Finances | Financial Crooks

I mentioned in a previous article that I think most people need a $5000 (or more) cash emergency fund. If someone has no other savings, they may as well keep that $5000 in a TFSA daily interest savings account. Once they have more money saved than they can contribute to their Tax Free Savings Account, they should consider keeping the emergency fund cash in a regular daily interest savings account and use the TFSA room to invest for longer term goals. Here are a few options for how someone might want to start investing using their TFSA.

When Will I Recommend My Teens Use Their TFSA Room to Invest?

My children are not eligible for TFSAs yet. You have to be 18 (19 in at least one province) to have any TFSA contribution room.

When my eldest child turns 18, I’ll suggest that first they put the maximum contribution amount for their first year into their TFSA in a daily interest savings account. Right now, that maximum contribution is $5500 per year although it might be slightly higher due to inflation when they turn 18.

The second year, though, I’ll be recommending something else. I’ll be recommending that they invest some of their money in their TFSA.

Using a TFSA to Invest for “The Future”

I think that everyone needs to save for their future. As someone who is closer to retirement than to starting out, I am very, very, very glad I started saving for my retirement as soon as I graduated from university. Those savings have really grown since.

Now many people will balk at saving for retirement in their 20s (or teens!). Fine. It doesn’t *have* to be for retirement. Consider it as saving vaguely “for the future.” Maybe it will be for a wedding, an unexpected very important choice, a home, or early retirement at, say, 40. Any of those things will be easier with savings. So don’t get too worried about labeling exactly for what the money is to be used. Just save it!

I read The Wealthy Barber before the year 2000, and I agree with one of its suggestions: you need to save by “paying yourself first.” You need to save 10-20% of every dollar you bring home from work and do it so automatically it’s as if you never got paid that money.

If at all possible (and it is not always possible) you need to cut your expenses enough that you can save your chosen 10-20%. You may need to choose a cheaper apartment, or even need to share a room in a one-bedroom apartment. If that sounds horrible, do whatever you legally and pleasantly can to earn a higher income so that the 80-90% of your income you have to spend will allow you to rent a better place.

Save that 10-20% in your TFSA. And invest it for the longer-term future.

Using a TFSA to Invest for Life’s Luxuries

In my teen child’s second year, at age 19, I’ll be recommending they think about their savings and their salary in two ways: There is money needed to pay the bills and there is money for the luxury of extra things. For example, if you have $10 000 a year, you may need $9500 of that for bills and you may save $500 of that for a vacation. If the $9500 is money that is needed to survive, you shouldn’t risk any of it. Save it in a daily interest savings account or cashable GICs or something similar.

But the $500 is different. It’s great to have a vacation or buy a cool electronic device. It’s also not the end of (your) world if you can’t. So the money you can invest and take a bit of risk with is your “luxury” money.

If you are willing to risk losing your luxury money in order to watch it grow more quickly, if you’re lucky and the fates allow, then you can invest your luxury money inside your TFSA too.

In the Beginning, How Should I Invest in my Tax Free Savings Account?

Ok, so now my teen has 10% of their income and a bit of savings dedicated to “luxury” purchases that they’d like to invest in a TFSA. What can they do?

(I’m assuming that the combination of the two is less than their available TFSA contribution room. If they get $5500 of room a year, they likely can invest all of their future and luxury savings within their TFSA.)

My Teenager Hates Handling Finances and Making Decisions

One of my children looks like they will be the type of person who hates managing money and fiddling with banking issues.

I’d suggest that child invest their long term and luxury savings in a TFSA at Tangerine. I’d suggest they buy units in the Tangerine Balanced Fund that best suits those long term goals (and their risk tolerance.)

Why?

The Tangerine Balanced Funds offer a “couch potato” style of investing. Because there is no fee to buy new units in the fund. So each pay cheque they can contribute a small amount to their TFSA and buy units.
Because Tangerine will “re-balance” their savings to keep it split appropriately. If my teen bought units in 3 separate funds, for instance the very low fee e-funds from TD, they would have to keep track of the value of their total investments in each of the 3 funds. Once a year, they would have to either aggressively buy more units in whichever funds were less than their target percentage, or would have to sell some units of whichever fund they had too much invested in so that they could buy units in the other two funds. It requires more patience and a tiny bit more work. Paying Tangerine a higher fee means you don’t have to do this.

What Does a Tangerine Balanced Fund or Couch Potato Fund Mean?

When you invest, you need to decide what your preferred asset allocation looks like.

Maybe it’s

25% Canadian stock market index-mirroring equities
25% USA market
25% world markets
and 25% bonds.

With Tangerine, and some other places, you pick the Fund that holds its investments in those percentages and you buy units of that one Fund.

You then just wait and watch the fund value go up and down over time.

In theory over a long period of time, like 10 years, you should see that your investments have grown about 7% a year. (It may grow 2%, 59%, 1% and 25% in some years and shrink 2%, 15%, 1% and 22% other years. What matters is whether after 10 years you have almost twice as much money as you started with, not what the value is at the end of each day or year.)

Buying units in a fund like this intended to:

Avoid having to guess which stocks will earn you the most money over time
Keep you well diversified by buying essentially small amounts of all of the stocks listed on the world’s major stock exchanges
Avoid having to guess in which part of the world stock values will go up the most
Encourage you NOT to panic and sell your holdings just because they drop in value, even if they drop 50% in value; you have to leave them alone and give them time to “re-bound” or return to their previous value

What If I Don’t Want to Invest In the Tangerine Balanced Funds in my TFSA?

Fair enough. Lots of people don’t.

One even lower-cost (but slightly more work) alternative is to open a self-directed online investing account with TD. You can read about investing in TD e-funds, which have very low fees, at the Canadian Couch Potato website.

Another way to keep costs low is to buy units of ETFs instead of mutual funds. Most banks and brokerages charge you for each ETF purchase and sale, however, which may mean you have to save up and invest only once or twice a year. Some brokerages, like Scotia iTrade, allow you to purchase some but not all ETFs for no fee. You’d have to check if you like what they offer. Another discount brokerage, Questrade, lets you buy ETFs for no fee, but there have been some issues in the past with their customer service that leaves me unwilling to recommend using their brokerage.

You can buy mutual funds from almost any bank or credit union. Be very, very, very careful of the fees though. I have yet to read any where of any of them that charge lower or equivalent fees to Tangerine or to the TD e-funds. Personally, I don’t recommend bank mutual funds to anyone.

You can invest in individual stocks. That’s another option that is worth seriously considering for a certain type of investor. I’ll write about it in another article.

Related Reading

Join In
Do you think everyone should try to save 10-20% of their take home pay for the future and for luxuries? Please share your views with a comment.

My teenaged relative who has his first job and his first no-fee chequing account for direct deposit of his pay will soon be eligible to open his first TFSA as well. I doubt very much that he will listen to me or even ask me what type of TFSA he should consider but I’ll write this down now just in case he reads my website. (Not likely!) So here are some suggestions for how a teenager could or should be use a Tax Free Savings Account, or TFSA.

Everyone Needs Some Cash Savings For Emergencies

Recently on RedFlagDeals, someone asked who would ever pay $20 to borrow $300 or use one of the many payday loan sharks ***. Many people added their opinions including one person who said it’s very easy to end up too short of cash to handle a $300 emergency. That led to even more comments.

Basically, it’s true that if at all humanly possible you should try to have some cash savings for emergencies. Life happens. Often.

This morning, my car started making an odd faint squealing noise when making certain turns. It could need new brakes. It could need a wheel alignment. It could be nothing. Just getting it checked out will likely cost close to that fictitious $300 much less getting any needed work done. The zipper on my child’s boot broke, too. And there’s a draft around the front door suggesting we need to replace either the caulking or the weather-stripping or both. Rent goes up. Bell just jacked up the rates for the internet again.

So my first suggestion for a teenager who is now eligible to open their first TFSA, at 18 in most provinces and 19 in some, is to save up your first $5500 in cash.

(If a teenager already has more than $5500 in cash savings, they should read ahead: higher earning investments should be sheltered in the TFSA and emergency cash can be kept in a regular non-registered savings account.)

Where Should I Keep My Cash TFSA Account?

Banks both like and dislike TFSA cash savings accounts. They have figured out that they can charge you a painful transfer out fee if you decide to move your cash from their TFSA to another bank’s TFSA. They set those transfer out fees so high that you lose any yearly profit if you move a small balance to try to get a better interest rate somewhere else.

Banks dislike these accounts, though, because you can get around the transfer out fee once a year. If you get fed up with the interest rate at your bank, you can withdraw your TFSA cash during the last few business days in December. Then, in January of the next year, you can deposit it elsewhere. (You can’t deposit it right away in December if you have already made your maximum allowable contribution to your TFSA. But the amount withdrawn in previous years gets added to your contribution room for future years so you can re-deposit the same amount in January as it is the beginning of the next year.)

Check details of any bank TFSA carefully before opening an account. Some might charge you if your TFSA balance drops to or nearly to, 0, or if you close your account. That could make it expensive to move your TFSA cash to another bank for a better interest rate.

OK, so where are some reasonable places to keep your emergency cash in a daily interest TFSA savings account?

Many credit unions offer reasonable interest rates and rules
Tangerine. It offers, as of February 2017, 0.8% a year on cash savings in a TFSA, sometimes with a month or two of higher interest for new contributions. Tangerine charges a $45 fee (as of February 2017) to transfer your cash out of your TFSA to another bank. You can withdraw it for free but you can’t contribute it elsewhere until the next January 1, unless you have enough remaining unused contribution room.
PC Financial. It offers, as of February 2017, 0.8% a year on cash savings in a TFSA, sometimes with a month or two of higher interest for new contributions. PC Financial charges a $50 fee to transfer your cash out of your TFSA to another bank. You can withdraw it for free but you can’t contribute it elsewhere until the next January 1, unless you have enough remaining unused contribution room.

Oaken Financial offers, as of February 2017, TFSA GICs but not a TFSA cash savings account. If you don’t mind locking up your money in a GIC for at least 12 months, they offer good rates. In February, 2017, they are offering 1.75% for a one year GIC. NOTE: You can NOT get your money out until the GIC matures one year after you purchase it. This is not a “cashable” GIC.

If I Don’t Pay Any Tax Why Bother With a TFSA?

Many teenagers don’t earn enough money to pay any income tax. That can make it seem pointless to keep their cash in a TFSA. Any interest they earn on their cash in a regular savings account is also “tax free” if their combined income from work, interest and any other sources of income is less than their deductions including the basic personal amount.
I’d still suggest opening a TFSA.

If you set aside your “emergency” money in the TFSA it may reduce the urge to spend it on regular entertainment expenses.

It can also be the beginning of longer-term savings strategy.

You can always withdraw cash from a savings account TFSA as long as you remember you cannot always put it back in until the following January 1. So if you get a great interest rate offer on your regular savings account, you could always pull the cash out of your TFSA and take advantage of that rate.

It usually doesn’t take long to start earning enough to have to pay tax. When you do, be sure to start a TFSA.

When Should I Start Investing in a TFSA?

A cash daily interest savings account TFSA is useful when you only have $5000 or so saved. But when you start to save more than that, it’s time to consider investing some of your money while saving the rest. I’ll describe one strategy for investing in a TFSA in the sequel to this article.

Related Reading

Join In
When did you open your first TFSA? Would you encourage a teenager to open one as soon as they turn 18 (or 19)? Please share your views with a comment.

Financial Crooks

An Honest Crooks Shares Financial Tips and Investing Experiences

Category Archives: Finances

How Should I Invest In My Tax Free Savings Account, TFSA, After I Have an Emergency Fund?