5 Ways to Financially Plan for Retirement

February 27, 2020 David Jackson

As we get older, we like the idea of having fewer worries so that we can enjoy ourselves. We’ve worked and studied all our lives, raised children, and enjoyed many an adventure. So, when we retire, it’s time to sit back and relax without having to worry about being somewhere on time or having financial issues.

You may be wondering how to go about this and what you can do to get your financial life on track to enjoy a happy retirement. Well, wonder no more. We’ve come up with the fundamental aspects you need to address to enjoy your golden years to the fullest.

Become Debt Free

One of the best ways to make sure you no longer need to meet payment deadlines is to become debt-free before you retire. As long as you pay on time each month, this shouldn’t be an issue. If you can pay a lump sum of your debts all at once, we highly recommend it. The sooner you are without debt, the quicker you’ll feel the weight lifted off of you.

Health Care

It’s no secret that as we age, we tend to fall victim to more ailments. This can be tough to handle if we don’t have the right insurance and health care in place. There are specific plans available now to the older generation.

These are more aimed at the typical illnesses we tend to suffer, and they offer help to that particular age group. A quick search online will give you more info and a variety of options to read about and choose the right one for you.

Manage Expenses

Hopefully, you have paid off your debts and have more money from savings and pensions to be able to enjoy yourself. Now is an excellent time to sit down and write up a plan for your expenses each month.

You’ll need to factor in how much you spend on groceries, bills, and any other living expenses. This way, you’ll be able to see how much you have left for leisure expenses. Even though now is the time to enjoy your nest egg, it’s still a good idea to keep saving if you can.

Housing Expenses

This specifically focuses on whether you pay a mortgage or are renting. If you are renting, have a look and see if your savings will allow you to buy a small home. This way you’ll have no more monthly payments.

If you have a mortgage, make it a goal to pay it off before retiring, similarly to paying off your debts.

Insurance

If you didn’t have it before, now is a great time to get life insurance. You never know when you’ll have an accident or get ill. If you have a spouse, children, and grandchildren under your wing, having life insurance will make sure they are well cared for when you’re gone, and it’ll help to pay for any arrangements that need to be made when the time comes.

Give Back

Perhaps you were very successful before retirement and have a lot of savings or a large pension. If you’re unsure of how to spend or enjoy all your earnings, why not give back to the community? There are hundreds of ways you can do so.

You could donate money to a cause close to your heart, or if you don’t have much to give away, maybe help out at a local school or library. They are always in need of an extra pair of hands and will really appreciate your help.

Be Ready When the Time Comes

After reading this, you should now be ready to enjoy your retirement to the fullest without money worries and prepared for whatever it throws at you. As long as you plan well, you will live a long and happy life after work.

What You Should Consider Investing Your Retirement Money in

November 24, 2019November 26, 2019 David Jackson

In your retirement, you will have a lot of free time and you will also have a pension that you will have to live off. Since you won’t be working or making a monthly income from work, you might want to consider investing your retirement money. While there is no guarantee that your investments will yield a return, it is a gamble which might pay off if you have help from the right sources. Here are some of the things you should consider if you want to invest part of your retirement fund.

Make Sure You Choose the Best Pension for You

Your pension is what you will live off in retirement so you need to make sure you choose the best pension for you. With so many pension options for you to choose from, there are different ways that you can access and spend your pension. However, if you are looking to make your pension more flexible then, you should make sure you consider Tailor Made Pensions. With the right pension by your side, you will be in a great position for your retirement.

Trading

If you are looking for something that you can invest your pension money in then, one of the most popular options for you to choose from is trading. There are a large range of trading companies and services that you can choose from where you can trade currency and then make more money from the amount you have traded with. Make sure you are finding exactly the right advisor for you to avoid anyone who might fleece you.

Property

Another thing that you should consider investing your retirement money in is property. This is a good thing that you should invest in because there are a lot of opportunities when it comes to property and there is also a lot of money to be made in this industry with the right purchase. Whether you are flipping properties or you are buying to rent out to private tenants, there are plenty of opportunities.

Business

The next thing that you should consider investing your retirement money in is business and especially creating your own business. If you are considering in investing in business then you should make sure you choose the type of business that you want to invest in. Since you will be investing a lot of money in a business, you will want to make sure the business will be worth your money and will also make you more money, so you can be a successful investor.

Decide What You Would Like to Invest in

Overall, there are a lot of different things that you can invest your pension money in and, in this article, we discussed some of the different investments that you can make. If you are interested in making investments then, make sure you decide what you would like to invest in. Retirement can be looked on as a time of opportunity if you know how to use it to your fullest advantage.

IRA Investment Strategies

December 17, 2018 David Jackson

Creating an IRA is one of the most significant things you can do it your lifetime. However, before you start allocating your IRA funds, you need to understand how the process works.

Understand Asset Allocation

Asset allocation sounds like a complicated process but it’s just the opposite. This is simply how you get your money into different investment instruments – bonds, stocks and cash. The details include corporate versus municipal bonds, large- or small-cap stocks, etc.

For example, an investor puts $5,000 in an IRA account and allocates $3,000 in stock funds and $2,000 in bond funds, so the asset allocation is 60/40. Over time, the biggest return over time and greatest risks can be found with stocks, or equities. Bonds and other fixed-income instruments help you hedge the risk and are relatively safe.

Decide on an Investment Allocation

This is the point of the whole process. One of the major factors should be the time horizon to retirement. How long will the money be tied up and what’s your tolerance to risk? The trick is taking enough risk to make money but not to risk too much on a single decision.

Generally, if you subtract your age from 100 (or 110), that’s a good guide for your stock allocation. So, if you’re 30, 70 percent of your investment should be in stock (80 if you don’t mind a little risk). You can decide along the way whether you want more or less equity coverage. It’s just a good way to develop a starting position for your investment. Your financial advisor can offer additional insights.

Bringing your age into the equation helps you keep the goal in mind, which is to retire with as much money as possible without taking unnecessary risks. However, given the longer lifespans, you need your retirement funds to last up to 30 years. The good thing is that many people downsize and cut costs after retirement, so money tends to stretch more. The fixed income of a retiree often is not enough to support even a modest living, so making good decisions now is important.

Select your IRA investments

When it comes time to get IRA advice, many people need help determining how much to invest in the different stocks and bonds available. Mutual funds, index funds and exchange-traded funds are all viable options, and it can be a great strategy to include a bit of each in your portfolio.

RRSPs and RRIFs

January 17, 2016February 16, 2017 Steve Nyvik

Written by Steve Nyvik, BBA, MBA ,CIM, CFP, R.F.P.
Financial Planner and Portfolio Manager, Lycos Asset Management Inc.

WHAT’S AN RRSP?

A Registered Retirement Savings Plan, or RRSP, is a government approved savings or investment account designed to encourage you to save for your retirement.

When you contribute to an RRSP you may receive a tax deduction equal to the amount of your contribution (to a certain limit). The deduction reduces your taxable income, so the higher your marginal tax rate, the greater your tax savings.

Income and gains earned within an RRSP grow tax-free until withdrawn. When you take withdrawals from your RRSP, the withdrawal amount is taxed as ordinary income (like interest income).

By investing in an RRSP, you’re likely to have higher growth than investing outside of an RRSP as:

You have more money working for you as you’re investing untaxed income as opposed to a lesser amount of after-tax income outside of an RRSP;
Your money within the RRSP grows without tax compared to investing outside an RRSP where income and realized gains are subject to tax.

Over a long enough period of time, the compounded growth of untaxed income can be worth substantially more than investing outside of an RRSP.

Other benefits to making RRSP contributions include interest free loans from your RRSP under:

the Home Buyers Plan (up to $25,000 for each person, who is considered a “first time home buyer”, may be borrowed from their RRSP towards the purchase of a home; note that your RRSP contributions must remain in the RRSP for at least 90 days before you can withdraw them under the Home Buyer’s Plan, or the contributions may not be deductible for any year); or
the Life Long Learning Plan (The Lifelong Learning Plan allows you to withdraw up to $10,000 in a calendar year from your registered retirement savings plans (RRSPs) to finance full-time training or education for you, your spouse or common-law partner. As long as you meet the LLP conditions every year, you can withdraw amounts from your RRSPs until January of the fourth year after the year you make your first LLP withdrawal. You cannot withdraw more than $20,000 in total).

These plans provide interest free loans from your RRSP to help first time home buyers or funding of post secondary education.

WHEN CAN YOU CONTRIBUTE?

If you have “Contribution Room”, you may contribute:

To your RRSP at any time up to December 31^st of the year in which you turn age 71;
To a Spousal RRSP at any time up to December 31^st of the year in which your Spouse or Common Law Partner (in this article we’ll refer to either of these as spouse) turns age 71. Contributing to a Spousal RRSP is a technique to shift more retirement income into a lower income spouse’s hands beyond the pension income splitting rules.

RRSP CONTRIBUTION LIMIT

The amount you may contribute to an RRSP is equal to the Lesser of:

18% of your Prior Year’s Earned Income, and
Maximum Dollar Limit

Minus:

Pension Adjustment (PA) from Prior Year
Past Service Pension Adjustment (PSPA)

Plus:

Pension Adjustment Reversal (PAR)
Unused Contribution Room

Note that the Maximum Dollar Limit equals:

Year	Maximum Dollar Limit	Prior Year Earned Income Required
2008	$20,000	$111,111
2009	$21,000	$116,667
2010	$22,000	$122,222
2011	$22,450	$124,722
2012	$22,970	$127,611
2013	$23,820	$132,333
2014	$24,270	$134,833
2015	$24,930	$138,500
2016	$25,370	$140,944
2017	$26,010	$144,500

Your Notice of Assessment will provide you with your RRSP Contribution Limit. But here’s how Canada Revenue calculates that amount.

Earned Income generally equals the sum of:

income from office or employment
less annual union, professional or like dues
less employment expenses
plus income / (less loss) from self-employment or a business carried on by you, either alone or as a partner actively engaged in the business
plus royalty income from work or an invention of which you were the author or inventor
plus income / (less loss) from rental of real property
plus taxable support payments received
plus net research grants received
plus employee profit sharing plan allocations
plus CPP or provincial disability pension income
plus amounts received under a supplementary unemployment benefit plan (not federal Employment Insurance)
less deductible support payments made

If you contribute more than your limit, you may be subject to the Overcontribution penalty tax of 1% per month of the excess contribution (excluding the allowable $2,000 over-contribution).

RRSP CONTRIBUTION DEADLINE

For an RRSP contribution to generate deductions for a particular year, it must be made before 60 days after the end of the calendar year. So for the 2015 tax year, to generate a deduction for 2015, the RRSP contribution must be made on or before Feb 29, 2016.

The amount you may deduct in your tax return will equal your RRSP Contributions (excluding excess contributions) plus any prior year undeducted contributions.

Although you may make RRSP contributions up to your RRSP Contribution Limit, you need not claim the maximum RRSP deduction.

It may be worthwhile to consider forgoing all or part of your current deduction claim if you anticipate moving into a substantially higher tax bracket in the near future. The decision to delay claiming the deduction should consider the lost income that could have been generated on your tax savings.

SPOUSAL RRSPs

A Spousal RRSP is merely an RRSP which names your spouse rather than yourself as the owner (also called the “annuitant”) but to which you may make contributions.

Contributions made by you to a Spousal RRSP are subject to your contribution limit (which is reduced by contributions you have made to your own RRSP). Your spousal contributions will generate deductions that you may claim against your income.

Withdrawals from the Spousal RRSP will be taxable to your spouse if you have not contributed to any Spousal RRSP in the year of withdrawal or in either of the two preceding calendar years. If you have made a Spousal Contribution during that time, the lesser of the funds withdrawn and the amount you contributed over that period will be taxable to you and not to your spouse.

To avoid Income Attribution you may wish to have your Spousal Contributions kept separate from your spouse’s contributions as it will be presumed that Spousal Contributions are the first to be withdrawn if contributions are co-mingled.

LOCKED-IN RRSPs

Locked-in RRSPs arise when you terminate membership in an employer-sponsored pension plan and elect to transfer pension funds out of the plan and into an RRSP where you can control the investment.

The locked-in restriction means that you cannot withdraw funds at will, as is the case with a regular RRSP. Withdrawals from a Locked-in RRSP are restricted and normally can only be done through conversion to a Life Income Fund (LIF), Locked-in RRIF (LRIF) or Life Annuity.

Conversion rules vary by province and locked-in funds that originated from federally regulated pension plans have their own set of rules.

When it comes to withdrawing funds from RRSPs for meeting your living needs, it generally makes sense to utilize locked-in monies before using your non-locked-in funds. Two possible exceptions to this are if a marriage is unstable (pension money which is treated differently than family assets in determining a split) or if you have creditor concerns (as pension money may be creditor protected).

RRSP WITHDRAWALS

Funds withdrawn from an RRSP will subject to withholding tax. Withholding tax is an amount that your RRSP administrator is required to withhold from your gross RRSP withdrawal and remit to the government on account of your income tax. The withholding tax rate depends on the amount of your total withdrawal request (not on how you choose to receive the payment – i.e. single lump sum, monthly, quarterly, etc.).

The table below summarizes the amount of withholding tax to be applied:

Amount of RRSP Withdrawal	All Provinces Except Quebec	Quebec (see note)
Up to and including $5,000	10%	5%
$5,001 to $15,000	20%	10%
More than $15,000	30%	15%

Notes:

For funds held in the province of Québec, there will also be provincial income tax withheld.
For non-residents of Canada, the withholding tax rate is 25%, but can be reduced by a tax treaty.

The above withholding tax amounts will show on your tax return as taxes already remitted. The gross withdrawal amount will be included in your taxable income. Your total taxable income will determine the total taxes payable on your withdrawal.

No tax is withheld when the minimum amount is withdrawn from a RRIF. When withdrawals in excess of the minimum amount are made, the above RRSP lump sum withholding tax rates apply.

You will receive a T4 RRSP receipt for any funds withdrawn during the year showing the amount to be included in your taxable income and the credit for the incomes taxes that were withheld. So you end up paying tax on the withdrawal at your marginal personal rate.

Note that for a RRIF, there’s no withholding tax required to be withheld on minimum RRIF payments. Also, withholding tax is not required for withdrawals under the Home Buyer’s Plan or the Lifelong Learning Plan.

RRSP MATURITY

Funds can remain in an RRSP until December 31^st of the year that you turn 71, at which time the RRSP must be matured.

If you fail to mature your RRSP, it will be cancelled at the beginning of the following year and the full fair market value of all of the assets are included in your income for that year of cancellation – this can be costly.

To mature your RRSP means to “roll over” your RRSP into some form of retirement income payment stream, of either:

a Registered Retirement Income Fund (RRIF), or
an annuity:
that will pay income for as long as you live, or as long as you and your spouse lives, or
that pays income for any fixed term up to age 90.

No tax results from the conversion of your RRSP to a RRIF or annuity. In both cases, you will receive periodic payments (at least annually) and such receipts will be taxable to you as ordinary income.

WHAT’S A RRIF?

A Registered Retirement Income Fund is exactly like an RRSP except for two differences:

You cannot make contributions to a RRIF;
Each year you must withdraw a minimum amount from your RRIF.

The minimum RRIF withdrawal is calculated each year and is equal to a prescribed percentage (see table; age is a one time election of your age or your spouse’s) multiplied by the value of the RRIF on January 1. The RRIF owner may elect to withdraw an amount greater than the minimum RRIF amount for that year, though withholding tax will apply to this supplementary amount.

Minimum RRIF Withdrawal Schedule

	All RRIFs
Age	2015+
71	5.28%
72	5.40%
73	5.53%
74	5.67%
75	5.82%
76	5.98%
77	6.17%
78	6.36%
79	6.58%
80	6.82%
81	7.08%
82	7.38%
83	7.71%
84	8.08%
85	8.51%
86	8.99%
87	9.55%
88	10.21%
89	10.99%
90	11.92%
91	13.06%
92	14.49%
93	16.34%
94	18.79%
95+	20.00%

Note: For age less than 71, the prescribed factor is 1/(90-age).

PENSION INCOME SPLITTING

Canadian residents may be able to allocate up to one-half of their income that qualifies for the existing pension income tax credit to their resident spouse (or common-law partner) for income tax purposes.

The amount allocated is:

added to the net income of the spouse or common-law partner, and
deducted from the net income of the person who actually received the pension income.

“Eligible pension income” is generally the total of the following amounts:

For individuals who are 65 or older at the end of the year:

life annuity payments from a pension plan,
annuity payments under a registered retirement savings plan (RRSP) or deferred profit sharing plan,
minimum RRIF payments out of a registered retirement income fund (RRIF), and
other taxable annuity payments.

For individuals who are under 65 at the end of the year:
- life annuity payments from a pension plan, and
- certain payments received due to the death of a spouse or common-law partner.

Notes:

Canada or Quebec Pension Plan and Old Age Security payments do not qualify as eligible pension income);
Foreign source pension income that is tax-free in Canada because of a tax treaty (that entitles you to claim a deduction at line 256) is not eligible pension income;
Income from a United States individual retirement account (IRA) is not eligible pension income;
Variable pension benefits paid from a money purchase provision of a registered pension plan or payments out of a pooled pension plan are not considered life annuity payments and do not qualify unless the pensioner is age 65 or older at the end of the year or the variable benefit or payments are received as a result of the death of a spouse or common-law partner;
For Canada or Quebec Pension Plan payments it is possible to request from the ministry to “Assign” your CPP/QPP pension income which will be averaged with your spouse for the years you live together and split.

WHAT HAPPENS ON DEATH

On your death, your RRSPs and RRIFs are collapsed and included in the income of your final tax return.

Income tax can be deferred if the beneficiary of your RRSP / RRIF is a “qualified beneficiary” being your spouse or an eligible dependent.

The designation of a qualified beneficiary can be made directly through the RRSP/RRIF plan document or through your Will. These options are discussed in greater detail below:

1. Designating Your Spouse

(i) RSP/RRIF Beneficiary

Where you’ve designated your spouse as beneficiary of your RRSP/RRIF, on your death, the RRSP/RRIF is paid to your spouse / common law partner, this amount is taxable to him/her and not in your final return.
If your spouse / common law partner transfers these proceeds to their RRSP/RRIF before December 31^st of the year following your death the transferred amount may be deducted in full.
Where you have named your spouse / common law partner as beneficiary in the RRSP/RRIF plan documents, you avoid probate.

(ii) RRIF Successor Annuitant

If you designate your spouse as the “Successor Annuitant” of your RRIF in the plan document, he or she simply becomes the annuitant of your RRIF and starts receiving RRIF payments on your death. Where this happens, the RRIF remains tax deferred. Probate under this option is also avoided.

2. Designating an Eligible Dependent

Where a financially dependent child or grandchild is the beneficiary of your RRSP/RRIF, the following tax-deferred transfers are available to this dependent child:

(i) Financially Dependent Child who is Physical or Mentally Infirm

Rollover to an RRSP, RRIF or qualifying annuity
Where the financially dependent child, regardless if an adult or a minor (under 18 years of age), is physically or mentally infirm, the RRSP/RRIF proceeds can be rolled over tax-deferred to an RRSP, RRIF or qualifying annuity (for example: a life annuity) for the child.

Rollover to a Registered Disability Savings Plan (RDSP)
Where the financially dependent infirm child or grandchild is the beneficiary of your RRSP/RRIF or pension plan and receives, as a consequence of your death, proceeds from these plans, these amounts may be rolled over (up to a certain limit) to a Registered Disability Savings Plan (RDSP) of the financially dependent infirm child.
The maximum transfer amount is $200,000 which is reduced by the amount of all contributions and rollover transfers that have previously been made to any RDSP. The amount of money transferred into an RDSP will form part of the $200,000 lifetime contribution limit. The Government will not pay matching Canada Disability Savings Grants on the money you transfer.
For example, if there is already $50,000 in private contributions in an RDSP, the amount rolled over from an RRSP, RRIF and RPP cannot exceed $150,000.
A rollover to an RDSP can only occur if the child is eligible for the Disability Tax Credit and the deposit into the RDSP occurs prior to December 31st of the child’s 59th year.

(ii) Minor Child – NOT physically or mentally infirm

Rollover to a fixed-term annuity to age 18
If the child or grandchild is not physically or mentally infirm and is under 18, your RRSP/RRIF proceeds can rollover tax-deferred where the proceeds are used to purchase a fixed-term annuity that does not extend beyond the year in which the child turns 18. The annuity payments will be taxable as ordinary income to the child in the years they are received.

3. Designating a non-Dependent child over age 18 or any other person

If the beneficiary of your RRSP/RRIF is not a qualified beneficiary, the fair market value of your RRSP/RRIF as at the date of death is fully taxable as ordinary income in your final return. By naming a non-qualified beneficiary (such as your adult children) directly in the RRSP/RRIF plan document, you may avoid probate and legal fees on your RRSP/RRIF assets as these amounts pass outside your estate.

Care must be taken with non-qualfied beneficiary designations where:
(a) your chosen RRSP/RRIF beneficiaries are not identical to the beneficiaries of the remainder of your estate.

The danger is that you might unintentionally benefit one beneficiary more than another. This could happen because RRSP/RRIF assets are taxed in the estate, but the gross amount flows to the designated beneficiaries. For example, if you are a widower and you name one child the beneficiary of your $300,000 RRIF and a different child the beneficiary of your personal chequing account with $300,000, the RRIF beneficiary gets the $300,000, but your estate must first pay tax on the RRSP/RRIF proceeds from the other assets of the estate. If taxes averages out at 40%, then the other child’s entitlement (before factoring in probate, legal and tax costs) would be only $180,000 (= $300,000 x (1 – 40% tax rate)).

(b) where you name all of your children as equal beneficiaries RRSP/RRIF

Should one of your children predecease you, on your death, the RRSP/RRIF proceeds may then pass only to your surviving children. As such, the family of your deceased child might then receive nothing.
So in naming your children as beneficiaries of your RRSP/RRIF, it is important to review and update your beneficiary designation as family circumstances change.

4. Naming a Trustee of a Trust as beneficiary

Rather than name your adult children as beneficiaries of your RRSP/RRIF, you might instead name a Trustee of a Trust as your RRSP/RRIF beneficiary. The benefits of this alternative include:

avoiding probate and legal fees associated with the proceeds and funds end up in a Testamentary Trust which has tax advantages and creditor protection features compared to direct gifts;
avoiding the loss of a child’s government disability benefits by having their inheritance go to their RDSP up the allowable limit with the remainder to a Henson Trust or the $100,000 Disability Expense Trust
ensuring that a deceased child’s family is not disinherited;
ensuring that a spendthrift child won’t eat through their inheritance prematurely which you prefer to last for his or her lifetime;
to achieve an unequal distribution of your estate – say to ensure that more monies go to a mentally or physically infirm child – and avoid a disgruntled child in making a successful Wills Variation Act Claim;
building marriage/creditor protection provisions into the Trust to help keep the inheritance in the family.

The disadvantage of naming a Trustee is that you likely need to incur legal costs to have the Trust document created. The Trust could be in your Will, but it is preferable to be a separate document so that your beneficiary designation is not invalidated if you should later update your Will.

5. Estate as Beneficiary

In the event that your estate is the beneficiary of your RRSP/RRIF, the Executor of your Will might elect to have some of your RRSP/RRIF assets taxed in your hands to use up personal tax credits, losses or other deductions available in the year of death.

The Executor can then elect jointly with qualified beneficiaries to have the remaining RRSP/RRIF assets taxed in their hands or transferred tax deferred.
Leaving blank your RRSP/RRIF Beneficiary Designation or designating the estate may make sense if there is no spouse, your qualified beneficiary has little or no income, and where your RRSP/RRIF is small (example less than $50,000).

Although you would subject the RRSP/RRIF proceeds to probate fees, your estate with qualifying beneficiaries gain flexibility in better managing taxes through allocating income to the estate, to the qualified beneficiary, or to an RRSP/RRIF or qualified annuity for the benefit of a qualified beneficiary.

6. Naming one or more charities as beneficiary of your RRSP/RRIF

When a charity is designated as the beneficiary of your RRSP/RRIF (which should be done direct in the RRSP/RRIF plan document to avoid probate), the gift is eligible for the charitable donation tax credit and is deemed to have been made immediately before your death, as long as the RRSP/RRIF assets are transferred to the charity within 36 months of your death. Since the balance in an RRSP/RRIF is treated as income in the year of death, the charitable credit should eliminate the entire tax on the RRSP/RRIF.

For many people, the option of designating a charity as the beneficiary is attractive for two reasons:

Flexibility – You don’t commit to giving monies that are needed for your living needs until after you’ve passed away. So, if you live longer than expected or you happen to have higher expenses, the RRSP/RRIF monies are still there to take care of you. The charity simply gets any residual.
Supporting your charity rather than the taxman – your donation helps your favourite charity while reducing or eliminating the tax otherwise applicable to the RRSP/RRIF proceeds.

RRSP STRATEGIES

Start saving early in life and make the maximum contributions, if possible.
Make your RRSP contributions early in the year to gain an extra year of tax-free compounded growth.
Spousal RRSPs still make sense where it is anticipated that one spouse will have substantially more retirement income than the other. That’s because only up to one-half of eligible pension income can be split with your spouse.
If you and your spouse will become age 65 or older and don’t have at least $2,000 of pension income, consider converting an RRSP to a RRIF to qualify for the $2,000 Pension Income Tax Credit. Note that through the Pension Income Splitting Rules, you might elect up to $2,000 of Minimum RRIF Income to be taxed in your spouse’s hands if she does not have any eligible pension income.
If you have Earned Income in the year in which the younger of you and your spouse turns age 71:
estimate your Contribution Room that would be generated this year;
consider making your maximum RRSP contribution plus next year’s contribution (taking into consideration any excess contributions) before Dec 31st – the date when the RRSP must be matured.
If you cannot manage to make your maximum RRSP contribution, you might consider obtaining an RRSP Loan. As the interest expense is not deductible, you should repay the loan as soon as possible.
If you’re retiring from your employment (which began prior to 1996) and you anticipate receiving a retiring allowance, consider taking advantage of the rollover of a portion of this severance amount to your RRSP.
If you have a Locked-in RRSP, review the provisions of the province of jurisdiction rules to determine whether part or all of it might be unlocked.

THE NEXT STEP

To help develop your estate plan including beneficiary designations for your RRSPs and RRIFs, please contact our financial planner, Steve Nyvik. He will work together with your estate planning lawyer to help custom design and implement your estate plan. Estate Planning is included as part of the service for Steve’s clients of Lycos Asset Management Inc. Steve can be contacted by calling: (604) 288-2083 or by email: [email protected]

Every Retiree should Have a Pension!

December 25, 2015December 25, 2015 Steve Nyvik

Written by Steve Nyvik, BBA, MBA ,CIM, CFP, R.F.P.
Financial Planner and Portfolio Manager, Lycos Asset Management Inc.

When you’re retired, it generally makes good sense to have some part of your wealth producing a regular monthly income no matter how long you live. If you don’t have a defined benefit pension, then you might consider a life annuity. If the annuity is funded from personal resources (as opposed to RRSPs and corporate monies) the annuity may qualify for special tax treatment as a ‘Prescribed Annuity’. As a result, most of the monthly receipts may be considered a tax-free return of capital giving you more after-tax income than what you’d receive from bonds or GICs. We’ll talk about how an annuity works, how it is taxed, and the pros and cons.

In retirement, one should have a pension that pays you an income every month covering most of your basic living needs no matter how long you live. If you don’t have a defined benefit pension plan, then you might consider buying a pension to supplement your retirement income – one such type of pension is a life annuity.

What’s an Annuity?

An annuity is a contract providing you with periodic cash receipts (normally monthly) in exchange for an up-front lump sum payment. Those receipts may be for a pre-determined fixed number of payments (a “term annuity”) or they may be guaranteed for your life (a “life annuity”).

Where the annuity is with a life insurance company, the annuity contract is considered to be a form of insurance and may be protected from your creditors.

If the life insurance company defaults on its payment obligation to you, your periodic cash receipts may be covered for up to $2,000 per month or 85% of the promised monthly annuity receipts, whichever is higher through Assuris [1] (formerly Compcorp).

Where we expect to buy annuities that pay more than $2,000 a month, we might buy annuities from more than one insurer so that your entire annuity receipts are protected.

For an annuity, the amount of the periodic cash receipt you will receive for your lump sum purchase amount is dependent upon:

whether you select a term certain annuity or life annuity;
for a life annuity, the type of survivor annuity guarantee, if any, that you choose; and
prevailing interest rates and whether the cash receipts are to be indexed.

Having guaranteed periodic cash receipts is very attractive as you are assured a guaranteed return on your annuity capital and assured to receive a set amount regularly to cover part of your living expenses no matter how long you live.

Taxation of an Annuity

For Canadian tax purposes, annuities purchased with monies from a registered plan (eg. RRSP, RRIF or DPSP) result in the entire amount of annuity receipts to be taxed as income when received.

For annuities purchased out of “tax-paid dollars”, the receipts represent a blend of capital and interest. The capital component being non-taxable and the interest component taxed as ordinary income.

For personal annuities purchased out of tax-paid dollars, you may choose the annuity to be taxed as a “Prescribed Annuity”[2]. In a Prescribed Annuity, the capital and interest receipts are fixed over the entire term of the annuity. The estimated term of a life annuity is based on a standard mortality table of life expectancies.

So a Prescribed Annuity generates less taxable income in the early years than a non-Prescribed Annuity. And if you believe you will live longer than your life expectancy, you may find a Prescribed Annuity may result in a lower amount of taxable income from the annuity throughout your lifetime.

Types of Life Annuities

a) Straight Life Annuity

Life annuities ensure that you receive a guaranteed income throughout your lifetime and not outlive your resources – no matter how long you live.

On your death the cash receipts will terminate, regardless of whether they were made for one week or for thirty years.

The amount of the cash receipts are based on annuity rates set by actuaries based on average life expectancies. As women have a longer expected life span, the cash receipt paid to a woman will generally be lower than the annual receipt paid to a man. A life annuity may only be sold by a life insurance company.

The Straight Life Annuity has the highest periodic cash receipt – but it is considered the riskiest form of annuity because of the possibility of premature death and loss of capital.

b) Joint Life Annuity

Under a Joint Life Annuity, in the event of your death, some portion of the cash receipts (such as 50%, 60%, 75% or 100% of the original cash receipt) will be paid to your spouse (or other named beneficiary) for the remainder of their life.

c) Life Annuity with Guarantee Period

Under a Life Annuity with Guarantee Period, cash receipts are guaranteed to be paid for your life but are guaranteed to be paid for at least a pre-determined number of years (typically 5, 10, 15 or 20 years).

In the event of your death occurring before the end of the guarantee period, cash receipts may continue to be paid for the remainder of the guarantee period to a named beneficiary, a trust or to your estate. Alternatively, the remaining value of the guaranteed payments may be commuted with the lump sum paid to either your estate or to a named beneficiary.

d) Insured Annuity

Where preserving capital is also important, an Insured Annuity might make sense. Under this option, both a life annuity and Term-to-100 life insurance policy are purchased. Purchasing a life annuity allows you to receive higher cash receipts, but a portion of the receipts are used to make insurance premium payments. So, on your death, part of your estate is preserved by the insurance proceeds that are paid either to your estate, to a named beneficiary, or to a Trust.

e) Corporate Owned Insured Annuity

An insured annuity can also make good sense as a strategy to reduce tax where it is owned through your private company.

If you own private company shares, on the last to die of you and your spouse, these shares are deemed disposed at market value resulting in capital gains taxes. Taxes are payable a second time where company assets are disposed of (creating taxable capital gains) and distributed to shareholders (which might be in the form of dividends subject to tax). So, your company investments are subjected to tax twice – once at your death and then again when realized and distributed.

If your company has surplus assets, it may be possible to reduce these taxes where the company buys a Non-Prescribed life annuity which reduces the pool of surplus assets. Term-to-100 life insurance is then separately bought having a death benefit sufficient to replace the annuity capital.

What this does is convert surplus assets to a death benefit that can be excluded in valuing the company for tax purposes. Most or all of this death benefit is credited to the Capital Dividend Account that can then be paid to your heirs tax-free.

The result is that through a corporate owned insured annuity you may be able to reduce capital gains taxes at death. And this reduction in taxes can be greater than a plan to simply redeem company shares at death.

Annuity Illustration

Let’s say you’re a 65-year old man and you have $250,000 personally to invest. You want to invest this money to provide you with regular income to meet your living needs.

One possibility (see “Option 1” on Schedule 1) is to buy a bond that earns 4.0%. At the 40% tax bracket, your after-tax return is 2.7%.

Another choice (see “Option 2” on Schedule 1) is to buy a Prescribed Annuity for $250,000. The annuity will pay you $19,996 each year no matter how long you live. And as a Prescribed Annuity, only $5,431 of each year’s receipts is subject to income tax (i.e. 72.8% of the total receipts is a tax-free return of capital). So at the 40% tax bracket, you’ll end up with $17,793 in your pocket each year. A bond would have to pay interest at a rate of 11.86% to give you the same amount of income after-tax.

There are two reasons why you receive this big boost in yield. First, you lose access to the capital – you’re only entitled to the monthly cash receipts. This makes sense because the insurance company must invest those monies for the long term to generate excess returns to pay you your guaranteed return.

Second, on death, the cash receipts terminate leaving no annuity capital for your loved ones. That’s where life insurance comes in.

This return of annuity capital (called an insured annuity) is shown under the third alternative (see “Option 3” on Schedule 1). For a 65 year old non-smoking man, $250,000 of term-to-100 life insurance is purchased costing $656 per month. (Note that with insurance you pay the first premium up-front). That leaves $249,344 to buy the Prescribed Annuity. The annuity will pay $19,913 each year of which $5,416 is taxable income. When taxes of $2,167 and the full-year’s insurance premium of $7,872 are paid, you end up each year with $9,875 in your pocket. A bond would have to pay interest at a rate of 6.58% to give you the same amount of income after-tax.

Schedule 1: Comparing the Returns of Bonds to Annuities
	Option 1	Option 2	Option 3	Option 4
	Bonds	Prescribed Annuity	Insured Annuity	Charitable Insured Annuity
Investment Amount	$250,000	$250,000	$250,000	$250,000
Less: up-front insurance premium	–	–	($656)	($656)
Net Amount of Bond/Annuity Purchase	$250,000	$250,000	$249,344	$249,344

Interest Rate	4.0%

Gross Annual Income	$10,000	$19,966	$19,913	$19,913
Taxable Portion	$10,000	$5,431	$5,416	$5,416
Income Tax (40%)	($4,000)	($2,172)	($2,167)	($2,167)
Add: Charitable Credit	–	–	–	$3,440
After-Tax Income	$6,000	$17,793	$17,747	$21,187
Less: Annual Insurance Premium	–	–	($7,872)	($7,872)
Net Annual Income Receipts	$6,000	$17,793	$9,875	$13,315
After-Tax Cash Yield	2.40%	7.12%	3.95%	5.33%
Pre-Tax Yield	4.00%	11.86%	6.58%	8.88%

Note: The annuity is a life only annuity with no guaranteed years of payments based on a 65 year old male. The life insurance is a Term to 100 policy for a non-smoker male age 65 at a cost of $656 per month. This is an illustration only and does not constitute an offer to buy an annuity or life insurance.

One of the neat things about an Insured Annuity is that if your spouse dies before you, you can discontinue the term insurance. As a result, your net after-tax receipts increase from $9,875 to $17,747; that’s 7.1% after-tax. A bond would have to yield 11.83% to provide the same return.

If you need income and are charitably inclined, you can boost your income and also provide a nice endowment to your favorite charity. Under this option (see “Option 4” on Schedule 1) your insurance premiums payments become charitable donations (as the charity owns the insurance) for which you’ll be entitled to the charitable credit. Assuming you have more than $200 annually in other donations, the charitable credit on the $7,872 insurance premiums will be $3,440 (based on the highest tax bracket rate of 43.7%). Here you’ll end up with $13,315 after-tax in your pocket each year as long as you live – almost double the after-tax income of the bond of Option 1. A bond would have to yield 8.88% to provide the same return. By your age 84, you’ve gotten your capital back and you’re still receiving $13,315 a year. On your death, your favorite charity receives $250,000.

Disadvantages of Annuities

The main disadvantages of annuities are:

you generally lose control and access to the annuity capital – all you are entitled to is the agreed to periodic cash receipts;
if it is a life annuity, cash receipts terminate on your death leaving nothing for the estate value or survivors (you can, at a cost, build in guarantees – such as joint-life, guaranteed number of years of payments, or a life insurance death benefit to pay back the annuity capital);
Tax preferred Prescribed Annuities are by statute not indexed to inflation. As such, the purchasing power of the monthly receipts is eroded by inflation. So, you still need other investments to provide the inflation indexing and protect the purchasing power of your annuity;
with interest rates at historically low levels, the annuity monthly cash receipts have also dropped to relatively low levels.

Where an annuity makes good sense

In today’s environment of low interest rates, a life annuity can make good sense:

as an insured annuity where you’re in your 70s and you have at least $250,000 personally where you don’t need to touch the annuity capital to meet your living needs; or

as a corporate owned insured annuity where you’re in your mid-60s or older, in relatively good health, and have at least $250,000 corporately of surplus funds not needed to meet living needs.

Summary

We suggest you consider having most of your basic living needs covered by an income guaranteed to be paid no matter how long you live. The amount of pension income you might consider buying might be:

your monthly living needs in retirement (say $5,000), less
CPP, OAS and any defined benefit pension benefits you receive.

Let’s say that the amount of pension income to buy came to $2,000, then you might consider buying a life annuity paying you $2,000 a month.

We have found that clients who have most of their living needs met with pension income are generally less stressed about their investing. They also tend to act more rationally by emotionally being able to invest for the long term through adding to equities when they are down and taking profits when they are high.

Where an annuity doesn’t make sense for you because you require more income or require leaving an estate, then you might consider investing with Steve who follows an investment philosophy of generating income through selecting income oriented quality stocks and bonds.

The Next Step

If you would like more information about life annuities or if an annuity makes sense for you, please call Steve Nyvik. Financial Planning is included as part of Steve’s service to his clients. Steve can be contacted by calling: (604) 288-2083 or by email: [email protected]

[1] Assuris is a non-profit corporation that protects Canadian policy holders against loss of benefits due to the financial failure of a member company. All life insurance companies authorized to sell insurance policies in Canada are required, by the federal, provincial and territorial regulators, to become members of Assuris.

[2] Here are some of the conditions for an annuity to qualify as a Prescribed Annuity:

The annuity must be purchased with non-registered funds (not with RRSP/RRIF or corporate funds);
The owner and the person entitled to the payments (payee) must be the same and may not be a corporation [i.e. the owner may be an individual, testamentary trust or spouse trust];
The payments must begin in the current or next calendar year;
Annuity payments continue for a fixed term or for the life of the owner;
If there is a guaranteed or fixed term of payments, the guarantee cannot extend beyond the annuitant’s 91st birthday;
If a joint and last survivor contract, the annuitants are limited to spouses or siblings of each other;
The annuitant cannot surrender or commute the annuity, except on death;
The payments must be level (indexing is not allowed) and made at regular intervals, not less frequently than annually.

When Life Insurance Can Make Sense

December 24, 2015December 24, 2015 Steve Nyvik

“… a foolish man builds his house on the sand. And the rain fell, and the floods came,
and the winds blew and beat against that house, and it fell, and great was the fall of it.”
– Matthew 7:24-27

Written by Steve Nyvik, BBA, MBA ,CIM, CFP, R.F.P.
Financial Planner and Portfolio Manager, Lycos Asset Management Inc.

When building an investment portfolio, it is important to build on a solid foundation. For this reason, it is important to consider the implications of the death, disability or illness of the family breadwinner, property loss, theft or damage, and liability claims. That way, if a disaster does happen, the family doesn’t get wiped out in the process.

For this article, we’ll discuss the issue of life insurance. Personally I’m not a big fan of life insurance. I consider it an expense you shouldn’t pay for unless you clearly need the protection. I’d like to take you through what I consider are the exceptions to where life insurance can make sense.

1. Protection of the life of the family breadwinner

For a family with young children and few financial resources, the death of the family breadwinner can leave the surviving spouse and kids without means to support themselves. So, getting enough insurance cheaply is generally the goal. One source for cheap insurance may be your employment group insurance. If the cost per dollar of insurance is lower than that of buying private insurance, then you might top up your group coverage.

We’ll also check to see if your employer pays any part of the insurance cost as this “taints” the proceeds making them taxable. Here we’ll explore whether it’s better for you to pay the entire life insurance premium (and have your employer pay more of the cost of other benefits) so that the life insurance proceeds will be tax-free. We might also look at private term insurance to top-up your coverage if needed as the limits on group insurance may not be adequate enough for your needs.

Where you own a business

If you own a business, term insurance for which your business is the owner and beneficiary can make great sense. Although the life insurance premium is normally not deductible, you are paying the insurance premiums that have been subjected to just the company tax rate (The small business tax rate for British Columbia is 13.5% combined). As such, you might be able to buy up to 30% more insurance for the same money compared to buying the insurance personally from after-tax employment or dividend income.

The company owned life insurance death benefit is paid to your company on your death tax-free. The death benefit (less the tax cost which is ‘nil’) is credited to the Capital Dividend Account. This amount can then be paid out as a tax-free ‘capital dividend’ to your family.

Note that the company owned life insurance is an asset of your company and the death benefit can be subjected to your creditors. Should you be in a position where you are able to retain some company income, an investment holding company can make sense as a way to remove surplus hands from exposure to potential creditors.

2. Insuring an annuity

Insurance on a life annuity to replace the capital on death can make sense. Let’s look at annuities and then see how insurance can work together with it.

A) What is an annuity?

An annuity is a contract providing you with periodic cash receipts (usually paid monthly, quarterly or annually) in exchange for an up-front lump sum payment. There are two types of annuities:

those that pay for only a specific period of time (term certain annuities), and
those that pay as long as you live (life annuities).

A life annuity bought from personal monies (non-RRSP/RRIF or non-company money) qualifies as a Prescribed Annuity which is entitled to beneficial taxation as only part of the income is taxable.

Let’s say you’re a 65-year old man and you have $250,000 to invest. You want to invest this money to provide you with regular income to meet your living needs.

One possibility (see “Option 1” on Schedule 1) is to buy a corporate bond that earns 4.5%. At the 40% tax bracket, your after-tax return is 2.7%.

Second, on death, the cash receipts terminate leaving no annuity capital for your loved ones.

B) That’s where life insurance comes in

Where you want the annuity capital for your loved ones when you’ve passed away, you can do this through buying life insurance. With life insurance, the annuity capital will be paid as a death benefit to your loved ones when you’ve passed away. But to provide this return of annuity capital on death, part of the annuity cash receipts is used to pay life insurance premiums.

Schedule 1: Comparing the Returns of Bonds to Annuities
	Option 1	Option 2	Option 3	Option 4
	Bonds	Prescribed Annuity	Insured Annuity	Charitable Insured Annuity
Investment Amount	$250,000	$250,000	$250,000	$250,000
Less: up-front insurance premium	–	–	($656)	($656)
Net Amount of Bond/Annuity Purchase	$250,000	$250,000	$249,344	$249,344

Interest Rate	4.5%

Gross Annual Income	$11,250	$19,966	$19,913	$19,913
Taxable Portion	$11,250	$5,431	$5,416	$5,416
Income Tax (40%)	($4,500)	($2,172)	($2,167)	($2,167)
Add: Charitable Credit	–	–	–	$3,440
After-Tax Income	$6,750	$17,793	$17,747	$21,187
Less: Annual Insurance Premium	–	–	($7,872)	($7,872)
Net Annual Income Receipts	$6,750	$17,793	$9,875	$13,315
After-Tax Cash Yield	2.70%	7.12%	3.95%	5.33%
Pre-Tax Yield	4.50%	11.86%	6.58%	8.88%

Note: The annuity is a life only annuity with 0 guaranteed years of payments based on a 65 year old male. The life insurance is a Term to 100 policy for a non-smoker male age 65 at a cost of $656 per month. This is an illustration only and does not constitute an offer to buy an annuity or life insurance.

This return of annuity capital is shown under the third alternative (see “Option 3” on Schedule 1). For a 65 year old non-smoking man, $250,000 of term-to-100 life insurance is purchased costing $656 per month. (Note that with insurance you pay the first premium up-front). That leaves $249,344 to buy the Prescribed Annuity. The annuity will pay $19,913 each year of which $5,416 is taxable income. When taxes of $2,167 and the full-year’s insurance premium of $7,872 are paid, you end up each year with $9,875 in your pocket. A bond would have to pay interest at a rate of 6.58% to give you the same amount of income after-tax.

If you need income and are charitably inclined, you can boost your income and also provide a nice endowment to your favorite charity. Under this option (see “Option 4” on Schedule 1) your insurance premiums payments become charitable donations (as the charity owns the insurance) for which you’ll be entitled to the charitable credit. Assuming you have more than $200 annually in other donations, the charitable credit on the $7,872 insurance premiums will be $3,440 (based on the highest tax bracket rate of 43.7%). Here you’ll end up with $13,315 after-tax in your pocket each year as long as you live – almost double the after-tax income of the corporate bond of Option 1. A bond would have to yield 8.88% to provide the same return. By your age 84, you’ve gotten your capital back and you’re still receiving $13,315 a year. On your death your favorite charity receives $250,000.

3. Maximizing pension income

Let’s say you’re married and you participate in your employer’s defined benefit pension plan – this is a pension that provides a guaranteed amount of pension income based on your average salary and years of service. At retirement, you’ll have to make a decision on the type of survivor benefit you wish to provide for your spouse on your death. The problem is that the cost of a survivor pension can be very hefty. We’ve seen these costs range as high as 20% to 35% of the unreduced (life only) pension.

Under a pension maximization strategy, you maximize your pension income by taking the life only pension only if you can buy a survivor pension at a cheaper cost elsewhere.

To see how this works, let’s assume that a life only pension (the unreduced and non-guaranteed pension) you’d receive would be $4,000 per month until you die at which time your spouse gets nothing.

You want to provide a pension to continue for your spouse after your death. Your company offers you a 100% Joint and Last Survivor Pension. Here this pension pays you $3,000 a month (instead of $4,000) as long as you live. And when you die, it pays $3,000 a month (= 100% of your $3,000 pension) as long as your spouse lives.

Under a pension maximization strategy, you elect to take the life only pension of $4,000 per month if you can provide a survivor pension of $3,000 per month at a cost of less than $1,000 per month.

Let’s say we can buy an insurance policy (like a Term to 100 policy) that provides for the same $3,000 a month survivor pension at a cost of $300 per month after tax (or $500 before tax at the 40% tax bracket). As a result, you’ll end up with $6,000 more a year in pension income. And if your spouse dies before you, you could cancel the insurance policy and end up with $12,000 more each year of pension income.

The reason why this strategy can work is that your employer is determining your pension options based on a life expectancy table for a group of people at your retirement age – it is not based on your particular health. So, if you’re healthy you might be able to lock-in a cost of insurance that’s cheaper than your future group rate.

4. Business insurance

There are three common situations where one might buy life insurance related to a business:

A) Key man insurance

The purpose of taking out key man insurance is to compensate the employer for the loss of income resulting from the loss of the service of a key employee in the event of their death. For the life insurance component of the policy, it is normally term insurance over the employee’s expected employment. (The policy might also include coverage in the event of the key person’s sickness or injury.)

Life insurance might also be provided as a remuneration retention tool as part of a group benefits package for your employees. Although there are requirements as to the number of employees required for a group to be established and that all full-time employees may need to participate, it can represent a cost effective way of providing benefits by you that an employee might not otherwise be able to obtain on their own. For example, an employee might not be insurable and qualify for private insurance. Alternatively, private benefits – like extended healthcare, tend to be available to lower coverage limits or not be as comprehensive as group benefits.

B) Buy-Sell insurance

In the event of your death, a Buy-Sell Agreement funded with life insurance provides insurance proceeds to your business partner who is contractually obligated to buy out your interest in the business on your death at a guaranteed price by a guaranteed date.

Similarly, in the event of your business partner’s death, a Buy-Sell Agreement funded with life insurance (which some refer to as “Buy-Sell insurance”) provides you the proceeds to buy out your deceased partner’s business interest. The last thing you might want is to be in business with your deceased partner’s spouse or kids.

A Buy-Sell Agreement that’s fully funded with life insurance provides an opportunity to reduce the capital gains tax liability on the deemed disposition of your shares. For example, if your shares pass to your surviving spouse on your death and vest in their hands, you’d want your surviving spouse to have an option to redeem your shares at a pre-established fair value that’s fully funded by life insurance. The redemption can be structured as a return of capital (for which the company is required to declare a capital dividend equal to the fair market value) and no capital gains tax might result on your shares. If you have no spouse, there will be some amount of capital gains tax given the Stop Loss rules that limit the amount of dividend to a 50% capital dividend (with the balance a taxable dividend); however, the savings still makes good sense.

C) Maximizing your company value on your death

If your company has surplus assets, it may be possible to reduce these taxes where the company owns an insurance policy on the life of the shareholder. Here surplus company assets are used to pay insurance costs which reduces the pool of surplus assets. What this does is convert surplus assets to a death benefit that can be excluded in valuing the company for tax purposes. Most or all of this death benefit is credited to the Capital Dividend Account that can then be paid to your heirs tax-free.

The result is that through insurance you may be able to reduce capital gains taxes at death. And this reduction in taxes can be greater than a plan to simply redeem company shares at death.

The Next Step

If you think insurance can be of value to you or if you’d like us to review your existing insurance policies, please call our financial planner, Steve Nyvik.

Plan Your Business Exit

December 24, 2015December 24, 2015 Steve Nyvik

Do you have a plan in place to ensure you get a great price for your business should you become sick, disabled, die or when you decide to retire?

Why you need to plan ahead

If you own a business that’s growing or at least making you a decent living, chances are it may be worth a fair deal and quite possibly represents one of your most valuable assets. So to ensure you get paid what it’s worth if you intend to sell it, or to minimize taxes on passing it to one or more of your children, you need to plan ahead for that day.

And since your ‘exit’ may not be at the time of your choosing – should you become sick, disabled or die, you need to plan now!

Without a succession plan secured with a Buy-Sell Agreement or a Shareholders’ Agreement, your business might:

not survive your death,
survive but be worth substantially less as your intended successor chooses not to pay a ‘high price’ for your business,
survive but materially hurt as customers are taken by competitors or ‘stolen’ by disenfranchised employees.

Your planning should consider the business acumen/capability and desires of your family members and employees in addition to your needs. This can affect who you might sell to – be it family members, a partner, key employees, or even a supplier, customer or competitor.

You might even find that the most profitable solution might be to “grow” your own successor. By hiring a younger person with the right skills, similar integrity as yours, and working closely with them for a few years, you’ll increase the odds that you can dictate a premium price.

The more time you have to plan, the greater the chances you’ll get more money after tax. It takes time (read years) to find the best successor who is willing to pay the price you want, establish a Buy-Sell Agreement or Shareholders’ Agreement, fund the agreement to guarantee payment to your family should you die, get the successor up to speed with your business so that he or she has the skills needed, and ensure the structure will qualify for a tax effective transfer.

Selling assets or selling shares?

When you sell your incorporated business, you’ll have to decide between two general approaches. Either you can have the corporation sell assets of the business, or you can sell shares of the corporation.

1. Taxation on the Sale of Shares to an Arm’s Length Party

If you sell the shares of the operating company, the disposition of shares results in a capital gain or loss. The amount by which the proceeds of disposition exceed the Adjusted Cost Base of the shares is a capital gain; one-half of the capital gain is a Taxable Capital Gain (and this amount is taxed like investment income).

If your shares are held by you personally and are considered “Qualified Small Business Corporation Shares”, “Qualified Farm Property” or “Qualified Fishing Property”, up to $813,600 of your gain may be exempt from tax. If your Family Trust holds these qualifying shares, it may be possible to multiply this exemption by allocating capital gain proceeds amongst beneficiaries such as you, your spouse, adult kids, and parents.

Your capital gains exemption is reduced, however, by investment losses. The amount that your exemption is reduced by is the Cumulative Net Income Losses (CNIL) over all previous years. The CNIL itself is increased by these amounts: interest costs on investment loans, carrying charges and interest on any business that you do not have direct control over, losses on partnerships or co-ownerships, rental or leasing losses and capital losses deducted versus capital gains that aren’t eligible for the exemption. The CNIL balance is reduced by investment income you have received over the years including interest income and dividends. So, you might plan to clean this up by taking relatively low cost dividends over a few years. The exemption may also be restricted if you ever claimed an Allowable Business Investment Loss (ABIL) in which case you need some capital gains that are taxable.

2. Taxation on the Sale of Assets to an Arm’s Length Party

No capital gains exemption is available if you sell business assets. So from your point of view, it’s better to sell company shares. If you sell the assets from your company, the proceeds from the sale are taxed inside a company. You’ll also have GST/HST sales tax on asset sales. You then have to pay tax a second time on withdrawals from the company.

How the proceeds are taxed depends on the type of assets sold and the income generated. If you are selling depreciable assets, such as equipment, this results in recaptured depreciation if the sale proceeds exceed the Undepreciated Capital Cost (“UCC”) up to the original purchase price, thereafter you’ll have a capital gain. Recaptured depreciation is included in income and taxed as active business income. If sold for less than UCC, one has a deductible terminal loss.

The sale of non-depreciable non-inventory assets, such as land and building or shares of an operating company, result in a capital gain equal to the sale proceeds less Adjusted Cost Base. One-half of capital gains is included in income and taxed as investment income (assuming it is on account of capital and not as an inventory item being sold). The non-taxed half is added to the Capital Dividend Account where one might elect to pay out a non-taxed capital dividend. The sale of land may result in land transfer tax.

Gains on the sale of intangibles and goodwill are also included in taxable income at a 50% inclusion rate; the taxable portion is taxed as active business income as opposed to investment income.

The type of income (i.e. active business income versus investment income) and type of corporation (for example, a Canadian controlled private corporation (“CCPC”) versus a non-CCPC) determine the corporate tax rate.

If you are trying to sell your business, the buyer may prefer to purchase assets which is usually much cheaper. The buyer gets a higher cost on depreciable assets which will help generate more Capital Cost Allowance (CCA) or tax depreciation to offset future income. Buying assets and not the shares is less risky to buyer as it doesn’t include your business liabilities or tax risk of potential future reassessments.

Preparing your business for sale

Having your accountant structure your ownership and cleaning up the company for sale at least 24 months in advance so it qualifies for the qualified small business capital gains exemption is just one aspect of preparing your business for sale.

You might also take steps to prepare your business so it’ll command a higher price. For example, all of your client knowledge and details in running the business smoothly needs to get put on paper (or even better into a computer database). If your business can be run with little or no involvement by you, then the business is worth more as there’s less key person risk.

You might also be able to increase your sales price if you strengthen its competitive position (or competitive advantage) – like operating profitable business niches with little to no competition or developing the business so that it is the lowest cost competitor. In addition to the niche business potentially being very profitable, it might also have higher odds of transition success – where customers have little other choice to buy products or services from your business.

If your family business has more than one range of business operations, you might find that splitting it into logical focused businesses and selling each piece to the highest bidder might be more profitable than selling the whole pie to just one buyer.

When to sell?

Deciding on the best time to sell your business can be difficult. But generally you should be able to command a significantly better price if you sell when business prospects are good and you’ve got a few years of great historical financial results.

For example, if you forecast growth of 20% and can show for the last three years 20% year over year growth, you have a good case for a premium price that reflects the prospect of future growth.

Another option might simply be for you to hold onto your business as long as you can manage especially if multiples for your industry are low. But if this means the business isn’t well looked after and customer service deteriorates, your selling price could be accordingly affected. So, you might end up working a few extra years and not be ahead financially.

The price

One common problem small business owners have is that of not being able to objectively arrive at a fair price. That’s because there may not be a “stock market” or commonly known industry rules of thumb to tell them the value of their business. So any offer that isn’t a premium offer for their baby may seem too low.

Rules of thumb used in your industry, if available, may be a helpful starting point to get some ballpark basis of worth.

A business valuator might be able to improve on this rule of thumb estimate or might possibly help bring the buyer and seller together to agree on valuation principles. Four common valuation techniques used are:

Comparable Company Analysis – this is an attempt to measure value by employing the market values of public companies possessing similar attributes to your business;
Comparable Transaction Analysis – this is similar to the previous technique except companies used as models are those that have been recently bought or sold;
Discounted Cashflow – here the worth of the company is based on the total amount of after-tax cash it can generate (usually the most expensive price); and
Liquidation Analysis – here the worth is derived through selling off assets less the cost of satisfying debts (usually the most cheapest price).

From the amount determined based on one or a combination of the above techniques, there may be one or more valuation discounts applied such as:

Lack of marketability discount – this applies to closely held businesses where there is virtually no market;
Minority interest discount – this applies to where a buyer purchases a minority interest (less than 50% interest) in the business and doesn’t end up with control;
Key-person discount – this applies where the company’s success is dependent on a key person and the loss of the key person would result in adverse consequences.

With a valuation, the assumptions used can have a drastic impact in the resulting estimate of value. So it’s important that both the buyer and seller are in agreement with the assumptions or you might end up wasting your money on the valuation.

Earn-out Arrangements

Carefully structured, an earn-out arrangement can be a win/win in that the seller likely receives a higher value for the business while the buyer minimizes the risk of goodwill impairment and obtains favourable internal financing.

And if you don’t offer an earn-out, you’ll likely eliminate many prospective buyers who’d be more than willing to pay a premium.

Converting part of the business value to tax deferred proceeds

For a larger business, the use of an Individual Pension Plan (“IPP”) or a Retirement Compensation Arrangement (“RCA”), could help you save a substantial amount in taxes by spreading taxes out over several years or by being able to shift part of the company value to tax deferred assets.

An IPP can be thought of as a super RRSP. In most cases, IPP contributions can be substantially higher than RRSP contributions – possibly more than double what you’d otherwise be able to save in an RRSP.

Should business liability be an issue for you, an IPP comes with creditor protection (note that there is some degree of creditor protection through provincial legislation for RRSPs and RRIFs). Although an IPP has setup fees and maintenance costs, for some people, the added savings and creditor protection are well worth the costs.

An RCA might be used to spread proceeds over several years. It might be especially of value where you are considering becoming a non-resident and take up residency in a lower tax jurisdiction.

Either or both of these techniques should be considered many years in advance (read more at least 10 years), in order for the real power of these tools to be spectacularly effective.

Spreading the gain over time – the Capital Gains Reserve

When you sell your business, you might find it tough to get all of your money up front – it might instead be spread over a number of years.

So you might consider offering the buyer financing that may be more attractive than might otherwise be available through traditional bank financing. And in the process you might receive some tax relief through a capital gains reserve.

This reserve allows you to bring the capital gain into income over a maximum five-year period. Without the capital gains reserve mechanism, you’d be liable for tax on the entire capital gain triggered by the disposition in the year of sale, even though you would not yet have received the entire sale proceeds.

Note that if you are selling the shares of a QSBC, qualified farm property, or qualified fishing property, you can claim a reserve over a 10-year period. That might be just the thing to consider if selling to your children or grandchildren.

Buy/Sell Agreement

A Buy/Sell Agreement is a contract between two parties that defines how an owner will sell a particular business interest and how a buyer will buy that interest under certain situations.

A Buy/Sell Agreement may be general in nature to cover unplanned sales (in case of death or incapacity) or it may be very definite in nature tailored to a planned sale to a known buyer (in the case of a planned retirement).

Whether you leave by choice or by chance, a Buy/Sell Agreement ensures your business interest will be transferred at a guaranteed price and on guaranteed terms.

Having the agreement in place improves the odds of the business successfully transferring at a price that can provide adequately for your family and removing uncertainty to employees and partners that depend on the business.

Non-competition agreements

Whether you sell your company’s shares or assets, the buyer will likely want you to sign a non-competition agreement to protect the value of the business. The payment you receive for signing this (or the implied value associated with this) may be fully taxed as regular income. However, if requirements, such as filing an election with the CRA, are met, it may be taxed at a lower rate as a capital gain.

Maximizing after tax business proceeds on death

On the last to die of you and your spouse, shares of your incorporated business is deemed disposed at market value resulting in capital gains taxes. Taxes are payable a second time where company assets are disposed of (creating taxable capital gains) and proceeds distributed to shareholders (which might be in the form of dividends subject to tax). So, your company investments are subjected to double tax – once at your death and then again when realized and distributed.

If your company has surplus assets, it may be possible to reduce these taxes where the company owns an insurance policy on the life of the shareholder. Here surplus company assets are used to pay insurance costs which reduces the pool of surplus assets. What this does is convert surplus assets to a death benefit that can be excluded in valuing the company for tax purposes. Most or all of this death benefit (above the policy ACB) is credited to the Capital Dividend Account that can then be paid to your heirs as a tax-free capital dividend.

The result is that through insurance you may be able to reduce capital gains taxes at death. And this reduction in taxes can be greater than a plan to simply redeem company shares at death. The sooner you plan for this, the cheaper your cost of insurance.

Are there holes in your business exit plans?

Below are some questions to help you begin thinking about your business planning and the status of your business succession.

Have you thought about what will give you a full and meaningful life? Have you priced this out so you know when you can afford to retire? If your business is worth more than what you need, why are you not planning your exit? What are the costs to your spouse and family of working hard in the business versus retiring where they get to spend time with you?
Have you thought through the implications to you and your family in the event of a serious illness, disability, or premature death? In such events, have you developed a disaster plan to ensure that you’ll get a good price for your business backed up contractually with a Buy-Sell Agreement or a Shareholder’s Agreement? Or have you obtained sufficient disability, critical illness and life insurance to financially ensure you and your family’s well-being?
Are you dependent on your business to meet your retirement cash flow needs? Are you growing your investment portfolio so that it will eventually be able to provide you with a satisfactory pension?
Do you know what your business is really worth if it were sold tomorrow? (Have you had an independent person appraise your business so you know what a market offer looks like?)
Do you have enough liquidity to avoid the forced sale of your business on death? Is there enough other assets available to satisfy the tax bill?
Who will be taking over, or will you sell the business? Have you considered the importance of family involvement in leadership and ownership of the company? If family is involved in leadership, have you thought through how to fairly deal with your family who are active and those that aren’t active in the business?
Is selling your business to a successor (like a capable employee or employees) the best way to maximize the proceeds from selling your business? Do you have a successor in mind for your business? Is the successor competent, honest and trustworthy? Is your successor someone who would want to own your business? Is the successor ready to succeed you – does he / she have the qualifications needed? Is there an incentive plan for your successor with effective non-compete clauses? Have you developed a training plan for your successor? Have you put in place a Buy-Sell or Shareholder’s Agreement with the successor? Is the agreement secured with resources or funded by insurance to guarantee cash will be available to be paid to you or your family on your planned or unplanned departure?
Are you currently using techniques to reduce or eliminate income tax and estate tax?
Are you planning to utilize the Small Business Capital Gains Exemption as a way to obtain tax-free proceeds on your business exit? Have you structured the ownership of your business so that the company qualifies? Have you structured the ownership so that you’ll be able to multiply the exemption?
Have you considered alternative corporate structures, stock-transfer techniques, IPPs and RCAs to reduce or defer taxes as part of your exit plan?
Are you doing everything you can do to make your business more valuable to a buyer? Are you making yourself redundant so that it can eventually operate without your showing up to work every day? Have you looked at your staff to determine the effect should on or more persons leave? Are your staff happy and properly compensated compared to your competitors? Do you have a backup for each key staff person should someone leave so that your business can continue to operate?

The next step

If you’ve got a saleable business and would like to put together your exit plan, please call our financial planner, Steve Nyvik. Some of the things that Steve can assist you with include:

reviewing your current plans and provide some constructive comments;
preparing a financial roadmap (otherwise called a retirement projection) so that you can know when you can afford to retire;
structuring your investment portfolio to resemble a pension so that it can eventually replace the income provided from your business so that you are financially independent;
working together with you and your tax accountants, lawyers and pension benefits consultants to help you implement a tax effective plan backed with a Buy-Sell Agreement or Shareholder’s Agreement;
reviewing your insurance program to determine its adequacy to fully fund the buy-out in the event of your serious illness, disability or premature death.

Written by Steve Nyvik, BBA, MBA ,CIM, CFP, R.F.P.
Financial Planner and Portfolio Manager, Lycos Asset Management Inc.

Index and Sector ETFs: Mutual Funds: Speculation X3

August 20, 2015August 20, 2015 Steve Selengut

How many of you remember the immortal words of P. T. Barnum? On Wall Street, the incubation period for new product scams may be measured in years instead of minutes, but the end result is always a greed-driven rush to financial disaster.

The dot.com meltdown spawned index mutual funds, and their dismal failure gave life to “enhanced” index funds, a wide variety of speculative hedge funds, and a rapidly growing assortment of Index ETFs. Deja Vu all over again, with the popular ishare variety of ETF leading the lemmings to the cliffs.

How far will we allow Wall Street to move us away from the basic building blocks of investing? Whatever happened to stocks and bonds? The Investment Gods are appalled.

A market or sector index is a statistical measuring device that tracks prices in securities selected to represent a portion of the overall market. ETF creators:

select a sampling of the market that they expect to be representative of the whole,
purchase the securities, and then
issue the ishares, SPDRS, CUBEs, etc. that speculators then trade on the exchanges just like equities.

Unlike ordinary index funds, ETF shares are not handled directly by the fund. As a result, they can move either up or down from the value of the securities in the fund, which, in turn, may or may not mirror the index they were selected to track. Confused? There’s more — these things are designed for manipulation.

Unlike managed Closed-End Funds (CEFs), ETF shares can be created or redeemed by market specialists, and Institutional Investors can redeem 50,000 share lots (in kind) if there is a gap between the net-asset-value and the market price of the fund.

These activities create artificial demand in an attempt to minimize the gap between NAV and market price. Clearly, arbitrage activities provide profit-making opportunities to the fund sponsors that are not available to the shareholders. Perhaps that is why the fund expenses are so low — and why there are now thousands of the things to choose from.

Two other ETF idiosyncrasies need to be appreciated:

a) performance return statistics for index funds may not include expenses, but it should be obvious that none will ever outperform their market, and

b) index funds may publish P/E numbers that only include the profitable companies in the portfolio.

So, in addition to the normal risks associated with investing, we add: speculating in narrowly focused sectors, guessing on the prospects of unproven small cap companies, experimenting with securities in single countries, rolling the dice on commodities, and hoping for the eventual success of new technologies.

We then call this hodge-podge of speculation a diversified, passively managed, inexpensive approach to Modern Asset Management — based solely on the mathematical hocus pocus of Modern Portfolio Theory (MPT).

Once upon a time, but not so long ago, there were high yield junk bond funds that the financial community insisted were appropriate investments because of their diversification. Does diversified junk become un-junk? Isn’t passive management as much of an oxymoron as variable annuity? Who are they kidding?

But let’s not dwell upon the three or more levels of speculation that are the very foundation of all index and sector funds. Let’s move on to the two basic ideas that led to the development of plain vanilla Mutual Funds in the first place: diversification and professional management.

Mutual Funds were a monumental breakthrough that changed the investment world. Hands-on investing became possible for everyone. Self-directed retirement programs and cheap to administer employee benefit programs became doable.

The investment markets, once the domain of the wealthy, became the savings accounts of choice for the employed masses — because the “separate accounts” were both trusteed and professionally managed. When security self-direction came along, professional management was gone forever. Mutual fund management was delegated to the financially uneducated masses.

ETFs are not the antidote for the mob-managed & dismal long term performance of open end Mutual Funds, where professionals are always forced to sell low and to buy high. ETFs are the vehicles of choice for Wall Street to ram MPT mumbo jumbo down the throats of busy, inexperienced investors… and the regulators who love them because they are cheap.

Mutual fund performance is bad (long term, again) because managers have to do what the mob tells them to do — so Wall Street sells “passive products” with controlled content that they can manipulate more cheaply.

Here’s a thumbnail sketch of how well passive ETFs may have performed from the turn of the century through 2013: the DJIA growth rate was about 0% per year, the S & P 500 was negative; the NASDAQ Composite has just recently regained its 2000 value.

How many positive sectors, technologies, commodities, or capitalization categories could there have been?

Now subtract the fees… hmmmm. Again, how would those ETFs have fared? Hey, when you buy cheap and easy, it’s usually worth it. Now if you want performance, I suggest you try real management, as opposed to Mutual Fund management… but you need to take the time to understand the process.

If you can’t understand or accept the strategy, don’t hire the manager. Mutual Funds and ETFs cannot “beat the market” (not a well thought out investment objective anyway) because both are effectively managed by investor/speculators… not by professionals.

Sure, you might find some temporary smiles in your ETFs, but only if you take your profits will the smiles last. There may be times when it makes sense to use these products to hedge against a specific risk. But stop kidding yourself every time Wall Street comes up with a new short cut to investment success.

There is no reason why all of you can’t either run your own investment portfolio, or instruct someone as to how you want it done. Every guess, every estimate, every hedge, every sector bet, and every shortcut increases portfolio risk.

Products and gimmicks are never the answer. ETFs, a combination of the two, don’t even address the question properly — AND their rising popularity has raised the risk level throughout the Stock Market. How’s that, you ask?

The demand for the individual stocks included in ETFs is raising their prices without having anything to do with company fundamentals.

What’s in your portfolio?

How will ETFs and Mutual Funds fare in the next correction?

Are YOU ready.

Brave Old World: Market Cycle Investment Management

July 14, 2015 Steve Selengut

The Market Cycle Investment Management (MCIM) methodology is the sum of all the strategies, procedures, controls, and guidelines explained and illustrated in the “The Brainwashing of the American Investor” — the Greatest Investment Story Never Told.

Most investors, and many investment professionals, choose their securities, run their portfolios, and base their decisions on the emotional energy they pick up on the Internet, in media sound bytes, and through the product offerings of Wall Street institutions. They move cyclically from fear to greed and back again, most often gyrating in precisely the wrong direction, at or near precisely the wrong time.

MCIM combines risk minimization, asset allocation, equity trading, investment grade value stock investing, and “base income” generation in an environment which recognizes and embraces the reality of cycles. It attempts to take advantage of both “fear and greed” decision-making by others, using a disciplined, patient, and common sense process.

This methodology thrives on the cyclical nature of markets, interest rates, and economies — and the political, social, and natural events that trigger changes in cyclical direction. Little weight is given to the short-term movement of market indices and averages, or to the idea that the calendar year is the playing field for the investment “game”.

Interestingly, the cycles themselves prove the irrelevance of calendar year analysis, and a little extra volatility throws Modern Portfolio Theory into a tailspin. No market index or average can reflect the content of YOUR unique portfolio of securities.

The MCIM methodology is not a market timing device, but its disciplines will force managers to add equities during corrections and to take profits enthusiastically during rallies. As a natural (and planned) affect, equity bucket “smart cash” levels will increase during upward cycles, and decrease as buying opportunities increase during downward cycles.

MCIM managers make no attempt to pick market bottoms or tops, and strict rules apply to both buying and selling disciplines.

NOTE: All of these rules are covered in detail in “The Brainwashing of the American Investor” .

Managing an MCIM portfolio requires disciplined attention to rules that minimize the risks of investing. Stocks are selected from a universe of Investment Grade Value Stocks… under 400 that are mostly large cap, multi-national, profitable, dividend paying, NYSE companies.

LIVE INTERVIEW – Investment Management expert Steve Selengut Discusses MCIM Strategies – LIVE INTERVIEW

Income securities (at least 30% of portfolios), include actively managed, closed-end funds (CEFs), investing in corporate, federal, and municipal fixed income securities, income paying real estate, energy royalties, tax exempt securities, etc. Multi level, and speculation heavy funds are avoided, and most have long term distribution histories.

No open end Mutual Funds, index derivatives, hedge funds, or futures betting mechanisms are allowed inside any MCIM portfolio.

All securities must generate regular income to qualify, and no security is ever permitted to become too large of a holding. Diversification is a major concern on an industry, or sector, level, but global diversification is a given with IGVSI companies.

Risk Minimization, The Essence of Market Cycle Investment Management

Risk is compounded by ignorance, multiplied by gimmickry, and exacerbated by emotion. It is halved with education, ameliorated with cost-based asset allocation, and managed with disciplined: selection quality, diversification, and income rules— The QDI. (Read that again… often.)

Risk minimization requires the identification of what’s inside a portfolio. Risk control requires daily decision-making. Risk management requires security selection from a universe of securities that meet a known set of qualitative standards.

The Market Cycle Investment Management methodology helps to minimize financial risk:

It creates an intellectual “fire wall” that precludes you from investing in excessively speculative products and processes.
It focuses your decision making with clear rules for security selection, purchase price criteria, and profit-taking guidelines.
Cost based asset allocation keeps you goal focused while constantly increasing your base income.
It keeps poor diversification from creeping into your portfolio and eliminates unproductive assets in a rational manner.

Strategic Investment Mixology – Creating The Holy Grail Cocktail

July 11, 2015 Steve Selengut

So what do your Investment Manager and your neighborhood bartender have in common, other than the probability that you spend more time with the latter during market corrections?

Antoine Tedesco, in his “The History of Cocktails“, lists three things that mixologists consider important to understand when making a cocktail: 1) the base spirit, which gives the drink its main flavor; 2) the mixer or modifier, which blends well with the main spirit but does not overpower it; and 3) the flavoring, which brings it all together.

Similarly, your Investment Manager needs to: 1) put together a portfolio that is based on your financial situation, goals, and plans, providing both a sense of direction and a framework for decision making; 2) use a well defined and consistent investment methodology that fits well with the plan without leading it in tangential directions; and 3) exercise experienced judgment in the day-to-day decision making that brings the whole thing together and makes it grow.

Tedesco explains that: new cocktails are the result of experimentation and curiosity; they reflect the moods of society; and they change rapidly as both bartenders and their customers seek out new and different concoctions to popularize. The popularity of most newbies is fleeting; the reign of the old stalwarts is history — with the exception, perhaps, of “Goat’s Delight” and “Hoptoad”. But, rest assured, the “Old Tom Martini” is here to stay!

It’s likely that many of the products, derivatives, funds, and fairy tales that emanate from Modern Portfolio Theory (MPT) were thrown together over “ti many martunies” at Bobby Van’s or Cipriani’s, and just like alcohol, the addictive products created in lower Manhattan have led many a Hummer load of speculators down the Holland tubes.

The financial products of the day are themselves, created by the mood of society. The “Wizards” experiment tirelessly; the customers’ search for the Holy Grail cocktail is never ending. Curiosity kills too many retirement “cats”.

Investment portfolio mixology doesn’t take place in the smiley faced environment that brought us the Cosmo and the Kamikaze, but putting an investment cocktail together without the risk of addictive speculations, or bad after- tastes, is a valuable talent worth finding or developing for yourself. The starting point should be a trip to portfolio-tending school, where the following courses of study are included in the Investment Mixology Program:

Understanding Investment Securities: Investment securities can be divided into two major classes that make the planning exercise called asset allocation relatively straightforward. The purpose of the equity class is to generate profits in the form of capital gains. Income securities are expected to produce a predictable and stable cash flow in the form of dividends, interest, royalties, rents, etc.

All investment securities involve both financial and market risk, but risk can be minimized with appropriate diversification disciplines and sensible selection criteria. Still, regardless of your skills in selection and diversification, all securities will fluctuate in market price and should be expected to do so with semi-predictable, cyclical regularity.

Planning Securities Decisions: There are three basic decision processes that require guideline development and procedural disciplines: what to buy and when; when to sell and what; and what to hold on to and why.

Market Cycle Investment Management: Most portfolio market values are influenced by the semi-predictable movements of several inter-related cycles: interest rates, the IGVSI, the US economy, and the world economy. The cycles themselves will be influenced by Mother Nature, politics, and other short-term concerns and disruptions.

Performance Evaluation: Historically, Peak-to-Peak analysis was most popular for judging the performance of individual and mutual fund growth in market value because it could be separately applied to the long-term cyclical movement of both classes of investment security. More recently, short-term fluctuations in the DJIA and S & P 500 are being used as performance benchmarks to fan the emotional fear and greed of most market participants.

Information Filtering: It’s important to limit information inputs, and to develop filters and synthesizers that simplify decision-making. What to listen to, and what to allow into the decision making process is part of the experienced manager’s skill set. There is too much information out there, mostly self-motivated, to deal with in the time allowed.

Wall Street investment mixologists promote a cocktail that has broad popular appeal but which typically creates an unpleasant aftertaste in the form of bursting bubbles, market crashes, and shareholder lawsuits. Many of the most creative financial nightclubs have been fined by regulators and beaten up by angry mobs with terminal pocketbook cramps.

The problem is that mass produced concoctions include mixers that overwhelm and obscure the base spirits of the investment portfolio: quality, diversification, and income.

There are four conceptual ingredients that you need to siphon out of your investment cocktail, and one that must be replaced with something less “modern-portfolio-theoryesque”:

1) Considering market value alone when analyzing performance ignores the cyclical nature of the securities markets and the world economy.

2) Using indices and averages as benchmarks for evaluating your performance ignores both the asset allocation of your portfolio and the purpose of the securities you’ve selected.

3) Using the calendar year as a measuring device reduces the investment process to short-term speculation, ignores financial cycles, increases emotional volatility in markets, and guarantees that you will be unhappy with whatever strategy or methodology you employ —most of the time.

4) Buying any type or class of security, commodity, index, or contract at historically high prices and selling high quality companies or debt obligations for losses during cyclical corrections eventually causes hair loss and shortness of breath.

And the one ingredient to replace: Modern Portfolio Theory (the heartbeat of ETF cocktails) with the much more realistic Working Capital Model (operating system of Market Cycle Investment Management).

Cheers!