Financial Planning For Couples: Protecting What You Have

Insurance is one of those expenses we all hate to pay for, but we are very glad we have it if we ever have to make a claim. Auto insurance is a necessity for all drivers and if you have a mortgage on your house, home owner’s insurance is a requirement by your lender. All other types of insurance are optional, but now that you are a family – even if it’s only the two of you, it’s necessary to have a discussion about your protection.

Review your current insurance coverage

Review your policies – homeowner’s or renter’s, and auto for appropriate coverage and ensure you are not under-insured. Make sure you have enough coverage to protect your household goods, especially items that typically have limited coverage such as jewelry, collectibles and electronics. Save money by combining your policies and negotiate, negotiate, negotiate for the best rates.

Proper Insurance To Protect Your Assets

If both of you work and are covered by insurance plans through your employer, co-ordinate your benefits and look for duplicate coverage. Which plan will be the most beneficial? Figure out if joining a spouse’s medical or dental plan offers better coverage and/or pricing. If one of you has a good policy with a deductible, the other may be able to choose a “top-up” plan through their employer.

Life insurance

Life insurance is used to replace lost income on the unfortunate death of a spouse. Replacing that lost income is crucial in helping to keep your financial house in order. Your family must be properly taken care of so as not to suffer financially. Furthermore, any debts, especially your mortgage, can be paid off.

If someone else is relying on your income you need protection in place. If a stay-at-home parent were to die there would still be financial challenges. You would need to pay someone to care for your young children and manage the house while you are working.

The key is to get the right kind of insurance. Start by doing a needs analysis with your insurance broker. Your priority is to get the right kind of insurance that will provide adequate coverage at a reasonable rate. For most young families this is term life, especially if you are young and healthy and willing to commit to a specified time frame.

Is your employer’s group life insurance plan the best for you? What happens if you switch jobs later on? There is the possibility you’ll have to pay higher premiums as you get older. It may be more cost effective to opt-out of your group plan and replace it with a 20-year term policy with fixed premiums.

Another option, permanent life insurance policies are designed to last the lifetime of the insured and eventually pay out a benefit. They have a savings component commonly known as cash value, but these policies are much more expensive.

How much coverage do you need? You want enough life insurance coverage to ensure that your family is taken care of. For a couple, a good rule of thumb if you are both working is to replace anywhere from 5-10 years’ worth of your respective salaries. If you are a sole income provider, life insurance should comprise at least 70-75% of the replacement value of your annual income for the number of years you plan to continue working.

Disability insurance

Your largest asset is your future income-producing ability. This makes disability insurance the most important coverage you can get when you have a family, but it is often overlooked because people simply don’t perceive the risk of becoming disabled.

If you work for a large company, long-term disability insurance is probably part of your benefits package. But if you work for a smaller company, or are self-employed, you should purchase this coverage on your own.

Coverage differs among plans. Typically, if you suffer from an accident or disease that prevents you from working, the plan will pay you a percentage of your monthly income until you return to work or reach age 65. You can be covered for either “any occupation” or (more desirable) “own occupation.” Make sure you fully understand the policy, renewal, waiting periods, and most important, its definition of a disability.

How much disability insurance do you need? Look for a policy that covers at least 60% of your pay.

Keep in mind that payments from a private plan are tax-free, but payments from most employer plans is taxable.

Estate planning

Yes, you do need a will – even if you are just starting to accumulate assets.

Consider these steps:

  • Draw up a list of all your assets and liabilities.
  • Decide on how you would like your assets to be distributed in the event of your death and do up a list. You and your spouse may want to do separate lists and then compare notes and come to an agreement.
  • Select an executor or trustee (trust company) of your will.
  • Decide on a guardian for your young children. This is obviously a very important decision and great care should be taken with the selection.
  • Consult a lawyer to draw up your will.
  • Review your will whenever you experience major changes in your life.

Be sure to review the beneficiary designations on your RRSP, TFSA and insurance policies. You can designate those assets in your will, but keeping beneficiary information up to date is the easiest way to ensure that those assets transition smoothly to your spouse.

Further reading in the Financial Planning for Couples series:

The Next Tax Bracket Myth

Let’s bust a myth about working overtime. Some employees wrongly believe that when earnings from overtime, a bonus, or salary increase pushes them into another tax bracket they’ll actually take home less on their paycheque than before.

Some employees even refuse to work overtime because they believe they’ll pay more taxes and earn less money in the end.

I’m sure you’ve all heard of the next tax bracket myth.

The Next Tax Bracket Myth

Here’s an example. An employee makes $40/hour and works 37.5 hours per week for 50 weeks per year. That works out to $75,000 per year before taxes.

Living in Alberta this employee pays $16,818 in taxes and takes home $58,182 after-tax for an average tax rate of 22.42 percent and a marginal tax rate of 30.50 percent.

The marginal tax rate is important because it’s the amount of tax paid on an additional dollar of income.

Here’s where the next tax bracket myth comes into play.

The employee is asked to work 25 hours per month of overtime and earn time-and-a-half for those hours – or $60 per hour. Over the course of a year the employee earns an additional $18,000, pushing their total salary earned to $93,000.

How does this affect the amount of taxes paid? Let’s take a look:

The employee now pays $22,442 in taxes for the year but takes home $70,558 – an increase of more than $12,300. The average tax rate is 24.13 percent while the marginal tax rate has jumped to 36 percent.

Problems with overtime earnings occur depending on how much tax the employer withholds at the source. This can work one of two ways:

  1. Source deductions are applied as if the employee remains at an average tax rate of 22.42 percent. The employee earned an additional $1,500 from overtime work but the employer only withheld $336.36 in taxes. This results in more money in the employee’s pocket every month; however there will be a large tax-bill of approximately $1,600 owing at tax time, resulting in an unhappy employee.
  2. Payroll can, however, withhold a greater amount of tax at the source in the case of a bonus or overtime earnings. For this example let’s say the employer withholds 36 percent of the overtime wages, or $540 per month in taxes.

The employee is upset because $1,500 in overtime earnings resulted in just $960 in additional take-home pay. Extrapolate these deductions over 12 months and the employee pays $23,298 in taxes.

The good news is that the employee gets an $856 refund at tax time.

Origin of the next tax bracket myth

My gut feeling is that the second scenario is more common and employees see more taxes deducted at the source when they work overtime or get a bonus.

Related: 5 myths about insurance

Some back-of-the-napkin math shows that the employee’s actual hourly rate for the overtime worked was just $38.40 (before the tax refund).

Employees might look at that and think picking up overtime is not worthwhile because they’ll earn less than their regular hourly rate after taxes. Enter the next tax bracket myth.

But this is simply not true. You can’t take the after-tax hourly rate and measure it against a pre-tax hourly rate. You have to compare apples-to-apples.

The employee’s regular hourly rate after taxes is $31.03. The actual overtime hourly rate is $41.25. Sure, it’s not exactly time-and-a-half. But the employee is clearly making more money working overtime regardless of the shift into the next tax bracket.

Final thoughts

Some people are confused about the difference between their average tax rate and marginal tax rate. Your average tax rate is simply the amount of tax paid divided by your income.

Related: 9 money myths experts wish you’d stop believing

Since Canada has a progressive tax system your average tax rate will always be lower than your marginal tax rate.

So just because a raise or another source of income bumps you into the next tax bracket doesn’t mean ALL of your income is now taxed at that rate.

Consider this myth busted

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