For millions of Canadians, work is a necessary evil. Sure, they enjoy their jobs, but they’d rather spend their time doing other things.
These folks would love to retire but just don’t know if they can afford it. Nobody wants to be 80 years old and out of money, begging their kids for a handout or a spare room.
While every situation is different and nobody can truly know if they can afford to retire without doing a long analysis of the numbers, I think people who have achieved these three big financial milestones can afford to hang up the proverbial skates, no matter how old they are.
Let’s take a closer look at these three important pre-retirement milestones.
Mortgage free
I’m the first to argue the average Canadian homeowner should be much more interested in putting their excess cash to work in the stock market, rather than paying off their home.
The math here is simple. Most mortgages have an interest rate in the 2.5-3.5% range. You can do better than that on dividends alone. Any capital gains are just a bonus.
In 2019, the TSX Composite Index returned more than 22% including reinvested dividends. Imagine missing out on that to pay down a 3% mortgage.
But at the same time, I completely understand the logic of paying off your mortgage, especially as you get into the home stretch. It frees up a significant amount of cash flow. And nothing feels better than knowing the bank can never come and take your house away.
A paid-off house also creates a safety net. If things don’t work out the way you planned, the house can always be sold and the proceeds invested in income-generating assets. Selling a property in an expensive real estate market and moving to a cheaper one can be an easy way to put some serious cash in your pocket, too.
Passive income to meet your expenses
This might seem insurmountable, but getting enough passive income to meet your expenses isn’t that hard.
The first thing you must remember is most people see their expenses go down in retirement. Remember, you’ll no longer have to commute to work, maintain a business-casual wardrobe, or save for retirement. Your taxes will also likely fall significantly.
All these combine into some serious savings. I’ve seen people easily survive on half their pre-retirement income, and I believe you’ll have enough for the retirement of your dreams if you simply replace today’s salary with passive income.
In other words, if your family spends $100,000 per year today, I think a reasonable retirement can easily be had with $60,000 to $75,000 in passive income.
A backup plan
Sometimes, retirement doesn’t work out quite the way you planned. Maybe stocks take a major dip right as you’re about to quit your job. Or maybe your expenses end up much higher than anticipated because of health issues.
That’s why a backup plan is so important. You need some relief just in case things go haywire.
Selling your house is one such plan. Tapping into your kids’ planned inheritance is another. You can even work a little.
Many soon-to-be retirees have another backup plan, which is Canada Pension Plan and Old Age Security payments. They plan to retire on their passive income alone, and then the extra cash received from the government acts as a buffer. It can be reinvested when times are good and then spent when needed.
These backup sources of income can really add up. Between you and your spouse, they could easily equal $30,000 each year.
The bottom line
Retirement is an extremely big decision. The last thing you want is to run out of money prematurely.
One of the big issues with retirement is, you’ll never know with 100% certainty you’ll have enough. But if you have a paid-off house, enough passive income, and a backup plan, I really like your chances, no matter how old you are.
