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Saving For Retirement – What Is Your Equilibrium Point?

By: Fred Vettese
July 2010

Worried about whether you’re saving enough for retirement? You may not be doing as badly as you think. The retirement crisis has been overblown because we have done a poor job of defining a suitable retirement income target and then compounded it by ignoring certain types of assets that can be turned into income. The question we will address here is, how much do upper income Canadians really need to save for retirement?

Defining the retirement income target

Your retirement income target depends on the standard of living you want in retirement. Few Canadians expect it to be higher than when they were working, but there are exceptions. Career employees in public sector pension plans, for instance, can expect a higher standard of living in retirement, but that is topic for another day. Saving For RetirementMost of us would be happy if we could simply maintain our lifestyle after retirement. To get us there, it is helpful to define an ‘Equilibrium Point.’

A person’s Equilibrium Point (EP) is the level percentage of pay that one needs to save in order to achieve the same disposable income in retirement as that person enjoyed immediately before retirement. For the purpose of calculating the EP, retirement income includes OAS and GIS (known as Pillar 1) and C/QPP (Pillar 2), plus tax-assisted savings from RRSPs, DPSPs and registered pension plans (Pillar 3). Disposable income is net of certain expenses that usually vanish by retirement, but, again, more on that later.

EP is affected by the investment return on savings – the higher the return, the lower the EP. Retiring at a later age also lowers the EP. Other factors that affect the EP include annuity rates, longevity, and length of the accumulation period. Finally, the EP depends on whether one is a homeowner and on the composition of the family unit. Everyone should know their EP and should monitor it regularly because it will change as circumstances change.

You Don’t Need 70 Per Cent

The good news is that if you are a mid-to-high earner, your retirement income target – and hence your EP – are probably lower than you think. For over a generation, Canadians have been told that they need retirement income equal to 70 per cent of final earnings. For higher earners ($80,000 and up), 70 per cent is not even close to being right. A simple example (below) will show that the true percentage is much lower.

In our example below, we will assume a one-earner couple with two children, a home, and household income of $120,000 at the point of retirement.

Most Canadians have certain expenses during their working years that usually drop off by retirement. In the case of this particular couple, those specific pre-retirement expenses would look something like this:

Expenses Specific to Pre-Retirement (Annual)

CPP & EI deductions *


Retirement saving @12% *


Child-related expenses


Employment expenses


Mortgage payments




* Net of income tax refunds

These expenses are reasonable to the point of being modest. For instance, the Vanier Institute reports the annual cost of raising a child to be about $9,000 a year but it could be a lot more if private schools, summer camps, and vacations come into the picture Similarly, mortgage payments of $24,000 represent just 20 per cent of income whereas the banks don’t start getting concerned until those payments reach 30 per cent. As a result, this family has about as much disposable income as any family earning $120,000 and they certainly would be doing better than the average Canadian family.

Yet, if you deduct the $57,700 in specific expenses from gross earnings, their disposable earnings amount to $62,300 which is just 52 per cent of their gross earnings. That’s right. Once you set aside money for specific pre-retirement expenses, they are living on just 52 per cent of gross earnings. It follows that this couple should be able to maintain the same standard of living in retirement with income equal to 52 per cent of final earnings.

Admittedly, this analysis is somewhat simplified. For instance, tax effects are not taken into account (and by the way, those tax effects would modestly reduce the retirement income target). Fortunately, a more scientific study was conducted for the working group that was commissioned for the Finance Ministers meeting in Whitehorse last fall. In his ‘Report for the Research Working Group on Retirement Income Adequacy,’Keith Horner confirmed that the retirement income target is close to 50 per cent for a home-owning couple at this earnings level. Let’s agree then that we can put the myth of the 70 per cent retirement income target behind us.

In the above example, the couple’s Equilibrium Point happens to be 12 per cent. In other words, if they save 12 per cent a year over 35 years in an RRSP, they would have retirement income, starting at age 62 equal to their pre-retirement disposable income. If they had participated in a registered pension plan, their EP would have been lower again.

Assumptions used to calculate the BP



Real return on invested assets


Pay increases


Number of years of saving for retirement


Post-retirement inflation protection

50% of CPI

Interest underlying annuity purchase (before inflation protection)


While it is heartening to know that the retirement target is a lot closer to 50 per cent than 70 per cent, it is still no easy matter to save 12 per cent of earnings each year for 35 years. Most Canadians save less than this, even at higher income levels. Does that mean the couple in our example is headed for trouble if they don’t quite get to 12 per cent? Not necessarily, thanks to Pillar 4 assets.

Pillar 4

We defined the Equilibrium Point in terms of the income one can derive from the three pillars of Canada’s retirement income system. In fact, there is a fourth pillar which also needs to be taken into account. Pillar 4 is too often ignored in retirement planning, yet it is the X-factor that bails out many Canadians who otherwise would find themselves falling short of their retirement goals.

Pillar 4 is a catch-all for the various types of assets that are not part of a government scheme or a tax-assisted retirement vehicle. Included are after-tax securities and savings (such as stocks or bank accounts), home ownership, part-time employment following retirement, rental income, and inheritances. Are these sources significant? A publication by the Department of Finance shows that Pillar 4 assets are more than double all of the assets in Pillar 3 combined. We shouldn’t ignore them in our retirement planning.

Of course, Pillar 4 assets will vary from one household to another, but most people at this income level will have some. For instance, if our couple downsized their home at retirement to move to a condo and pocketed $200,000 in the process, this windfall would reduce their BP from 12 per cent to 10 per cent. If they bought a reverse-mortgage on their home, the BP would reduce even further.

The bottom line is that it is right to worry about saving for retirement, but the prospects for most Canadians are not as bleak as we are led to believe. To borrow a phrase from the bank commercial, “You’re richer than you think.”

Fred Vettese is the chief actuary at Morneau Sobeco.


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