It’s a decision that many couples face with the arrival of their first child—whether both parents will continue working or whether one will stay at home with the child.And financial planners are in a position to provide valuable guidance to clients who are considering such a move.
It would require careful planning. “But people often make life-changing decisions like these with less planning than they do for a weekend vacation,” said Brian Wood, investment sales manager at BMO Financial Group in Halifax.
If one parent is in a low-income bracket, it may make financial sense for that parent to stay at home, at least until the all the children are in school, Wood noted. “With daycare costs running around $700 to $800 a month per child here in Halifax, transportation and parking costs, dry cleaning bills and eating out, you would have to earn a substantial income to come out ahead.
“But child-care costs may drop dramatically after the children are in school to about $200 a month for after-school programs,” he added.
If the couple decides to have one parent at home, the spouses will need to know exactly how much the family income will be reduced, taking into account the maternity and parental benefits that parent might be eligible to receive during the first year. “Then the parents will need to determine what the family’s living expenses are, and whether the working parent’s salary will cover them,” said Todd Sigurdson, tax and estate-planning specialist at Investors Group in Winnipeg.
They will also have to decide at the outset how the family income will be divided. “This is family income, not the working spouse’s money,” Sigurdson noted. “The stay-at-home parent will need money for incidentals and gifts.”
And before one parent leaves the workforce, the couple should amass an emergency fund of six months’ after-tax income, he added.
There are many long-term considerations to think about before leaving a job.
The working parent may lose his job, which will mean loss of family income, and the pension and health benefits that were provided by the employer. “That’s where the emergency reserve comes in,” Sigurdson said. “That money should be kept in a tax-free savings account so it can be accessed without tax consequences.”
“The couple may also want to look at private insurance to cover prescription drugs and dental work,” he added.
Illness and disability
Critical illness and disability insurance can protect a family should health problems or accidents take the designated working parent out of the workforce. “Couples should make sure that the stay-at-home parent is also insured,” Sigurdson said. “Child care and housekeeping services will have to be arranged if that parent can no longer perform these duties.”
Life insurance benefits can go a long way in replacing income in the event of the death of the working parent. And Sigurdson recommended planning to use life insurance benefits to pay off the mortgage on the family home instead of mortgage insurance, which will often cover a certain percentage of the mortgage upon the death of the policyholder. “The mortgage insurance policy’s premiums will remain static even though the amount of the mortgage will be reduced over time,” he said. “However, the life insurance policy’s death benefit will remain the same. And, again, the stay-at-home parent’s life should also be insured as money would be needed for child care and housekeeping expenses in the event of his or her death.”
“You can’t insure against divorce, but you can make it easier if it happens. And divorce does happen,” noted Nancy McKenzie, founder and president of Yellow Raincoat Benefits Consultants in Calgary. “The two chief factors contributing to divorce are children and money. When there are both children and money problems, you have a double whammy. But I tell couples that the biggest financial planning mistake they can make is getting divorced.”
Returning to work
Children grow up, and the couple needs to consider how difficult the barrier to re-entering the workforce will be after several years at home. The stay-at-home parent may find that his or her work skills are out of date. “That parent needs to ensure that her technology skills are current, and she needs to keep up with the industry or profession she plans to return to,” added McKenzie. “That may mean taking courses and keeping up the continuing education credits that are required to maintain licences or designations. She also needs to keep up her social relationships.”
In addition to living expenses, families who plan to live on one salary will need to put money aside for their children’s education. “Registered Education Savings Plans are the starting point,” Sigurdson said. The federal government will add 20%, or an annual maximum of $500, to annual contributions to an RESP for an eligible beneficiary until the year the beneficiary turns 17. And, depending on the family’s income, the beneficiary may also be eligible to receive the additional Canada Education Savings Grant that will add an additional 10% or 20% to the federal grant.
Living on one income can undermine the couple’s retirement income. The stay-at-home spouse will not be able to contribute to the Canada or Quebec Pension Plan. And he or she may not be able to contribute to a Registered Retirement Savings Plan.
A good financial plan is the key to successfully raising a family, whether or not a parent stays at home, McKenzie said. “And the financial plan should be in place before the children arrive. Before having children arrive, the spouses can separate their money, but that becomes very difficult to do with children in the family. Their lives will also change from a time perspective, as well as a money perspective – who does what in the family. Maternity classes should have a financial component, and a component on communication between spouses.”
Communication between spouses is essential to ensure that the family follows the financial plan that has been agreed on. “The parents both need to be working on the same page,” McKenzie said. “They need to run the family like a business, and that means knowing where they want the family to be in 10 years. The working parent needs to be supportive of the stay-at-home parent’s efforts to further her education and keep up her CE credits if the plan calls for her to return to the workforce in five years. It scares me when I see that one spouse hasn’t a clue about what the other spouse is thinking – or planning.”
Retirement planning is another area in which both spouses need to be aligned. “Families need to have a retirement plan, even when they’re having babies,” McKenzie said. “Early contributions can make a huge difference to a couple’s retirement savings. A percentage of the family’s income should go to the stay-at-home parent’s retirement savings, and spousal RRSPs are a good way of doing this.” The working spouse who makes the contribution will receive the tax deduction and if the funds are withdrawn when the stay-at-home spouse is still in a low tax bracket, they will be taxed at a lower tax rate.
To make the RRSP contributions, she added, “the couple may have to cut back on non-essentials such as golf-club memberships, vacations and eating out. It’s important to keep the end goal top of mind.”