From accumulation to ‘decumulation’: What you need to know about retiring amid diminishing returns

After decades of saving and investing your money, you’ve reached a stage in your life where you need to start planning for your finances in retirement. But with market volatility over the past year and more uncertainty ahead, switching from accumulation to “decumulation” is likely to be a challenge for many Canadians. “We’re in abnormal times,” said Alan Acton, vice-president and portfolio manager at Ottawa-based Polaris Wealth, which counts many doctors on its client roster. “Fixed-income assets have been more volatile over the last year—which is very rare and hopefully is a one-off event—and equities have performed poorly.” For those who've built a plushly-feathered nest egg may be wondering whether there is real cause for worry. Acton pointed out that diminishing assets within an investment portfolio can add up to a big loss that can be hard to recover if you’re nearing or already in retirement. For example, a $2-million portfolio that goes down 30% means a retiree who’s $600,000 poorer. And while those numbers may seem extreme, they're helpful illustrations given how rough a year 2022 was for many types of investment. The S&P/TSX Composite Index posted a negative 8.5% return, year-to-date by Dec. 30, 2022, while the tech-heavy Nasdaq Composite saw negative 33.63% return for the same period. “That’s a huge difference,” said Acton. “You can run into trouble because you’ve projected a retirement income at the $2-million level and you now only have $1.4 million.” Read: It's that time of year again - RRSPs vs TFSAs? Diversify with more fixed income Until last year, equities have been the life of the party and investors have given them pride of place in their portfolios. For those in the wealth decumulation phase, it’s a good idea to shift towards a better balance between equities and fixed-income assets, said Acton. “When you’re accumulating and stocks go down 30% that’s an advantage because you can buy more shares and wait for your investment to go up,” he said. “But flip the coin: now you’re taking money out monthly and the market can go down and the equities in your portfolio can go down very quickly. So now you have to sell a portion of your investments to cover your monthly withdrawals, which means you’re locking in your losses.” Mike Sheffar, a financial planner and partner at SPM Financial in London, Ont. said that if you’re retired or about to retire and you have one or more years’ worth of cash set aside in a rainy day fund, consider using this money instead of pulling from your portfolio. “Ideally, when markets are strong, you’re drawing down on your equity portfolio and spending dividends and capital gains, and leaving cash for market downturns,” he said. “Use your rainy day fund until the market recovers.” Use the edge of the cash wedge Indeed, Sheffar noted that one option is adopting a “cash wedge” strategy where you draw your initial retirement income from capital you’ve set aside. “If you have one or two years’ worth of capital, for example, use these rainy day assets when the market is down instead of pulling funds out of your portfolio,” he said. Time your withdrawals You can’t time the markets but you can time withdrawals from your investments to stay aligned with your retirement and wealth preservation goals, said Sheffar. When markets are strong, draw down on your equity portfolio and spend your dividends and capital gains. Leave your cash for market downturns. As well, choosing the ideal time to start collecting your Canada Pension Plan (CPP) and Old Age Security (OAS) benefits can also make a difference in your long-term retirement income. Sheffar said postponing CPP withdrawals from 65 to 75 can result in a dramatic increase in benefit payouts that would be “hard to replicate with your investments.” But Acton cautioned that making the decision to collect or defer isn't a “cut-and-dried case.” “It’s a little tricky with CPP because they use two different rates in determining pension versus deferred pension,” he said. “It really depends on the individual, which is why you need to do an analysis first before making that decision.” Read: 9 steps to reboot your financial portfolio Be tax efficient Crunch the numbers to figure out the most tax-efficient way to take out income. If, for example, your target annual income is $80,000—a figure that keeps you just below the next tax bracket—you may want to take a big chunk of that in dividends from your corporation and the rest from other sources, including your CPP and OAS, said Acton. You may also want to start reducing the tax liability from your RRSP sooner rather than later, said Sheffar. If you have a sizable RRSP portfolio and continue to accumulate investments in your holding company—and are unlikely to spend all your wealth in your lifetime—it may be better to start drawing down the RRSP rather than taking dividends and salary from the corporation. “Basically you’ll be taxed at the top rate on income no matter what,” he said. “By drawing down on your registered assets sooner, instead of waiting until 75, you’ll be reducing that pregnant tax liability you have in the estate.” Don’t wait until the last minute Sheffar said many people don’t think about decumulating until they’re one or two years away from retirement. That’s a bit late in the game—at least five years before retirement would be better. In fact, noted Acton, planning for decumulation should happen when you first start investing. “People often think only about how much they need to accumulate but don’t give much thought to how they’re going to organize their income in retirement,” he said. “The preparation for decumulation should start right at the beginning.” Read: Charity: What doctors care about

From accumulation to ‘decumulation’: What you need to know about retiring amid diminishing returns

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