What to do with an extra $70,000 to fund retirement

A MoneySense reader writes:

My 79-year-old mother received a gift of $70,000. She currently collects OAS and GIS but not CPP. 

I’d like her to do something with the $70,000 to generate interest or income—or even to have a plan to draw it down. And whatever option is chosen needs to be risk-free, as she is very risk-averse. 

The interest on a GIC is negligible. Is an annuity a better option? Or is the $70,000 simply not enough to do anything with? 

FPAC responds:

Although this question may sound simple, it provides a great example of how complex retirement income planning can be. It sounds as though your goal is to find a solution that provides income to supplement your mother’s standard of living while she is alive, versus creating a financial legacy upon her passing. 

FP Canada projections tell us that, at 79, a Canadian woman in good health has about a 50% chance of living to age 92, but a 10% chance of living eight more years beyond that, to age 100. 

As a starting point to anchor our calculations, let’s say your mother wanted to withdraw $450 per month from her $70,000. Ignoring any interest she might earn, that would provide 155.6 months (13 years) of income, to her age 92—that is, to average life expectancy. 

The GIC option

In today’s ultra-low interest-rate environment, the GIC is a solution that’s intended to preserve capital, versus generate income. 

If your mother put the $70,000 in a one-year GIC, with a rate of 1.5%, she might earn about $1,050 (equal to $87.50 per month), and the $70,000 would remain untouched. She could get a higher rate—as much as 1.8%—if she bought a five-year GIC, but she’d need to wait until the end of the five years to get the $6,531 she earned over the GIC term (equal to $108.85 per month). You can check current GIC rates here. Keep in mind that if she’s able to put the $70,000 into her TFSA, none of the interest she receives would be taxable. The yearly interest is also unlikely to keep pace with inflation.  

The annuity option

Another option would be to use the funds to buy a prescribed annuity. A prescribed annuity is designed to generate income for your mother while she’s alive—but doesn’t preserve the capital used to generate the income. Instead, the $70,000 would be transferred to a life insurance company in exchange for monthly lifetime income. 

Using the average of the top three quotes from Cannex.com generated on Feb. 21, 2021, a prescribed annuity would pay her $465 per month ($5,580 per year), only $12.34 ($148.08 per year) of which would be taxable. (The payments from prescribed annuities purchased at advanced ages are largely non-taxable, as the most of the monthly income is treated as “return of capital” for tax purposes.)

You can see that the annuity option pays an amount that’s roughly similar to withdrawing $450 per month from the $70,000 lump sum. This isn’t surprising, as annuities are designed to provide income to average life expectancy, while also continuing to pay if you live beyond average life expectancy. That’s why annuities are known as “longevity insurance”—they protect your income in the event you live longer than the average. In this case, the annuity pays considerably more than leaving the funds in a GIC. 

Comparing guarantees

You say your mother is very risk-averse. Both the annuity and the GIC are guaranteed options—the principal of the GIC is guaranteed by CDIC and the annuity is guaranteed by Assuris

Which is the optimal solution?

The right choice for your mother will be the one that most closely matches her goals. 

  • If she’d like to maximize the income from the $70,000 during her lifetime, then a prescribed annuity seems like the better choice. 
  • If her goal, on the other hand, is to preserve the $70,000 so it’s available to be spent or to leave as an inheritance for a loved one or charitable cause, the GIC may be the better option. 
  • A third option would be to “take her chances” and withdraw a monthly amount from the lump sum without investing it in a GIC or purchasing an annuity—perhaps by using a High-Interest Savings Account (check rates here).  

In your mother’s case, if she’s in good health (relative to her peers), she thinks she might live longer than the average for people like her, and she is less concerned about using the gifted funds to leave a financial legacy than using them to provide current income, a prescribed annuity might be a worthwhile course of action.

This response was provided by FPAC Member Alexandra Macqueen, CFP®. Alexandra lives and writes about personal finance in Toronto. Follow her on Twitter at @Moneygal.

Qualified Advice is written by members of FPAC (Financial Planning Association of Canada) is a MoneySense content partner. The association’s goal is to set standards and principles that will allow financial planning to evolve into a knowledge-based profession that ultimately commands the credibility, public awareness and respect of other respected advisory professions, working closely with governments, regulators, financial planners, academia, vendors and the general public.

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