ADMS 2541 Homework 2 F 2019 Stephen La plans to save $2,000 p.a. every year for 20 years. At the end of the 20 years he will convert his savings to an ordinary annuity that pays an equal amount at the end of each year for the next 10 years. The annuity interest rate is 4% p.a. His marginal tax rate during the first 20 years will be 40%. His marginal tax rate during the 10 years when he is receiving the annuity will be 25%. He has three possible plans for the account he saves the money in. Plan 1 He deposits the money into an RRSP. He deposits the tax refund amount into a TFSA Both accounts earn 4% interest for the entire 20 years. Assume the deposit into the RRSP and the tax refund deposit into the TFSA occur at the end of the year. Plan 2 He deposits the money into a TFSA at the end of every year. The taxation of the annuity income when it is funded with the money from the TFSA is complicated. You would pay tax only on the interest portion of each payment during the 10 years. If you want to try for a perfect mark on this assignment, you can do that calculation Otherwise, assume that he pays no tax on the annuity. Plan 3 He deposits the money into an unregistered (taxable) account and invests it in a portfolio of common shares that pay no dividends at the end of every year. The value of the shares grows at 6% p.a. for 20 years. At the end of 20 years he sells all the shares and pays the tax owing, at a marginal tax rate of 40%. Then he buys the 10 year annuity. As in Plan 2, only the interest portion of each payment is taxable Don't bother trying to calculate the tax in Plan 3. Assume there is no tax on the annuity Required What is the amount of the annuity after-tax under each of the three plans? What does this tell you about the best way to save for retirement and why? ADMS 2541 Homework 2 F 2019 Stephen La plans to save $2,000 p.a. every year for 20 years. At the end of the 20 years he will convert his savings to an ordinary annuity that pays an equal amount at the end of each year for the next 10 years. The annuity interest rate is 4% p.a. His marginal tax rate during the first 20 years will be 40%. His marginal tax rate during the 10 years when he is receiving the annuity will be 25%. He has three possible plans for the account he saves the money in. Plan 1 He deposits the money into an RRSP. He deposits the tax refund amount into a TFSA Both accounts earn 4% interest for the entire 20 years. Assume the deposit into the RRSP and the tax refund deposit into the TFSA occur at the end of the year. Plan 2 He deposits the money into a TFSA at the end of every year. The taxation of the annuity income when it is funded with the money from the TFSA is complicated. You would pay tax only on the interest portion of each payment during the 10 years. If you want to try for a perfect mark on this assignment, you can do that calculation Otherwise, assume that he pays no tax on the annuity. Plan 3 He deposits the money into an unregistered (taxable) account and invests it in a portfolio of common shares that pay no dividends at the end of every year. The value of the shares grows at 6% p.a. for 20 years. At the end of 20 years he sells all the shares and pays the tax owing, at a marginal tax rate of 40%. Then he buys the 10 year annuity. As in Plan 2, only the interest portion of each payment is taxable Don't bother trying to calculate the tax in Plan 3. Assume there is no tax on the annuity Required What is the amount of the annuity after-tax under each of the three plans? What does this tell you about the best way to save for retirement and why
