It’s RRSP season and there are only a couple of weeks left to invest some cash to reduce your taxable income for 2017. Many people are looking for advice on how to spend any extra funds. With the rush to invest prior to the March 31st deadline (in Canada), more than a slew of advice hits the fan. Some of it’s good, some of it quite bad. The question is, what’s good for you?
YOU are in charge of YOUR finances. Just like Mike Holmes says YOU’re responsible for doing the research for your home, same thing for your investments. You can get help with a financial advisor. But even financial advisors come in many different shapes and sizes. Some are more inclined to represent you, the client, others, say those working for a bank are biased to offer their bank investments.
Usually, basic financial advice will come regardless of whom advises you (and where they’re from). Some advocate borrowing to max out your RRSPs. The idea is to not only save taxes now, but also maximize future return. It’s a great idea if money is cheap (which it is now) AND you’re focussed enough to repay your short term loan.
Others suggest paying off credit card debt before even looking at investments. Possibly a good idea but if you’re in credit card trouble you’re probably routinely in that mix. Forgoing any form of retirement savings is a BAD idea. The more money you fail to put in early will mean significant, exponentially in fact, less money when you retire.
Remember, TIME is the key to increasing your nest egg. The more time your investments have to grow the more money you’ll make in the form of compounding interest. TIME will ensure you can retire with more cash (and even retire at all). To NOT invest in your early 20s is to forgo CRUCIAL earning years later in life. If you start investing in RRSPs when you’re 40 you will make significantly less even if you accrue over 15% returns annually.
If you use an RRSP as a primary vehicle to get out of paying more taxes then you’ve completely missed the point. RRSPs reduce taxable income in the year they’re used, but they also accrue interest throughout its life until you cash in. (You pay tax again in the future when you withdraw, and at that point the point is you’ll withdraw in a lower tax bracket, assuming taxes don’t go up significantly.)
You’re supposed to be treating RRSP’s as your retirement savings. For most, in order to maintain your current lifestyle you’ll need millions of dollars upon retirement. (Couple that with the fact we live longer and will need more money due to inflation.) That means your RRSPs shouldn’t be put into something like a GIC or some kind of low bearing interest instrument, as your RRSPs should be invested for a longer period of time.
So what about TFSAs? How are they in the mix? You can use the same investment instruments under a RRSP or TFSA. The trick is the balance between reducing taxable income this year (RRSP) and investing into a un-taxable account like the TFSA.
Best case scenario is use both. Pay less taxes today and also invest in your TFSA. Your balance will be determined by your goals.
But let’s go back to the initial question, what should you pay first? Credit card debt or investments?
Credit cards charge huge amounts of interest. If you’re stuck in a situation where you’re constantly paying off CC debt then you have a fundamental SPENDING problem and will never be able to reach financial freedom because of your inability to be responsible with your money. It’s sobering, but the warning is necessary.
“The message should be: First pay down your debt. Most consumer debt (like credit cards) have very high-interest rates, much higher than any return in the market if you were to invest your money instead of paying down debt. When you go ahead and try to save for retirement when you’re saddled with debt, you are skipping steps,”
This is true, however, fundamentally what needs to change are spending habits. You MUST save not ‘try‘ to save for your retirement. There is no chance that the next generation will be able to rely on a company pension (if one even exists) or government help to live above the poverty line. It’s CRUCIAL to save tomorrow or you’ll be picketing at 70 for more money to live and buy meds when in reality it was your job to ensure your own financial safety.
Save for your future. DO what needs to be done to eliminate all credit card debt, focus on a balance between your TFSA and RRSPs, come out ahead when you retire. Remember, the single most important factor to your investments is the elements of TIME.
Time is the most important factor because it’s in the last years of your investments that you’ll have your greatest earning years from your investments. Compound interest will increase on an increasing curve in the latter years.
That means if you’re young there is NO REASON to invest long-term investments in low and safe investment instruments. RRSPs for a young 20 something should never be in a balanced or GIC fund. Focus on the higher risk but long-term reward of equity funds.
When you’re getting up in years you unfortunately lose out on the benefit of growing investments from compound interest. You’ll also want to hedge your bets by putting your savings into more secure and less volatile investments like the aforementioned GICs and balanced funds.
The conclusion is quite simple. Young people must control spending AND invest for their future TODAY. Earlier is unequivocally better thus control your finances so the money you could be putting away for your retirement doesn’t go to your new Wii and jeans. Anybody who mentions something else isn’t looking out for your best interests.
If you don’t believe it then sit down, take out a piece of paper and decide what the best case scenario for your investments will leave you with at age 65. Calculate all expected expenses for that time over a monthly period and divide it out. Many people will be alarmed to find out they’ll have to work till they’re 80 before they can retire comfortably.
Some prudent decisions today to maintain a basic quality of life tomorrow. That’s what’s at stake.