It’s Friday, so here we go again: another reader case!
After Monday’s article on retiring with a locked-in pension, I thought it would be fun/instructive to show how to do an analysis with an actual reader having this exact problem.
Love you guys and are so inspired by what you’re doing!
I would TOTALLY appreciate your advice regarding our financial situation so here goes…
I’m currently 41 years old (husband 42), have two kids (12 and 10), live in Regina SK and would love to quit the rat race because my job is affecting my health. We are doing well however most of our wealth is tied up in two major things: 1) house and 2) defined contribution pensions. We could always sell our house and move to a smaller (cheaper) center but not a red cent from pension is not accessible (in any way, shape or form) until I’m 55 years old – which royally pisses me off. Apparently trying to be financially independent in your 40’s doesn’t “fit the traditional mold” so everyone thinks we’re crazy.
Gross income: approx $120K (me) and husband makes 60K = $180K
Net income: roughly $110K
Monthly family spending is just under $5K/month.
Assets: House 525K
Pensions (DC plans) 465K
We put away $5K/year in RESPs, $11K/year in our pensions ($22K if you include employee contributions) and around $40-50K/year in our RRSPs/TFSAs however I feel like the financial party is almost over as my health/job situation is unraveling.
The only thing I can think of is to sell our house, move elsewhere (say a house worth $225), take the $300K difference and add it to our $342K of investments. Then we would live off the $642K for the next 14 down and deplete it down to zero before we finally get access to the pension lump sum (which will be worth a lot more in 14). This would involve living more frugally from now to 55, with more disposable income after 55. Not ideal since I’d want to travel and enjoy the money more when we’re younger. It also makes me very nervous to deplete ALL of our non-pension money prior to age 55. If only I could access some of the pension money I feel like we could make this work! With the provincial rules, the only way to get the money out sooner is if I have a shorten life expectancy (seriously!).
This is a puzzle that I just need to solve for my own sanity and peace of mind. Please help me find a solution!
Thanks so much!
For our American readers, “DC pension” refers to a Defined-Contribution pension. It’s basically a retirement account you can contribute to pre-tax off your paycheck, and the employer matches your contribution. It’s basically a matched 401(k) plan.
OK so here’s where we stand. LockedIn has (potentially) $342K + $274K (real estate proceeds after a 5% commission) = $616K in retirement savings accessible right now. An additional $465K is available in a DC matched pension plan provided through their employer, but it’s not accessible until the age of 55. What is LockedIn supposed to do?
Well first of all, double check that this DC pension is actually locked-in. It’s common for DB (Defined Benefit) pensions to have an age limit for withdrawals, but not DC pensions, especially after you leave the company. I had a DC pension that was supposedly locked-in until the age of 55, but when I quit my job there was an option to transfer the balance to a self-directed RRSP, which meant that the age restrictions went away. Call your pension provider and ask what happens if you quit. You may be pleasantly surprised.
But for the purposes of this analysis, let’s assume that it’s well and truly locked-in until 55. Can LockedIn retire?
Well, let’s ask FIRECalc, shall we?
First we need to determine what the locked-in DC pension will be in 14 years. To do that, we need to project what $465K will be in 14 years. Assuming a conservative 6% return on investment, we can project that this DC pension will be worth…
$1,051,320! That’s a lot of money, to say the least. BUT, the big question is, will LockedIn make it to that date with the money they have access to now?
To answer that, let’s turn to FIRECalc. LockedIn needs to survive for 14 years, spending $5000 x 12 = $60K a year, with a portfolio of $616K. According to FIRECalc, how likely is LockedIn going to make it?
Now, that’s not great, to say the least. We’re doing no better than a coin flip here. So as of right now, LockedIn cannot retire safely. Too much of her retirement savings is, as the title of this Reader Case implies, locked in. She needs more money accessible to her now. So what can we do here?
Well for starters, we can save some more.
Because our initial retirement period is 14 instead of the usual 25, the 4% rule we usually use doesn’t apply since the 4% rule assumes a 30 year retirement period and would therefore be way too conservative. Instead, we need to manually sweep the portfolio size in FIRECalc’s simulated results by entering in progressively higher and higher numbers into the “Portfolio Size” field until we come up with an answer that shows a 95% success rate. In this case, that number is $970,000.
So how long would LockedIn take to get to a portfolio size of $970,000? Well, given that LockedIn says that she contributes $50k to her retirement savings each year, we can project that fairly easily.
Looks like LockedIn can get there in 3.5 years. That’s pretty great. But what if we wanted to get there sooner? Especially considering she describes her job as “almost over as my health/job situation is unraveling.”
What if LockedIn were to drop their spending by $500 a month? From $5000 to $4500 per month, or $54,000 annually. By manually sweeping the portfolio size in FIRECalc, our required portfolio for a 95% success rate comes out to be about $870,000.
The reduced spending would also increase their monthly savings by $500 a month, or $6000 a year, bringing their time-to-retirement to…
…just under 3 years. So we’re getting closer.
Continuing this pattern, let’s see what reducing their spending by another $500 would do. So now we’re spending $4000 a month, or $48,000 annually. This would bring their required portfolio size for a 95% success rate to $775,000.
Just under 2 years.
So by repeating this pattern, we can figure out what their monthly spending would be that would allow them to retire in less than a year. Turns out, this would be $3500 a month, or $42,000. This spending amount requires a portfolio size of just $675,000 to support for 14 years.
And since they have $616,000 (assuming they sell the house and downsize as LockedIn proposes), that’s less than a year of savings required to get there.
And of course once we add back in the DC pension becoming accessible in 14 years by using the “Portfolio Changes” tab in FIRECalc like we discussed on Monday’s article, we can bring our retirement timeframe back up to 30 years and see what our full picture looks like, which is to say “pretty fucking awesome.”
So basically, LockedIn has a choice to make. Either stay at their current spending levels and retire in 3.5 years (which quite frankly isn’t a bad outcome at all), or cut their expenses by about $1500 a month to $3500, or $42,000 a year. This would get them retired within a year.
Arguably, since they already have way too much in their DC pension, that $11k a year they’re contributing is one area where they could easily redirect to their RRSP. Normally, you never give up free employer contributions to your retirement plan, but this is the one scenario where it makes sense since that DC pension is already way more than they need. That would give them a little less than $1000 extra savings a month, so that’s most of the way there. After that, they’d need to find an additional $500 a month of expenses to cut, but since they didn’t break out their spending numbers, we can’t suggest anything specific.
It all depends on how bad LockedIn’s health/job situation is. Will it last just a few more years? If so, they can cruise there at their current spending levels in 3.5 years. If not, they may need to cut their spending now to get there sooner. Or they could hedge their bets, keep their spending the way it is for now, and make those spending cuts if they get laid off.
Either way, LockedIn has done surprisingly well despite a locked-in pension plan, and they’re super close to retirement whatever they choose to do.
So what do y’all think? Should they cruise to retirement in 3.5 years or cut and pull the ripcord now? Let’s hear it in the comments below!
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