Example of Daniel, who Makes his own Calculations and Adjusts his Planning

Daniel is 55 years old and wants to stop working at age 65. To prepare himself, he looked at how much income he will need when he retires and estimated the income he will receive. Daniel has no workplace pension plan, but he took into account how much he has already saved and how much he should be receiving from the Québec Pension Plan and the Old Age Security program.

Surprise: he is missing $140 000!

Once he got over the disappointment, he noticed that by saving $8000 a year for the next 10 years, he would reach his goal. You are thinking that $8000 multiplied by 10, does not give $140 000. That is true, but let's see how Daniel will make it happen.

First, by making his budget and by cutting back on certain expenses, Daniel managed to find the $8000 a year he needs. The fact that he has just finished paying his house helps him reach his goal.

Then, he invests the $8000 by setting aside $308, every two weeks, in an RRSP, which includes mutual funds. That is what his advisor recommended so that his money can gain value on a long-term basis. He could have also chosen exchange-traded funds to pay less management fees. If you do not know what that is, consult the How to make money thanks to your savings? web page in the "Mid-career" section.

When Daniel files his income tax return, he will enter that he contributed $8000 to his RRSP and will receive a refund of $2888. As you may already know, the tax refund varies according to the marginal income tax rate that applies to the total income for the year. In Daniel's case, he earned $70 000 that year, therefore his salary is taxed at a marginal rate of 36.1% by the Québec and Canadian governments. By contributing to his RRSP, he will have reduced by $8000 the income on which he pays taxes. Therefore, his tax refund of $2888 will be calculated by multiplying $8000 by 36.1%.

When he turns 65, if he did that every year and reinvested his tax refunds at a rate of 5%, Daniel will have saved about $140 000. He will have reached his goal in 10 years!

If we summarize the three keys of his strategy:

• he invested his savings in an RRSP, that is, an amount of $80 000;
• he saved his tax refunds instead of spending them, which gave him $28 880 more;
• because he invested all those amounts, he accrued an additional $31 120.

In total, he will have earned about $60 000 in addition to the $80 000 that he had at the beginning! It will have taken him a lot of effort to successfully accumulate the money he needed, but thanks to that strategy, he will be able to pay for his retirement as he wishes, when the time is right!