BSBFIM601 Manage Finances: Health Insurance Program

John was surprised when he put it all together and realized that the budget amounted to over $63,000 for 2013  although  he  had  not  included  a  major  expenditure  for  an  unexpected  home  repair  or  new  car   purchase. And, of course, this was all before income taxes. 
 

Western’s health insurance program, considered to be one of the most generous available, covered faculty and  their  spouses  after  retirement.  Emergency  health  care  while  travelling  was  a  critical  part  of  this   coverage  and,  as  John  discovered,  opened  up  a  lot  of  adventures  that  many  others  could  not  afford because of the high cost of the health component of travel insurance. 
  
John listed his and Joan’s set of assets at current market values on December 11, 2012 as a starting point to determine what his income opportunities were, as follows: 

 Western University Registered Pension Fund          $ 1,057,000 

 Investment Accounts — Securities firm 
a) John: 75% Canadian stocks, 25% U.S. stocks   225,000 
b) Joan: 50% Canadian bonds, 50% U.S. stocks       305,000 
 Tax free savings account (TFSA)       42,000 
 Chequing account, Joint            1,075 

 Savings account, Joint         49,000 
 TOTAL              $ 1,679,075 
 

In  addition,  Joan  owned  the  cottage  in  Grand  Bend  with  an  appraised  value  of  $400,000.  Their  condo, owned jointly, was valued at about $275,000. John estimated that his Canadian and U.S. stocks paid dividends of about 3.0 per cent annually while the bonds paid interest of about 4.0 per cent on average. 
 

John  pointed  out  that  he  would  receive  Canada  Pension  Plan  (CPP)  benefits  of  about  $960  a  month  in  2013.  John  turned  65  in  2012  and  Old  Age  Security  (OAS)  payments  of  about  $500  a  month  for  John  were  possible  if  his  income  for  tax  purposes  was  less  than  $70,000.  Joan  qualified  in  2013  for  OAS  of about $250 per month.  
 
John  always  had  his  income  tax  return  prepared  by  an  accountant,  Helen  McNeil,  who  prepared  returns for a number of his colleagues. Helen advised John of the following: 

 

1. John’s pension income from Western could be split with Joan for tax purposes, in any proportion up to 50 per cent each. 
2. While the pension income that was paid out was fully taxed to John and Joan in the year it was paid out in whatever proportions they chose to allocate it to each other, the amounts earned on the balance remaining in the fund were tax free in that year. 
3. Amounts earned on their personal portfolios held by a securities firm were taxed at various rates.   Interest earned was taxed at full rates.  
 
 Dividends  paid  to  Canadians  from  foreign  corporations  were  taxed  at  full  rates  in  Canada although  taxes  deducted  by  foreign  governments  on  dividends  distributed  to  Canadians  were  deductible.  
 Capital gains — the positive difference between the selling price for an asset and its cost were taxed as follows: 

a) Only 50 per cent of a capital gain was taxed and that at full rates.  
b) If  the  investor  had  capital  losses,  he  could  carry  these  losses  back  against  taxes  paid  on capital gains for three years or carry them forward to offset against capital gains indefinitely. 
 
Helen  suggested  that  for  purposes  of  estimating  their  tax  obligations  for  planning  purposes,  they  use  a  combined federal  and provincial tax rate of 15 per cent of their combined incomes in 2013 as  a starting  point.  Using that  15  per  cent  tax  rate  and  the  budgeted  expenditures  of  $63,470,  a  before-tax  income  of $74,670 was necessary to cover budgeted costs and taxes. 

 

Western’s  Pension  Group  provided  John  with  a  schedule  prepared  by  Canada  Revenue  Agency  (CRA)  showing the minimum percentage by age category that a person must withdraw from the pension plan. In  2013, John must withdraw at least 4 per cent of the value at January 1, 2013 (see Exhibit 2). As  John  looked  over  his  existing  pension  investment  program,  he  realized  that  his  decision  today  about  how  to  invest  the  funds  was  a  much  more  serious  decision  than  in  previous  years.  Anne  gave  John  the Pension  Group’s  latest  multi-year  schedule  showing  actual  one-year,  three-year,  five-year  and  10-year rates  of  return  to  the  end  of  2011  on  the  various  funds  available  to  participants  in  the  Western  pension  fund  (see  Exhibit  3)  and  an  updated  schedule  showing  similar  rates  of  return  through  August  2012  (see Exhibit 4).  

 

John was startled to see that in 2011 the Canadian equities fund lost 10.02 per cent. In 2011, his pension fund was invested 50 per  cent in Canadian bonds that earned 9.58 per cent and 50 per cent in Canadian equities that lost 10.02 per cent, so on balance a loss of 0.44 per cent.  
 

As  John  looked  at  the  performance  of  the  various  funds  (see  Exhibits  3  and  4),  he  was  surprised  to  see that  the  various  bond  funds  had  outperformed  stocks  over  the  past  10  years  and  longer.  But,  as  Anne pointed  out,  this  was  due  to  the  fact  that  interest  rates  had  steadily  fallen  over  the  past  10  years  and  anyone  holding  long  bonds  realized  substantial  gains  as  their  bond  prices  increased.  She  gave  John  a schedule of interest rates  on Government of Canada  bonds of different  maturities over the past 10 years indicating the dramatic drop in rates to levels that were the lowest in the last century (see Exhibit 5). The major risk associated with debt issues at this time was that interest rates would rise, causing bond prices to fall and long bond prices to fall substantially. Investing in bonds with short terms to maturity with the expectation that when interest rates increased you would be ready to invest your maturing debt securities in  the  now  higher  yielding  long  bond  issues  was  thought  to  be  a  risk  averse  strategy.  

 

Anne  also  pointed  out  that  the  Canadian  dollar  had  risen  against  other  currencies,  especially  the  U.S.  dollar,  over  the  past  10  years  (see  Exhibit  6)  and  that  had  affected  the  performance  of  U.S.  stocks  and  other  foreign  issues  adversely.  John  wondered  why  he  should  be  considering  securities  denominated  in other than Canadian dollars since his costs of living were all in Canadian dollars.
 
John checked out the performance of the Toronto Stock Index and the Dow Jones Index for U.S. stocks over  the  past  12  years  and  noticed  with  some  anxiety  that  the  Dow  Jones  Index  of  New  York  Stock  Exchange  prices  had  declined  from  a  high  of  14,164  on  October  9,  2007  to  a  low  of  6,547 on  March  9, 2009. The market had almost recovered to its 2007 levels in late 2012, but the impact on his pension fund and his pension income of, say, a 40 or 50 per cent downturn when he had a significant proportion of his fund in stocks could be serious indeed (see Exhibit 7). 

 
John obtained a Moody’s communication that showed the average AAA long corporate bond rate in the U.S.  in  December  2012  was  3.75  per  cent.  Moody’s  is  a  bond  rating  agency  and  “AAA”  is  the  highest  rating with the ratings dropping to AA and A, BBB to B, CCC to C and down. A drop in rating indicates greater risk that the issuer will be able to make the required interest and principal repayments on the issue. Interest rates go up as the rating goes down. 

 
John  and  Joan’s  investment  adviser  suggested  to  them  that  there  were  a  number  of  other  investment options  to  consider,  including  Exchange  Traded  Funds  (ETF’s),  put  and  call  options  and  other  trading  strategies that they could use to affect risk. He gave them some reading material describing these options. 

 

Prepare a comprehensive long-term investment strategy and financial plan for the client. An Investment Policy Statement (IPS) is not mandatory but may help you with your thought process. For simplicity, assume an exchange rate of $1 CAD=$1 US Criteria Governing the Plan

1. The plan must enable the Gilberts to cover their budgeted annual expenditures.

2. The plan must incorporate inflation into the budgeted annual outlays.

3. The plan must provide for their annual expenditures over their remaining lifetimes.

4. The plan must include effective tax planning.

5. The plan must explicitly include risk.

6. The plan should include any wishes for bequests to the two children or anyone else.