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Things to know
Job: Sally has worked at three small to medium size ad agencies since entering the workforce at 23. She’s even managed to put her math major to good use by becoming her team’s analytics guru. Sally’s seen her salary climb steadily over the last three years by an average of about 10%. She’s hoping to jump into a team lead role within the next year or two, which she assumes would come with a substantial pay hike.
Hobbies: Sally considers herself to be very active. She has a standard gym membership and also plays in a weekly soccer league. Most weekends she goes out to bars and restaurants (of varying fanciness) with her friends. Sally loves to travel and usually tries to take at least one cool vacation every year.
Financial confessions: Generally, Sally is pretty pleased with her budgeting skills but feels slightly guilty about buying lunch every day. She’s also become accustomed to spending around $175 every other month when she goes to get her hair dyed and cut.
Sally’s made almost zero plans for retirement. She opened an RSP last year but quickly lost interest and stopped contributing. She regularly contributes to her TFSA but draws from it every year for her vacations.
By the numbers
|After-tax monthly income||$3500|
|Gym and sports||$90|
|Clothing, beauty etc.||$250|
Financial goals and dreams:
- Roommate: not wanted – Sally’s top priority is to move out of her apartment because she’s tired of living with her roommate. Ideally she’d like to get her own 1-bedroom condo.
- Losing interest in debt – Sally has been slowly chipping away at her student debt. She’s not really in a rush to get rid of it, but would like to pay it off by 35 if possible.
- New year, new wheels! – Sally’s been driving her mom’s old sedan since she got out of university and thinks she might like to lease something new and less embarrassing.
- Asian adventure! – Sally wants to take a one-month trip through Asia with her best friend before they turn 30. They estimate this will cost at least $5k each. It would also require taking at least one extra week unpaid vacation from work.
- Free at 55? – Sally assumes she’ll be able to retire in her mid 50s (isn’t that just what people do?) but has no plan to accomplish this.
– With Lyn Greer, Certified Financial Planner
Q: Now this is a little different from our university student Felix’s situation. Sally seems to be pretty good at handling her money. Do you agree?
A: Oh yes, Sally has a really good financial base. She has a good income and seems to be on pace to make even more in the future. Plus she has a monthly budget surplus, which is very good.
Q: So where do you see room for improvement?
A: I think Sally can be hugely successful but she needs to focus her money towards her goals. She’s also at the point in her life where she needs to start accumulating wealth. I think she should start by saving a minimum of 10% of her income in long-term investments for her retirement.
Q: Would that 10% of her income be before or after taxes?
A: Ideally that would be 10% of her gross pay (before deductions like taxes). But I always tell people to do whichever they can afford, if that means saving 10% of your net income instead then that’s fine too. They key is to start the automatic savings habit.
Q: So assuming Sally is on board, where would you recommend she invest the 10% of her income?
A: She needs investments that will stand the test of time and earn her a decent return. I’d recommend she invest in a mutual fund.
Q: Okay embarrassing question time… Lyn, what’s a mutual fund?
A: There’s no reason to be embarrassed! A lot of people don’t understand concepts like mutual funds at first.
Think of it this way, as a new investor Sally could probably only afford to buy one or two stocks because stocks of major corporations can be quite expensive. But this would be a risky strategy because she would be putting all her eggs in one basket. She could make a lot of money or she could lose a lot of money.
However, a mutual fund is like a “basket of goods” that can contain any combination of stocks, bonds, T-bills and even cash. The reason an average person like Sally is able to invest in a mutual fund is because everyone who invests in a certain mutual fund is basically pooling their money together. There are mutual funds created for all different risk levels, so Sally would be able to choose a fund that she is comfortable with.
Q: So how would Sally invest in a mutual fund?
A: Well what I would suggest is that she invests in a mutual fund through her tax-free savings account (TFSA). A lot of people think of a TFSA as just a savings account, but I actually think it could be the retirement tool of the future. Within her TFSA Sally could have a cash account for her vacation expenses, but also have a mutual fund account for her long-term savings. That way she can match her investments to her goals.
Q: So what else would you recommend for Sally?
A: I would tell Sally to accelerate the payments on her student loan. I know she says she’d like to pay it off by age 35, but that regular $220 monthly payment is money she could be using for her other goals.
Q: But where would she find the money to increase her payments?
A: Well if she’s putting $300 per month into her TFSA for travel that may be more than she needs. She could divert some of those monthly savings towards her student loan to pay it off faster. She could also use a portion of her current TFSA balance to reduce the student loan now.
Q: Wait a second, which is it? Should she pay off her student debt or invest in a mutual fund?
A: Well it’s tricky. Let’s assume the interest rate on her student debt is 6%. So if Sally were to invest in a mutual fund instead of paying off her student debt it would only make sense to do so if the mutual fund will return at least 6%.
She’d probably have to talk it over with a financial planner and crunch the numbers. But between paying student debt and long-term investing, I usually recommend doing a bit of both.
Q: Let’s talk a bit about Sally’s goals. Is that 1-month trip through Asia possible?
A: Yes, when it comes to things like trips I usually say do it while you can because you don’t want to live with regret later. If she can afford the trip and it’s a top priority for her then she should build it into her financial plan.
Q: Another one of Sally’s priorities is moving out on her own into a condo. With real estate prices booming in many of Canada’s major cities, is buying a condo even realistic for Sally?
A: I know it’s tough for young people to buy their first home these days. But if you’re planning to live somewhere for a long time, there is an argument to be made for getting your foot in the door.
Also if Sally is serious about buying, then she might want to invest in her RRSP to help her save for her down payment.
Q: Can you explain how that would work?
A: Sure. Let’s go over some numbers. Since Sally makes $55,000, her marginal tax rate in Ontario is 31% (these rates differ by province across Canada). This means if she contributes $10,000 to her RRSP she’ll get 31% ($3,100) of that amount back when she does her tax return.
As a first time homebuyer, Sally would be able to take money out of her RRSP without being penalized. If she decides to use the Home Buyers Plan to withdraw the $10,000 from her RRSP she’ll have that money plus the $3,100 to use for a down payment. So she would have $13,100 instead of the original $10,000. She would be required to pay this $10,000 back to her RRSP over 15 years.
Q: Any other tips when it comes to home-buying?
A: When Sally is getting closer to buying a home she should get pre-approved for a mortgage right away so she can “lock-in” a rate and find out how much she can borrow.
She’ll be able to secure this rate for up to four months. This means if mortgage rates go down in that four-month period she’ll get the better rate, but if they go up then she’ll keep the rate she locked-in for.
Q: Time for the big question. Sally thinks she’ll be able to retire in her fifties. Is retirement at 55 even still a thing?
A: Oh I think it’s very real! If you understand that debt is bad and you spend less than you make, it can be achieved. Especially if you don’t increase spending at the same rate your income increases. Also, a lot depends on how much money you plan to spend in retirement. Do you want to garden or travel? It all depends on who you are. Then you need to plan accordingly. Sally seems like the travelling type!
Q: Great, so let’s talk dollars! How much will she have to save to make this happen?
A: Every situation is different but there are some tools Sally can use to help figure this out. For example, I have a retirement calculator on my website (Link).
Let’s assume she needs $40,000 per year (today’s dollars) to spend for every year she will be retired (assume 40 years). With inflation, that $40,000 translates into Sally needing $91,000 for every year of retirement in “future dollars”. This means she’ll need 1.3 million dollars saved if she wants to retire at 55.
A: Sally has 28 more years to work before she turns 55 and she’s currently only saved $900 in her RRSP. Basically this means she will need to save $1,500 per month to retire at 55, assuming a 6% growth rate on her investments.
Q: $1,500 per month!? Lyn, you’re scaring Sally. I thought you said retirement at 55 was possible??
A: Well you never know with a person like Sally because her income will be increasing over the years to come. That’s why I say retirement at 55 is still possible. A lot depends on her earning potential and how much she spends.
Honestly, that’s the problem with asking for a “magic” age of when someone will be able to retire. Sally’s earnings and expenses will be changing constantly as her life changes. But if she always saves at least 10% of her income and spends less than she makes, things could turn out well for her!
Final recommendations for Sally:
- Accelerate payments on her student loan
- Start saving a minimum of 10% in long-term investments (mutual funds in a TFSA or RRSP)
- Continue to grow her “emergency” savings. Try to have 3-6 months worth of expenses in liquid cash
Lyn’s Bio: Lyn Greer is a Chartered Accountant and independent Certified Financial Planner with Investment Planning Counsel in Richmond Hill, Ontario. She is a past member of IPC’s National Advisory Board and has also volunteered on the Financial Standards Planning Council. Lyn’s specialty is in comprehensive tax planning which is a key focus of her wealth management approach, alongside cash flow analysis, disciplined savings, insurance, and estate planning. You can contact Lyn or learn more at The Greer Team’s official website.
Eric has an extensive background in content marketing and professional writing. He loves to write about personal finance and life insurance issues for the Lifenotes blog because he enjoys the challenge of making complicated topics fun for readers! Eric also covers community outreach initiatives.
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