Can this family afford a home of their own?

Andrew Allentuck, The Financial Post


In Alberta, a couple we’ll call Harry, 31, and Roberta, 29, recently had a baby boy. Though they have a handful of university degrees, they have chosen to live simply. Harry supervises production in a canning plant, earning a $62,496 a year before tax. Roberta, with a background in linguistics, does occasional freelance editing for scholarly journals while being a stay-at-home mom. To save money on their $4,125 combined monthly take-home pay, they live rent-free with Harry’s parents. One day, they will buy a house, then, perhaps, have a few more children. Their problem is trying to build a middle-class life on what may always be a modest income.

The first question is whether they can afford to buy a house. On the plus side is their frugal nature. They use cloth diapers and get lots of hand-me-down clothing from Roberta’s large family. Both supported themselves in university, paid their own tuition, and graduated with no student debt.

Family Finance asked Graeme Egan, a portfolio manager and financial planner at KCM Wealth Management Inc. in Vancouver, to work with the couple. His view is that they can attain the goal of home ownership based on Harry’s cash flow and their relatively substantial net worth for their ages, $108,700.

Building up savings


If they continue to live with Harry’s parents, their monthly expenses, just $1,105, will allow them to generate $3,020 a month of savings. Harry puts $156 a month into his company’s defined-contribution pension plan and the company doubles it, adding $312 a month, for total contributions of $468. If non-RRSP savings continue to grow at the present rate, Harry and Roberta can add $36,240 a year to their savings. They already have the money for a 25% down payment on a $300,000 house, so additional savings will just make it easier to support mortgage payments and buy furnishings. A 25-year mortgage at 3.0% would cost the couple $1,064 a month.

Their son’s post-secondary education is already being financed. His parents have put $500 into the account, on top of which gifts and Canada Education Savings Grants based on the parents’ income level pushed the balance up to $1,500. But as Harry’s salary grows, the government supplements will end. The most they can expect from the Canada Education Savings Grant in the future is the lesser of $500 or 20% of contributions a year.

If they contribute $2,500 for the next 17 years and each year receive $500 from the CESG, with a 4% rate of return after 2% inflation, the RESP would have about $74,000 when Fred is ready for university. He could cover additional costs, as his parents did, with part-time and summer jobs.

Retirement planning

Even though Harry and Roberta have moderate incomes, with three decades or more to go to their retirements, they have a good chance of building up substantial retirement assets. For now, Harry has decided to allocate 40% of his RRSP portfolio to global stocks, 30% to U.S. stocks and the balance to Canadian equities.

If Harry continues to add $5,616 a year to his pension or RRSP accounts, in 36 years, when he is eligible to receive Old Age Security at age 67, his RRSPs, with a present balance of $21,000, growing at an assumed rate of 4% per year over inflation, would have a total balance of $539,400. Those funds would support payouts at the same rate indefinitely at $21,576 a year without infringing on capital. The couple would have one Old Age Security payment of $6,553 a year and at least one CPP benefit of $12,150 a year for total retirement income of about $40,300 before tax. Two years later, when Roberta is 67, another OAS benefit of $6,553 would push income up to about $46,830 before tax in 2013 dollars.

It is discipline and focus as much as how much money you earn that can make a financial outlook happy or sad

If they maintain TFSA contributions to their accounts with a present balance of $48,000, with $11,000 contributed each year and 4% annual growth after inflation, they would have a balance in 36 years of about $1,084,700. Their ability to maintain this stream of contributions is doubtful once they have a mortgage and more children. However, that balance would generate pre-tax income of $43,388 a year, giving them a final, pre-tax income of approximately $90,220 a year. After splitting pension income and paying 20% average tax, they would have $6,015 a month to spend in 2013 dollars.

Getting from the present, when Harry and Roberta are just beginning to have children, to retirement will take them from a time of high financial exposure to misfortune such as the premature death of the income-earning parent to a time of reduced risk in retirement. Harry should buy $375,000 of private term life coverage on top his company-paid term-life policy with a $125,000 death benefit for total death benefits of $500,000, the planner suggests. It would be inexpensive with premiums as low as a few hundred dollars a year.

“Time is on their side,” Mr. Egan says. “The power of investment compounding in their investment accounts and in Harry’s defined-contribution pension plan will play out nicely for them if they maintain their disciplined savings strategy after they buy a house. This analysis shows that it is discipline and focus as much as how much money you earn that can make a financial outlook happy or sad.”

Need help getting out of a financial fix? Email andrewallentuck@mts.net for a free Family Finance analysis.