What’s the Right Way to Invest? TFSA first? RRSP first? Pay down the Mortgage? Non-Registered Account? Gold? Real Estate? Help!

Posted on 2013 11 06 by BetCrooks

It fascinates me, like watching an unwary insect zig-zagging towards a waiting trap-door spider, to hear people asking what is the correct way to invest. Listening to and reading the answers to their frantic questions makes me even more uncomfortable. I don’t believe there is any one, correct way to invest. There are just too many variables. I think most people would be much better off in they could just relax a bit. There are many paths up the mountain and the view from 9,789 feet up is pretty close to that from 9,804.

Should I Max Out my TFSA First?

This is a common question. The answer though is a moving target.
TFSAs were only created 5 years ago. So the first year they were offered, you could max your TFSA with a $5000 contribution. When the “max” was that small, the consensus answer was yes, max out your TFSA first.

Even in 2014, the maximum someone who is 23 or older that year can contribute to a TFSA is $31,000 and that assumes they have contributed nothing ever (or have withdrawn everything from every TFSA they have in 2013).

$31,000 is still an achievable number, so it may be a good idea to max out a TFSA first.
But soon, that number will climb up to $50,000 or higher. At what point do you start to contribute to an RRSP as well as a TFSA?

Instead of a simple answer, it becomes necessary to consider a variety of factors:

What is your salary?
What is the expected change in your salary over the next 10-15 years?
Are you an impulsive spender?
Do you intend to buy a home (house or condo, etc.) soon?
Do you have debt? What kinds?
Are you planning to marry soon?
Do you have dependents (children, aged parents, disabled spouse, etc.)?
What income tax do you pay?

I’ll have to discuss some of these factors in a separate article. This one’s about the many paths up to that peak.

Should I Max Out my RRSP First?

This is probably the second most common question. It becomes the first during “RRSP Season” from January to February each year.

Many answers were written before the TFSA was invented and those answers have not been updated to account for this new investment possibility. Be wary and check the date of the information, especially in books.

One of the most common errors I see is people saying “Wait to contribute to your RRSP until you’re in a high tax bracket.”

They don’t seem to understand that contributing to your RRSP (and reporting your contributions on your annual tax return) and claiming the deduction for your contribution are two different things.

I could contribute to my RRSP in June 2013. I would have to report the contribution, with receipts, on my income tax forms for 2013. But I could wait till 2025 to claim the deduction to reduce my taxable income and to reduce my payable taxes (and maybe get a tax refund!). I just have to fill out Schedule 7. I could even wait till 2035!

One of the most common errors of omission I see is people not saying “If you are in a low tax bracket and you will probably be in a low tax bracket all your life, it’s better to save in your TFSA because it doesn’t affect your OAS and GIS eligibility and payments.”

That’s right: the real kicker is for very low income earners. If someone is going to have income of less than $15,000 (in 2013 dollars) in retirement from their pension, CPP, interest income on their investments, etc, they do not want to have a RRSP. Money coming out of the RRSP will reduce how much OAS or GIS they are entitled to receive. Money coming out of a TFSA will not reduce those payments. (At least it won’t as the rules are written right now. My cynical side expects that to change in the next 20 years.)

I need to explain these things in more detail in a separate article as well. But again, what I’m trying to say here is that there is no one simple, correct answer for everyone. Each person is unique and the best path for each person will vary.

Should I Pay Down My Mortgage First?

Again, this one used to be a no-brainer. People bought a house with a 50%+ down payment. They had a 25-year mortgage and they had 30 years till retirement. The interest rate on the mortgage was 7%+ and the interest rate on their GICs was 5%. There were no TFSAs. Their Pension Adjustments (PA’s) were so large because they had defined benefit pensions that they could only contribute $2,000 or less a year to a RRSP. They swore to everyone that they only planned to leave their home “when they were carried out in a box.”

In their cases, yes, paying down the mortgage made complete sense.

Now people are buying homes with tiny down payments. Some homes cost 5-10 times their owners’ annual gross salaries. They are buying them with a 25-year mortgage and 10 years till retirement. The interest rates, though, are low. They plan to down-size, right-size, convert to a rental property, flip or sell them to developers looking to drop a huge in-fill house on the super-sized lot.

It’s no longer a simple: “Yes. Pay off the mortgage first.” answer.

Real Estate? Gold? Non-Registered Accounts? RESPs?

The internet and the “celebrity-style” investment reporting on most news networks has just increased the confusion. The media is always buzzing about making millions in real estate, protecting yourself from world-wide-economic-collapse buy loading up on gold, avoiding the convoluted tax implications of registered accounts by keeping simple and investing only in non-registered accounts, and even using your kids’ RESPs as tax shelters for personal spending funds for their parents.

Argh!

So many choices, so much noise, so many ways to go wrong, lose money, not keep up with your peers, never get to retire, never get to travel, never succeed.

Enough.

I’ll repeat myself:

There isn’t any one correct way to invest. Many paths will lead to the same destination.
You don’t have to “get it right.” There is no wrong.
You don’t have to agonize and get paralyzed by all of the choices.
You will not be judged and found wanting.

Pick a path. Practically any path. Almost every one will lead you gradually up the mountain slope.

Don’t worry so much. The paths all criss-cross multiple times on the journey up. You can switch paths. You can even send some of your investments up one path while the rest of them follow another.

There are only a couple of choices that you must make:

Save money.
Don’t stay in debt.
Invest that money you save at a rate that exceeds inflation so it at least keeps today’s value.

Don’t worry about making the most possible profit from your money. No one knows how to do that successfully every time. Just try to make some profit and stop expecting perfection from yourself and your investments.

And try to tune out the endless stream of information that tells you “You’re doing it all wrong! Do it my way!” If you’re saving money, you’re doing it right.

Related Reading

Maximize your TFSA First

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Does it bother you to see people agonizing over whether to max their TFSA or buy a rental property? Please share your views with a comment.

When Should I Switch to a Self-Directed Brokerage Account? As Soon As It’s “No Fee”

Posted on 2013 10 22 by BetCrooks

At most institutions, you really need at least $25,000 before it’s worth opening a self-directed brokerage account. Before that, you’ll get zinged with some type of annual fee, whether it’s a “quarterly fee” an “annual fee” or a “minimum balance fee.” (Some extreme discount brokerages even charge a hidden “inactivity fee.”) But once you get past those nuisance fees, it’s time for a change. Here’s why you should switch to a self-directed brokerage acount as soon as you can meet the minimum requirements.

Buying Mutual Funds in a Self-Directed Brokerage Account

If you like the mutual funds offered by your bank, chances are very good that you can buy them within their online brokerage account as well. If you like the idea of mutual funds but you don’t like the actual funds your bank offers, once you have a self-directed account you can make your purchase from a much larger selection.

Most brokerages offer mutual funds with no additional loads or fees for the purchase or sale. (The fund issuer, however, may charge certain fees for buying or selling the fund. You have to read the fund facts for the mutual fund before deciding to buy or sell.)

The Drawbacks of Buying Mutual Funds within an Online Brokerage Account

The biggest drawback is that most brokerages require you to buy at least $5000 of a mutual fund the first time, and buy at least $500 worth of the fund each time you want to add more. (Some mutual fund issuers demand even higher minimum purchases. For example, you usually need $25,000 to buy your first purchase of a PH&N fund.)

Another drawback is that the brokerage may require you to hold a fund for at least 90 days before selling it to avoid paying a high penalty fee. (Some fund issuers already have the same restriction, though, even if you buy directly from them.)

Buying ETFs May Cost Less Over Time Than Buying Mutual Funds

Some discount online brokerages offer some ETFs that you can purchase without paying a fee or commission. (Please see: No Commission ETFs in the article Are ETFs better than Mutual Funds?) , usually you will have to pay between $10-30 each time you buy units in an ETF. That sounds like a lot of money and for a small purchase it is. However, for larger purchases, the savings in the Management Expense Ratio, MER, fees each year may help.

For example, a mutual fund that replicates the TSX top 60 stocks may charge a MER of 1.75%. That means if you have $1000 of the fund, you are paying $17.50 per year in fees. (You may not realize you are paying this annual fee because it is usually taken out of the price they report for a unit of the fund (the NAV.) It won’t usually say on your statement that you are paying $17.50.)

An ETF that replicates the TSX top 60 stocks may only have a MER of 0.175% That means if you have $1000 of the ETF, you are paying only $1.75 per year in fees. The savings of $15.75 might be enough to pay some or all of your purchase commission fee. And you will keep saving that fee differential for as long as you hold the ETF.

Unlike for mutual funds, there is no required minimum purchase $$ amount for an ETF bought through a discount brokerage. Practically, though, you will not want to buy too small a number of units of an ETF, though, because you are being charged $10-30 for the purchase whether you are buying 1 unit or 1000 units. (If you are working with a brokerage that charges no fee for ETF purchases, then you can go ahead and buy them 1 unit at a time: if you really want to!)

For Some Registered Accounts, the Daily Interest Savings Rate is Higher at a Discount Brokerage

What if you want to keep your money in a registered account in a daily interest savings account? (By registered account I mean a TFSA, RRSP, RRIF, RESP, RDSP etc.)
You may get the best rate by keeping the account at a smaller financial institution like ING Direct. (It’s currently paying, as of October 2013, 1.35% for cash in a RSP Investment Savings Account and 1.40% for a TFSA Investment Savings Account.) Another preferred option for some investors is People’s Trust. (It’s currently paying, as of October 2013, 3% for a TFSA.)

Some of these institutions don’t offer a RESP, RRSP or other registered accounts.
If I have a RESP at BMO, my cash in a daily interest account is currently, as of October 2013, only earning 1%.

If I open a BMO InvestorLine RESP account, though, I could put the money in AAT770, the daily high interest savings account fund, and by earning 1.27%. It’s not a huge improvement but it’s a start.

Similarly, most brokerages offer a savings account option, often called a HISA, which pays 1.25% or more as of October 2013.

The drawback, as with mutual funds, is that there is often a minimum deposit required. At InvestorLine, you have to keep at least $5000 in the daily interest cash account fund. At CIBC Investor’s Edge, you have to keep at least $1000 in the daily interest cash account funds.

Buying GICs is Better in an Online Discount Brokerage Account

If you want to keep your investments in your registered account in GICs, it’s definitely worth considering using an online discount brokerage account. (Please see: Pros and Cons of Buying GICs in a Self-Directed Online Brokerage Account)

For example, if I buy a GIC in a RESP at BMO, the posted rate (as of October 2013) for a 1-year term is 1%. (I could probably get it up to 1.5% by negotiating with a customer service representative at my branch.)

At this same time, I could buy a 1-year term GIC at BMO InvestorLine paying 2% with a few simple clicks of the mouse and no beseeching required. CIBC Investor’s Edge is offering a 1-year term GIC at 1.85%.

Most discount brokerages allow you to select from a variety of GICs, including cashable, semi-annual pay, etc, issued by 10-20 different financial institutions. It’s a quick, simple way to get a competitively priced GIC.

Most discount brokerages do not charge any fee to you, the customer, the buy a GIC.

The Drawback of Buying GICs within an Online Brokerage Account

As with mutual funds, there is one drawback. Most online brokerages require you to buy a GIC with a minimum value of $5000. So you can’t just invest $100 or even $1000. You would have to keep those smaller amounts in a daily interest savings account fund at a lower rate.

Buying Stocks in a Self Directed Brokerage Account

Of course most people automatically think of buying shares when they think of brokerage accounts. It’s true that this is an option once you have an account. The fees may vary depending on your account’s balance and/or your trading habits and/or your other holdings with the bank affiliated with the brokerage. Usually they are between $30 to $10 per purchase or sale.

I don’t think you can buy shares of stock for a registered account without using a brokerage or a discount brokerage. You can buy some stocks directly from their issuing companies or their transfer agents but only if you are holding them as unregistered investments.

Should I Move our RESP to a Discount Brokerage?

Ok, I’ve convinced myself. It’s time to try to slay the paper dragon required to move our RESP to an online discount brokerage. Since we have a family RESP with my husband and myself as joint contributors, I’m nervous about what paperwork may be required. I guess it’s time to find out.

CIBC Investor’s Edge is Worth Considering for a RESP

And just as a reminder, It appears CIBC Investor’s Edge is seriously offering a no-annual-fee no-minimum-balance RESP brokerage account. It’s a bit misleading, though, as you would really need about $1000 or more to make it worthwhile opening. With $1000 or more you could save your money in a daily interest savings account fund for no fee. With $5000 or more you could buy at least one GIC or one mutual fund. But to buy ETFs or stocks, you would need at least $25,000 to bring the trading commission down to $28.95 or at least $50,000 to bring it down to $9.95. Still, it may be worth investigating further.

Check Brokerage Details Carefully Before You Invest

Before opening a self-directed brokerage account, be sure to check the details carefully. What fees or charges are applied annually or quarterly or based on activity? What mutual funds are available and what are the terms of purchase? What commissions and fees are charged for purchasing shares or ETFs? Brokerages all differ slightly: it’s worth spending some time checking what’s offered before committing yourself.

Remember these brokerages all charge high fees to close or transfer accounts. Take your time and choose one you will be satisfied with before signing anything.