Can Nell, 58, cover her cashflow shortfall without having to sell her house?

Can Nell, 58, cover her cashflow shortfall without having to sell her house?

Nell is tired of working long hours for a mere $2,000 a month after expenses, and being forced to dip into her savings.Eduardo Lima/The Globe and Mail

Like others before her who have grown weary of their careers, Nell took a leap, accepting a buyout and leaving her six-figure job to pursue her dream of opening a small storefront business. Like many others who live in high-priced Toronto, her main asset is her $1.4-million house.

Nell is 58 and single with no dependants.

Now, after two difficult years during the COVID-19 pandemic, Nell is tired of working long hours for a mere $2,000 a month after expenses, and being forced to dip into her savings. She has put the business up for sale but doubts the proceeds will be enough to cover the $91,000 line of credit she took out to finance it.

“Should I sell my home and use the funds to rent?” Nell asks in an e-mail. The average rent for a two-bedroom condo apartment in Toronto is upward of $3,000 a month. “If I don’t sell my home, do I have enough to semi-retire – take a part-time job until 70 and then retire?”

She is not confident that she has sufficient savings to stop working entirely. If the business is sold, “I will pursue an employment position elsewhere,” Nell writes. Her retirement spending target is $30,000 a year after tax.

Nell has financial assets of about $294,000. The business might sell for about $80,000.

We asked Warren MacKenzie, head of financial planning at Optimize Wealth Management in Toronto, to look at Nell’s situation.

What the expert says

Nell plans to find part-time work after her business is sold but she doesn’t really want to, Mr. MacKenzie says. She asks whether she should sell her house and rent but she doesn’t really want to do that either, at least not yet, the planner says. Hence her cash-flow conundrum.

“Nell very much wants to sell her business and travel, maybe do some volunteer work, while she is in good health,” he says. With her cash on hand and the proceeds from the business sale, she could pay off all her debt. Then, with a net worth of about $1.7-million and modest spending goals, she would have more than sufficient resources to retire and enjoy life – provided she uses her wealth wisely, Mr. MacKenzie says.

To some extent, her decision depends on whether she views her almost mortgage-free house as a financial asset or something necessary for a feeling of security. The mortgage balance of about $11,000 will be paid off next year. If she wants to hold on to her house to age 70 or perhaps longer, two alternatives to consider are taking some time off after the business sells and then looking for a part-time job that she enjoys, or borrowing against the equity in her home.

“If she thinks working and owning a mortgage-free home will give her the greatest happiness, that’s what she should do.” But if she thinks travelling and doing volunteer work will give her the greatest happiness, she should retire and sell the home or take a home-equity loan.

“Bottom line is that she has sufficient assets.”

To sum it up, Nell has a cash flow problem that she can resolve in three ways, each with its pros and cons, the planner says. One, she could take a new job and earn a good income. The pros would be continuing to live in her comfortable home and perhaps leaving a larger estate to her nephews and nieces. The cons would be paying more income tax and missing years of retirement when she is in good health, he says.

Two, she could sell her house and invest the proceeds. The pros would be more than $60,000 a year in investment income even if she invests only in guaranteed investment certificates. That assumes about $1.4-million in capital at an interest rate of about 5 per cent. She wouldn’t have to work any more. The cons would be paying more in income tax and having to move from the home she enjoys, Mr. MacKenzie says.

Three, she could tap into the equity of her home by using a home equity line of credit. Or, at some point in future when interest rates have eased and house prices stabilized, she could consider taking out a reverse mortgage. The pros would be she wouldn’t have to work, she’d pay very little income tax, and enjoying retirement while also enjoying her home. The con would be incurring interest costs on the borrowed funds.

“The key to Nell’s financial security is the value of her home, her modest spending requirements and the fact that she has no desire to leave an estate,” Mr. MacKenzie says. “If she remains in her home and avoids paying rent, she can maintain her lifestyle on about $40,000 a year after tax,” he says. “If she sells and pays rent, she is confident that she can maintain her lifestyle on $60,000 a year.” (She’d be paying at least half that in rent but she’d no longer be paying mortgage interest and other housing costs, such as home maintenance.)

Naturally, her living costs will rise with inflation. “But if she is invested in a well-diversified, conservative, dividend-producing investment portfolio, based on history it would be reasonable to expect a rate of return of 5 per cent a year (dividends and capital gains),” the planner says. This will be enough to address all her financial needs. With her investment income, plus Canada Pension Plan and Old Age Security benefits, which she plans to take at age 65, she will have more than enough to maintain her lifestyle “even if she eventually moves to a top-of-the-line retirement home,” Mr. MacKenzie says.

If Nell wants to quit working and stay in her house to age 70, in the years before she draws CPP and OAS she could cash in her registered retirement savings plan, her locked-in retirement account (converted to a life income fund) and her tax-free savings account, the planner says. Alternatively, she could use a HELOC or arrange a reverse mortgage and borrow $40,000 a year on it, he says.

At age 65, in addition to investment income and with inflation, she would be getting about $13,800 in CPP benefits and $9,500 from OAS. With these assumptions, Nell “will never run out of money, even if she lives to age 100,” Mr. MacKenzie says.

To illustrate, if Nell uses a reverse mortgage now and draws down $40,000 a year for seven years until age 65, when she starts to collect CPP and OAS, the balance owing on the mortgage (assuming 8 per cent interest) would be about $375,000. During this period, assuming house price inflation at 2 per cent per annum, the value of her home could have increased by about $200,000. She would not be paying rent, so the real cost of early retirement and the reverse mortgage could turn out to be less than the amount of the outstanding debt, the planner says.

Finally, a few words about Nell’s investment strategy. She is a do-it-yourself investor, “an activity she enjoys,” the planner says. Her portfolio is mostly invested in small-cap growth stocks, so she is taking more risk than necessary to achieve her goals, he says. While she has had some success, she would have better long-term results if she focused more on the investment process – for example, rebalancing when any asset or asset class is out of the target range – and less on trying to find the best investment product.

Client situation

The person: Nell, 58

The problem: Does she have to sell her house to cover her cash flow shortfall?

The plan: She has a few options, depending on what she would be most comfortable with. She could get a job, sell the house or borrow against her home equity.

The payoff: An opportunity to enjoy life with the knowledge that she has options and is more financially secure than she realizes.

Monthly net income: $2,000

Assets: Cash $20,000; TFSA $38,000; RRSP $115,000; LIRA from previous job $121,300; business value $80,000; house $1.4-million Total: $1.77-million

Monthly outlays: Mortgage $680; property tax $390; water, sewer, garbage $80; home insurance $50; heat, hydro $100; maintenance $25; transportation $400; groceries $500; clothing $30; line of credit $700; gifts $30; vacation, travel $100; dining, drinks, entertainment $350; personal care $25; sports, hobbies $60; health care $100; communications $170. Total: $3,790

Liabilities: Mortgage $11,270 at 2.2 per cent; HELOC $90,900 at 4.5 per cent. Total $102,170

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Some details may be changed to protect the privacy of the persons profiled.

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