Transcript Current Trends and Issues in Financial Planning

Current Trends and Issues in
Financial Planning
2007 Edition
Roxanne Eszes, CFP
Cleartech Documentation & Training
[email protected]
2007 Edition CE Course
 Over 140 pages of new material
 Consolidates new developments in one place
 Covers a wide range of topics across the CFP
syllabus
 Qualifies for 12 CE hours with exam
 20 question M/C exam
– circle responses on answer sheet (optional)
– go online at www.cifps.ca to submit answers
– obtain a score of 12 out of 20
Course Highlights
Professional Practice Update
– FPSC Competency Profile
– ISO Standards for Financial Planning
More Course Highlights
 Economic Update
– Review of Canada’s economic framework
– Recent Canadian economic developments
– External influences
– Overseas economic developments
– Risks to Canada’s economic outlook
More Course Highlights
Personal Finance Update
– Recent statistics on consumer
spending
– Statistics on current trends in
inflation, mortgage rates, bond yields,
etc.
More Course Highlights
Personal Finance Update
– Residential Mortgages
• Interest-only mortgages
• 30, 35 and 40-year mortgages
• High-ratio mortgages
More Course Highlights
Income Tax Update
– Federal personal income tax
parameters for 2007
– Synopsis of proposals from Budget
2007 the Tax Fairness Plan (October
2006) of interest to CFPs
More Course Highlights
 Some general tax changes include:
– Working income tax benefit for low-income
Canadians
– Tax measures for persons with disabilities
– Charitable donations to private foundations
– Registered Education Savings Plans
– Elementary and secondary school
scholarships
More Course Highlights
More general tax changes
– Child tax credit
– Public transit tax credit
– Lifetime Capital Gains Exemption
– Children’s Fitness Tax Credit
– Changing CCA rates
– Reducing general corporate tax rate
More Course Highlights
Retirement Planning Update
– Enhanced age credit
– Pension splitting
– Phased retirement
– Age limits for maturing RRSPs and
RPPs
– RRSP qualified investments
More Course Highlights
Retirement Planning Update
– Life Income Funds
• Minimum and maximum withdrawals
Annuitization requirements
– Unlocking Pension Funds
– Ending Mandatory Retirement
More Course Highlights
 Investment Planning Update
– Income Trusts
• Enhanced dividend tax credit
• Taxation of income trusts and other flow-through
entities (e.g., partnerships)
– Systematic Withdrawal Plans
• Regular SWPs
• T-funds
• Guaranteed Minimum Withdrawal Benefits
(GMWBs)
Today’s Presentation
Residential mortgages
RESPs
RDSPs, CDSGs, CDSBs
Pension Splitting
Systematic Withdrawal Plans
Housing Prices
Location
2002 Price
2007 Price 5-year
Increase
Vancouver
$360,000
$630,000
75%
Calgary (west) $196,000
$545,000
178%
Regina
$110,000
$167,000
52%
Mississauga
$265,000
$329,000
24%
Montreal (St.
$175,000
$265,000
51%
$172,000
$222,000
29%
(north)
Laurent)
Halifax
Mortgage Industry Response
Interest-only mortgages
Longer amortization periods
New mortgage insurance policies
Interest-only Mortgages: The
Basics
Low monthly payments for a period
of time (usually 5 to 10 years)
Homeowner must qualify at the
higher principal plus interest
payment level
Example
Linda has $200,000 mortgage:
– at 5.5% amortized over 25 years
payments would be $1,228 /month
– Interest-only would be $917 /month
– “Savings” of $311 /month
– Her ability to qualify would be based
on payments of $1,228 per month
Interest-only Mortgages: Risks
 What if market declines?
– Asset value could decline but
amount owing doesn’t
change, even after paying
thousands in interest
– With interest-only mortgage,
Linda would pay interest of
$55,000 over the five years,
but would still owe $200,000
– With standard 25-year
amortization and P&I
payments, mortgage balance
would be $178,000
After the Interest-only Period
 Converts to a standard mortgage, with
balance of amortization
– 5 years interest only, then 20 year
amortization
– 10 years interest only, then 15 year
amortization
 This could result in 50% increase in
payments (Example: $200,000 at 5.5%
over 20 years  $1,376, compared to
interest-only of $917)
Who Offers Them?
So far, not the big banks
Available through mortgage
brokerage firms
Who Uses Them?
 Most suited for high net-worth real
estate investors
 Interest expense on investment property
is deductible, interest expense on
personal property is not
 Not really suitable for first-time
homebuyers
 Possible exception of young
professional couples with one person on
temporary leave for school or children,
and in rising house market
30, 35 and 40-year Mortgages
Allow people to
– Enter housing market earlier
– Reduce their monthly payments to
free up cash flow
– Make the same level of payments, but
buy a more expensive home
Downsides of Longer Amortization
Expensive!
Delays that point in time where
mortgage is paid off and the client
can divert surplus income to other
financial objectives
Payments could continue on into
retirement
Ex: Linda with $200,000 at 5.5%
Amortization
Monthly
Payment
$
Total
Interest
$
Total Cost
$
% of
Purchase
Price
15 years
1,634
94,151
294,151
147%
20 years
1,376
130,185
330,185
165%
25 years
1,228
168,451
368,451
184%
30 years
1,136
208,809
408,809
204%
35 years
1,074
245,721
445,721
223%
40 years
1,032
271,449
471,449
236%
Who Offers Them?
Some of the big banks through
mortgage brokers
Other financial institutions like
Wells Fargo and ING Direct
Who Uses Them?
 Young new
homeowners are
attracted because
they seem
affordable…but they
need to be made
aware of the costs!
 More suitable for
real estate investors
who can deduct the
interest expense
High-ratio Mortgages
 Homeowners without the required down
payment (used to be 25%) are required
to buy mortgage insurance
 Approximately 40% of all new home
purchasers fell into this category in
September 2006
 Banking legislation in November 2006
reduced the required down payment to
avoid insurance to 20%
Mortgage Insurance Providers
CMHC used to be the sole provider
Now at least 4 others, and this has
led to competition, innovative
structures and reduced premiums
Introduction of risk-based pricing
– premiums used to be based on size of
loan
– now credit history is being factored in
Mortgage Insurance Surcharges
Longer Amortization Periods
– 0.20% on 30-year amortizations
– 0.40% on 35-year amortizations
Interest-only Mortgages
– 0.25% for a 5-year interest-only period
– 0.50% for a 10-year interest-only
period
Mortgage Strategies to Stress
 Don’t necessarily max out on the preapproved amount
 Try to avoid mortgage insurance by
having the minimum 20% down payment
 Choose the shortest amortization period
affordable
 Try to make extra lump-sum payments of
10% to 20% as terms permit
 Choose twice a month or bi-weekly
payments over monthly payments
RESP Proposals
$4,000 annual
RESP
contribution
limit will be
eliminated
Lifetime limit of
$42,000 will be
increased to
$50,000
What this Means…
Parents who have neglected RESPs
can still contribute the maximum
even if child is only a few years
away from school
– not ideal, because less time for
compounding
– at least the income will be tax
sheltered, and taxed in the hands of
the student
CESG Proposals
New CESG room each year will
increase from $2,000 to $2,500
Lifetime CESG limit of $7,200 is
unchanged
Maximum annual grant is $500 (20%
of $2,500), or up to $1,000 if the
beneficiary has sufficient carry
forward room
What this Means…
 Parents who haven’t taken advantage of
CESGs can catch-up more quickly
 Lifetime CESG limit of $7,200 requires
contributions of $36,000
– CESG only payable on the first $5,000 each
year (assuming contribution room)
– To take maximum advantage of CESG, start
no later than the year child turns 10, spread
the $36,000 over 8 years, with max
contribution in any one year of $5,000
RESPs for Adults
 Adults who plan to return to school can
make annual contributions or a lumpsum deposit totaling $50,000
 Investment income will be sheltered
 EAPs taxable during school, when
marginal rate is lower
– EAPs payable are limited to $5,000 before
the individual has completed 13-weeks of
full-time consecutive study (or $2,500 for
each part-time semester)
Registered Disability Savings Plan
(RDSP)
 Tax-sheltered savings plan for persons
eligible for the DTC
 Designed like RESPs
 Can be established by DTC-eligible
person, or their parent or guardian
 DTC-eligible individual is the beneficiary
 Available in 2008
RDSP Contribution Limits
No annual limit
Lifetime limit of $200,000 for the
beneficiary
No restrictions on who can
contribute
Contributions permitted until
beneficiary turns 59 (end of year)
Canada Disability Savings Grant
(CDSGs)
 Government matches contributions to
RDSPs
Family Net Income
Up to $74,357
Over $74,357
300% on first $500
100$ on first $1,000
annually
annually
200% on next $1,000
annually
CDSGs, continued
Lifetime limit of $70,000 per
beneficiary
Can receive CDSGs until the end of
the year that the beneficiary turns
49 years of age
There is no carry forward of CDSG
room, so contributions should be
spread over time
Canada Disability Savings Bond
(CDSB)
 CDSB of up to $1,000 will be paid annually to
RDSP of a low or modest-income beneficiary
 CDSBs are not contingent on contributions
 Maximum CDSB paid when family net income
does not exceed $20,883
 Phased out for incomes between $20,883 &
$37,178
 Lifetime limit of $20,000 of CDSBs per
beneficiary
 Payable until age 49
Tax Treatment
 Contributions are not tax deductible
 Investment income accrues tax free
while in plan
 When beneficiary makes RDSP
withdrawal, the taxable portion includes:
– investment income
– CDSGs and CDSBs
– NOT contributions
Payments from an RDSP
 Must start by age 60 (end of year)
 Maximum withdrawals (details yet to be
specified)
 Contributors cannot receive a refund of
contributions, only beneficiary may
benefit
 Repayments of CDSGs and CDSBs (and
associated income) may be required
upon death or cessation of disability
Pension Splitting/Eligible Pension
Income
 Tax Fairness Plan of October 31, 2006
proposed sharing of up to 50% of
eligible pension income
 Decision to share must be done
annually, it is not automatic
 Both spouses must consent
 May have to plan to create eligible
pension income
 Eligible pension income does not
include CPP or OAS benefits
Eligible Pension Income Before 65
 Life annuity payments from an RPP
 Full amount of annuity payments from
an RRSP, RRIF or DPSP, but only if the
payments are a result of death of
taxpayer’s previous spouse, and
taxpayer has remarried
 Income component of unregistered
annuity payments, under same
conditions as above
 Only planning opportunity is perhaps to
take early retirement under RPP
Eligible Pension Income After 65
 Term or life annuity payments from a
registered pension plan (RPP)
 Creation Opportunities
– Payments from a term or life annuity
purchased with funds from an RRSP or
DPSP
– Withdrawals from a RRIF, LIF or LRIF
– Income element of an unregistered annuity
payment
Systematic Withdrawal Plans
(SWPs)
Regular SWPs involve a systematic
redemption of mutual fund units
Investor can change withdrawals as
needed
Redemption can result in capital
gains
– 50% taxable outside of registered plan
– 100% taxable if coming out of RRSP
T-Funds
 T-version of mutual fund or T-SWPs
 Distributes a pre-determined % of assets
each year
 Distribution % is set by company, not
investor
 Distribution % does not equal return
 Some companies allow customization of
cash flow by switching between T-Fund
and non-T-fund
Taxation of T-Funds
 A large portion of each distribution is a
return of capital (tax efficient)
 Reduces ACB
 Increases capital gain upon disposition
(deferral until then)
 Distribution in excess of return of capital
retains character as interest, dividends,
capital gains
More Taxation of T-Funds
 Advantages are lost within RRSP
because 100% of distributions are
taxable
 Return of capital is not income for
purpose of calculating OAS clawback
 Great choice for charitable giving
because capital gains inclusion rate is
0%
Guaranteed Minimum Withdrawal
Benefits (GMWBs)
Insurance version of T-funds
A segregated fund with a
guaranteed income stream, instead
of maturity guarantee
Guaranteed 5% a year for 20 years
Deferral bonus of 5% a year for up
to 10 years
– Could increase distributions by 50%
GMWBs, continued
Three-year reset to lock in growth
Withdrawals in excess of the 5%
will reduce future guaranteed
payments
Death benefit guarantees still apply
(75% or 100%)
GMWBs, continued
 Income is only guaranteed for 20 years,
not life
 Fees are higher than for mutual funds
– 0.25% to 0.35% more for fixed income funds
– 0.55% to 0.75% more for balanced or equity
funds
 Minimum investment is $25,000 to
$50,000
 Payments are treated as regular seg
fund redemptions
 Estate planning and creditor protection
benefits