Let’s be blunt, you can likely sum up personal finance into a few principles:
Pay yourself first.
Spend less than you make. You can add in “invest the difference” if you really want to.
The golden rule of personal finance is easy to understand but actually hard to implement consistently over many years for many reasons. Life throws some curves at you, things change and your financial plan needs to change with it. In general though if you can get a handle on investing that difference I mentioned above then you might be questioning how you should invest the difference. Based on my readings and experiences over the years I’ll provide a few more personal finance rules below; consider those rules in the silver and bronze variety after you follow the golden rule of paying yourself first.
1. Debt (general)
- Kill high-interest debt first (i.e., credit card debt, loans).
2. Debt (mortgage)
- Mortgage prepayments are a guaranteed rate of return. You can kill debt while doing #3, saving.
- Consider savings to maximize registered accounts (Tax Free Savings Accounts (TFSA), Registered Retirement Savings Plan (RRSP), and Registered Education Savings Plan (RESP)) before non-registered accounts.
- Once debt repayments are done and all registered accounts are maxed out consider investing in a non-registered account.
- Wherever possible, in whatever the account, keep your money management fees as low as possible for as long as possible (i.e., avoid pricey financial products and people who promote them).
- On the subject of tax-efficiency consider this approach:
Tax-efficient Canadian content
- Keep Canadian dividend paying stocks like Bell Canada, Royal Bank, Enbridge and many more in non-registered accounts (to take advantage of the dividend tax credit).
- Keep Canadian Real Estate Investment Trusts (REITs) like RioCan, H&R REIT, Calloway and more in registered accounts (to avoid tax computations associated with income distributions, return of capital and other income).
- Keep Canadian bonds or bond ETFs like VSB, XBB and more in registered accounts (since interest income earned is taxed at full rates and is not a tax-efficient source of investment income).
- Keep Canadian broad market Exchange Traded Funds (ETFs) like XIU, XIC, VCN and more in registered accounts (for long-term tax-free (TFSA) or tax-deferred (RRSP) growth).
Tax-efficient U.S. and International content
- Keep U.S.-listed dividend paying stocks like Johnson & Johnson, Coca-Cola, Wells Fargo and many more in your RRSP (to avoid a 15% withholding tax on dividends paid to foreign investors).
- Keep U.S.-listed ETFs like Vanguard’s VTI and more in your U.S. dollar RRSP (again, to avoid U.S. withholding taxes).
Putting U.S.-listed stocks and U.S.-listed ETFs inside your TFSA withholding taxes will apply (15%) and you can’t get that money back. Worse still, a U.S.-listed ETF that holds international stocks has another tax applied. You can read more here about withholding taxes in this excellent PWL Capital white paper here.
Spend less than you make, invest wisely then have lots of fun with money that is leftover. The golden rule of personal finance is your starting point but there are many more good rules to follow thereafter.
What saving and investing rules do you follow and why?
Live on less than you have coming in, and learn how to invest the rest… By invest I mean grow the rest. Time will take care of the rest… pretty simple recipe, no magic involved, just patience and commitment – Cheers.
Well said Phil. So, we need that beer eh?
Yes we do!. i will e-mail you shortly, to try again… 🙂 – Cheers
I love how you cut through the complication and boil things down to their essence like this Mark. So simple and easy to understand. I completely agree with you although I am surprised you fell on the pay of your mortgage before investing side of things in a low interest rate environment.
I’m on the fence on that one because it is hard to say no to the guaranteed, risk-free, tax-free return you get when paying off debt. The average stock market return numbers say you should invest, especially if it is done in a TFSA and maybe an RRSP, but I still think it is largely personal choice. It’s so hard to compare no-risk vs risk scenarios.
Thanks Stephen, I’m trying to write more in a plain language no nonsense approach…I hope it’s working?
If you have a massive amount of debt, I don’t think it makes sense to invest too much since most of your income is servicing debt. When the mortgage is at a reasonable level, i.e., you could keep your house if you lost your job for many months, then I think it’s time to invest vs. mortgage paydowns.
At least this is our plan. House rich and asset poor is not a good recipe.
The average stock market return numbers only work long-term, i.e, over 5 or 10-year periods. As people in the States will tell you, if you have a fat sub-prime mortgage and you lose your job in 2008-2009, living will get tough.
Nice read. Thanks for summerizing.
Here’s a favourite of mine: a dollar saved is more valuable than a dollar earned.
Agree with you on all items you listed but one – the mortgage. I have a mortgage at 3.5%!
Why would I spend money on paying extra payments, when if I invest that extra money I can make more in dividends (my portfolio dividend yield is 4.8% as of today) or trading options I can make in average 2% – 3% monthly! Why wasting cash paying off the mortgage then?
It would make sense if your interest is higher than what you can make with that money, such as credit cards, you probably won’t make more than 20% annually so, yes, pay those off, but not mortgage.
I think it depends what your mortgage is Martin, meaning, how far in debt you are. A $100k mortgage at 3.5%? I’d focus on investing as well. A $200K mortgage, I’d be putting lump sum payments on the debt. I don’t think being debt-free is wasting cash, it’s a guaranteed investment!
Don’t worry, I prefer to investing over mortgage prepayments now but if there is any cash leftover, it goes on the debt for sure.
I still disagree with you. Your savings and money you would make would allow you to pay off your mortgage faster later out of your savings. But again all this works only if you can make more money saving or investing than your mortgage. A good book on this is a Missed Fortune where the author describes that when saving rather than paying off the mortgage, you will be better off.
That’s a good summary Mark. I’m with Barry, if someone offers your free money, take it!
For sure! Where is the free money again?
Right now, I’m still focusing to pay all my debts. I’m still very naive when it comes to investing, so I can say that I will just focus on saving.
yeah, part of me is against the TFSA bump to 11K simply because I would feel obligated to fill it each year! 11 K after taxes is a lot to try to come up with each year by myself!
Then again, I guess that’s yearly price of a car so as long as I stay car-less then maybe it won’t be so bad.
Cars are another wealth destroyer so stay away from them as long as you can 😉
I think paying down a mortgage beyond any potential correction (say 30%) in this low interest rate environment is not optimal but saving one way or another is rarely a choice that falls into the ‘bad’ category.
I see your point none but as you say, “saving” is rarely a bad thing to do regardless how you are doing it.
I know – I think people forcus on the small things too much i.e chasing MER rather than just focusing on savings rate. I still find it a bit depressing the fact that if I’m willing to live on 10,000 less per year I don’t have to save 200K. Yeesh, that’s a lot of cheddar.
Like the owning versus rent debate, it’s not so much about absolutes but rather cash flows. Renting results in a loss of xxx per month compared to owning costing xxx per month. I’d have a pretty hard time justifying the flow argument in favour of paying off a mortgage but that’s just happy renter me anyway 🙂
I’d like to change what I said before. In this low rate environment I think one should pay off 65% of ones mortgage and then just pay the interest. That way if a large correction occurs (30%) you’re CMHC is still covered at renewal time.
Anyway, no one is going to listen to me anyway! I don’t even own a house! 🙂
I wouldn’t worry about owning a house, it’s a major expense!!!
As you well know, because I know you’re versed on this stuff, a high savings rate will trump a high MER fund any day.
It is depressing to need to save $200k or I figure, about $1M to live off of about $30k per year but such is life…we keep saving.
We’re working on our mortgage, but will likely “ease up” on payments after we renew and plow as much as we can into the $11k TFSA room next year. That’s saving almost $2,000 per month. That would be crazy good if we can do that.
Thanks for the comments man.
Adding one of my favourite rules.
If someone offers you free money, take it! (Pensions, RRSP matching, stock plans, government grants)
Fair point Barry. I was thinking in this post about things you have direct control over but if folks want to give you money, for sure, take it!
I certainly don’t mind that rule whatsoever.
With tax filing season here, you’d especially want to make sure you are claiming all the tax credits that you’re eligible for, otherwise you’re missing out on free money.
What I always say is “save on whatever you can to spend on whatever you want”.
Basically it’s the same thing but said in different words 🙂
I agree. Save first, put away some money and have fun with that is leftover. You gotta live!
Don’t spend the principal, spend whatever it is producing. Or better yet, don’t spend whatever it’s producing, re-invest it, and spend what’s produced after.
This is out game plan Underdog; spend the money the capital makes, and not the capital. This won’t happen until retirement though.
You missed one – “increase your income” or “make more money” or “diversify your income”. Something along those lines.
Solid point Glenn. Save more or earn more but still you need to spend less than you make.