enjoy your golden years stress-free.
Here’s a step-by-step guide to approaching retirement planning in 2024.
How To Start Preparing A Retirement Plan
Before you can start your retirement planning you need to have a clear understanding of what exactly this plan is and what goes into it.
At its core, a successful retirement plan is one where you can enjoy your retirement without worrying about your financial position.
Essentially, a retirement plan is a strategic blueprint that outlines your financial goals for retirement. To start, you’ll need to consider the following factors:
- What will you expect to spend when in retirement?
- What sources of income will you have in retirement?
- What age do you want to retire at?
- How many years would you expect to use your retirement funds upon retirement?
- Other considerations, do you want to leave some money for children etc.?
While some of this stuff may feel distant, especially depending on your current age, it is crucial to craft a realistic idea of your life aspirations before retirement, and what you will need to live comfortably.
When Should You Start Saving For Retirement?
There’s no one-size-fits-all answer, but as soon as possible is the next best option. It also depends on how much you want to save for retirement and what age you want to retire. The
Starting early allows your money to grow through the magical properties of compounding.
This simply means investment returns or interest grows on the already-earned interest. While an amount may seem small early on, it continues to grow, and that growth intensifies over time.
Picture a snowball rolling down a mountain—it starts small but gains size and speed, and continues to grow at a faster and faster rate over time.
The benefit of compounding may best represented as an example. Assume you have $10,000 that grows 10% per year.
- 1st Year: The first year, you’ve earned 10% of $10,000 which means you generated $1,000 of gains and ended with $11,000.
- 2nd Year: Next year, you’ve earned 10% of the $11,000, which generates $1,100, giving you a balance of $12,100.
- 3rd Year: The year after that you’ll earn $1,210 bringing your savings to $13,310. The year after that you’ll have $14,641, then $16,105 and so on. After 25 years you’ll have over $100,000. More than 10x the original amount.
Starting as early as possible gives you the chance to maximize the compounding of your savings, even if you only start with a relatively small amount.
How Much Should You Save For Retirement?
There isn’t a fixed amount you must save for retirement. The amount varies significantly based on your lifestyle, how long you expect to live, when you retire, and other considerations, such as whether you wish to leave funds for your family after your passing.
According to a recent BMO study, Canadians believe they’ll need $1.7 million to retire. Assuming you start saving at the age of 25 with an 8% annual rate of return, you’d need to save 486.97 a month to achieve this.
That said, there are many different recommendations on how much you should save for retirement.
Option 1. The 70% Rule
Some experts say, your retirement savings should replace 70% of your income in order for you to maintain your current lifestyle. That means if you earn $80,000, you’ll need $56,000 (70% of $80,000) a year during retirement. To calculate how much you’d need for your entire retirement, you can multiply it by 25-30 years. That means you’d need approximately $1.4 to $1.68 million saved up for retirement.
Option 2. Save 10 Times Your Salary
A more simple approach is the 10x rule. With this option, you’ll want to save 10 times your annual salary by the time you retire. So if you make $70,000 a year, you’d want $700,000 saved. That said, as your income grows this amount will have to be recalculated to reflect that.
Option 3. The 4% Rule
The idea behind this rule is that you should be able to withdraw 4% from your retirement savings for every year of retirement. So if you need $80,000 a year during retirement, you’d need to save up $2 million dollars ($80,000/4%). This strategy also takes inflation into mind. Every year, you adjust the amount you take out based on inflation. For example, if inflation rose by 2%, you’d give you’re self a 2% raise. Instead of $80,000, you’d take out $81,600. With this strategy, your retirement savings should keep up with inflation and provide you with approximately 30 years of income.
How Much Should You Have Saved By X Age?
Understanding how much you should have approximately saved for retirement by age is a good way to see if you need to speed up your savings. According to the National Bank of Canada (NBC), you should have this much saved:
- 35 years old: 1x your annual salary.
- 40 years old: 2.1x your annual salary.
- 50 years old: 4.6x your annual salary.
- 60 years old: 8x your annual salary.
- 65 years old: 11.3x your annual salary.
These numbers can guide you, but remember, everyone’s journey is unique!
How To Save For Retirement
There are a few helpful vehicles to help you save for retirement (in a tax-friendly way). This includes utilizing your RRSP and TFSA accounts.
RRSP (Registered Retirement Savings Plan)
RRSPs allow you to defer taxes on your savings until retirement, reducing taxes paid today. Funds in this account grow tax-free. You can contribute 18% of your previous year’s income, up to a maximum of $31,560.
How Your RRSP Can Help You With Your Retirement Savings?
If you make $60,000 and contribute $10,800 (18%) to your RRSP, it’d reduce your taxable income to $49,200 (meaning you are only taxed as if you earned $49,500).
The money you invest in your RRSP can be invested in numerous investment vehicles, allowing you to earn interest on it. If it grows to $50,000 by the time you retire, you don’t pay taxes until it’s withdrawn from the RRSP. Furthermore, this tax will be based on your marginal income tax rate at that time (which is usually much lower when you are retired because you are not working anymore).
TFSA (Tax-Free Savings Account)
A TFSA also allows you to save and invest your money in a tax-free manner. While contributing to a TFSA doesn’t lower your taxable income, it does allow your money to grow tax free. Moreover, when you withdraw from it, the money is not considered taxable income. As such any interest earned in the account, will have no tax liability whatsoever.
Types Of Retirement Income Sources You Can Rely On
It is important to know that you may not need to come up with every penny required for retirement. You could be entitled to supplemental income in your retirement.
. Here is the breakdown of a few sources in Canada:
- Canada Pension Plan (CPP): You can start collecting at age 65, but you can take it as early as 60 with reduced benefits. The Canadian government has an online calculator to show you what you could be entitled to.
- Old Age Security (OAS): This monthly benefit is available to seniors aged 65 and over. Unlike the CPP, this pension is based on residency in Canada, not employment.
- Guaranteed Income Supplement (GIS): GIS is a supplemental non-taxable monthly benefit for low-income seniors aged 65 and over who receive OAS.
Note: If you live in Quebec, you won’t receive CPP. Instead, you’ll receive similar benefits through the Quebec Pension Plan (QPP).
| Guaranteed Income Supplement (GIS) Payment Dates | Learn More |
| Canada Pension Plan (CPP) Payments Schedule | Learn More |
| Old Age Security (OAS) | Learn More |
Employer-Sponsored Pension Plan
While the majority of Canadians will receive CPP and OAS when they retire, some will also receive benefits from an employer-sponsored pension plan. There are two types of employer-sponsored pension plans, known as “defined benefit” and “defined contribution”.
- Defined Benefit Pension Plan – With this type of plan, your employer is promising to pay you a certain (defined) amount of money each year after you retire. The amount you receive is typically based on your income and the number of years you worked.
- Defined Contribution Pension Plan – With this type of plan, you and your employer contribute a certain (defined) amount of money to your pension each year. The amount of money you’ll receive once you retire is not set; it depends on the amount contributed and how much the investments make.
Things To Consider When Retiring
As you gear up for retirement, keep these considerations in mind:
- Review Your Plan + Budget: Make sure your budget aligns with your retirement goals. As you age, your retirement goals and needs can change, so be sure to review it every few years to ensure you’re still on track.
- Review Insurance Needs: Health and dental insurance and long-term care should be part of your plan. Savings can be derailed by any sort of large life crisis. Having a life or health insurance policy can help to mitigate this risk.
- Ensure All Debts Are Paid: Debts can take up a significant portion of your income. As a retiree, your income will be lower, making it difficult to keep up with these debts.
- Create A Will: If you have property or assets to pass down, a will can help ensure that it is properly distributed according to your wishes.
The Bottom Line
While preparing for retirement in Canada may seem daunting, with a solid plan, diligent saving, and knowledge of income sources (and a bit of math)—you can smoothly sail into your golden years.
