Wealth

Understanding Investments

Part 1: Pay Yourself First

The asset accumulation phase occurs during your working years. The idea is to use your earnings not just to pay bills, but to begin saving and investing so that one day your savings and investments can pay for your bills and you are now going to work by choice, not because you need the pay check.

The "Stay Broke" Formula:

Earn
Spend
Then try to save what is left at the end of the month (which is usually nothing).

The "Get Free" Formula:

Earn
Pay yourself first (auto-deductions into appropriate accounts)
Then spend what's left

Employers deduct taxes off of your paycheck because they don't trust that you will save the money throughout the year to pay them what you owe. The point here is not about the government not trusting its people. It is applying the same mindset towards your personal finances.

This works because it:

Automates your financial progress
Builds discipline without relying on willpower
Makes saving feel like a fixed expense, not an optional bonus; and
Helps you consistently build emergency funds, investment accounts, and long-term security.

The specificity of what to do as it relates to your situation can be discussed with an advisor, but generally speaking, a good foundation is to have an amount of money being saved for the short to mid-term that is more flexible and adjustable to life conditions, and a long-term, "set it and forget it" amount that you commit to regardless of life circumstances.

Habits developed at your lowest income earning bracket will be habits carried into your higher income earning years. We have yet to come across anyone who regretted their decision to start long-term investing or who thought that they got started too early.

Understanding Investments

Part 3: Your Financial Independence Number

Calculating your FIN answers the question: "how much is enough money for me to achieve financial freedom"?

We don't see retirement as the day you stop working. We see retirement as the day where going to work is a choice rather than a need. The goal is to help you get into a position where instead of working for money, your money works for you.

Knowing your FIN helps you set a real target for financial freedom.

Calculation:

1. Estimate the income you would like after tax.

2. Divide this income by your anticipated rate of return.

For example, if you wanted $100,000/year and feel comfortable counting on a 5% rate of return: $100,000 / 0.05 = $2,000,000.

You can have more than one FIN to reflect likely vs. ideal case.

Maybe you need $60,000 just to pay the bills ($1,200,000 FIN)
$80,000 to cover bills + maintaining lifestyle; and ($1,600,000 FIN)
Would want $150,000 to cover bills + your dream lifestyle ($3,000,000 FIN)

Most people guess when they think about retirement and they guess wrong. Your FIN turns a vague goal ("I want to retire someday”) into a specific plan. Once you know your number, you can use an investment calculator to reverse-engineer how much to save and invest each month to reach it.

Without your FIN, you risk:

Retiring too early and running out of money
Working longer than necessary out of fear; or
Saving too little or in the wrong vehicles

It is like taking a long road-trip to a place you have never been without a map. You might find a way there, but it would be by chance rather than by plan.

How long is the drive? Who is going to drive? For how long? What if you get lost? What if you hit a detour? When do you stop to eat? To sleep? For gas?

Financial planning is the same.

How much do you invest long-term? Do you have short and mid-term savings so you don't have to pull out of your long-term bucket too soon? Do you have critical illness insurance in place so you can still pay your bills and make your investments while not working due to illness? Do you have proper life insurance so your loved ones can continue to pay bills and work towards financial freedom without your income coming in?

Understanding Investments

Part 4: Rate of Return

Similar to performance on a sports team or within a classroom, when it comes to professional money managers, you are going to have poor, okay, good and great managers and funds.

It is up to you and your advisor to identify not just your risk tolerance, but how to build a portfolio at that risk tolerance level that can maximize your rate of return.

The two scenarios below illustrate the powerful difference that a small increase in rate of return can make.

GICs & bonds offer capital protection and, in some cases, guaranteed returns. Limited growth potential makes them an option for very conservative investors who prioritize safety over performance.

Individual stocks have the potential deliver strong returns, but they lack diversification and protection, which can lead to higher risk if an individual company you invest in underperforms.

Mutual funds are built for you to experience the returns of single stocks with less risk due to portfolio diversification. You are essentially purchasing a "basket" of stocks rather than being dependent on the performance of one company.

Segregated funds combine the advantages of mutual funds with an added security of insurance-backed guarantees and other benefits such as potential creditor protection & bypassing probate with named beneficiaries.

Money Market & T-Bills

Very stable, short-term, low-return investments used for parking cash or short-term savings. Great for emergency funds and capital preservation.

Bond Funds

Debt issued by governments or corporations. More return potential than cash, but still conservative. Can

lose value if interest rates rise.

Income Funds

Blend of bonds and stocks. Aims to provide steady

income with some growth.

Balanced Funds

50/50 mix of stocks and bonds with an aim of

offering growth and stability.

Investment Volatility Pyramid

Asset Allocation & Portfolios

Professionally managed mix of asset classes that is adjusted based on your risk tolerance and timeline.

Equity Growth & Value

Stocks in large, growing companies. Potential for strong long-term returns and more affected by market swings.

Emerging Markets & Asia Pacific

Investments in developing countries or regions. High risk, high reward due to political and economic volatility

Precious Metals, Science & Tech

Sector-specific investments (gold, biotech, AI, etc.) that can

soar or sink quickly.

Understanding Investments

Part 6: Understanding Risk

The higher you go on the volatility pyramid, the longer your time horizon should be. The lower you stay, the more protected your capital is supposed to be. Many portfolios include multiple levels of this pyramid customized to your goals, risk tolerance, and life stage.

Within the context of an advisor who deals in the mutual fund or segregated fund world, risk tolerance can be explained along these lines.

High Risk = 100% equities

Med-High = 80% equities, 20% fixed income

Medium = 60% equities, 40% fixed income

Low-Med = 40% equities, 60% fixed income

Low Risk = 20% equities, 80% fixed income

If the "high risk" equity vehicle is a segregated fund, you are still diversified across multiple companies and have a maturity and death benefit guarantee. Whereas when most people hear "high risk" they equate it to roulette or penny stocks.

In understanding this, you can see where this may confuse investors. And unless an advisor explains it properly, you may wind up taking on too little risk due to a lack of education.

Understanding Investments

Part 7: Dollar Cost Averaging

Aside from adjusting the ratio of equity to fixed income within your portfolio, another way to mitigate market risk is to use a dollar cost averaging strategy.

The simplest way to explain this concept is by illustrating the difference between the two "rule of 72" slides in section 4.

Scenario one was lump sum investing ($10,000 one time, nothing monthly).
Scenario two was an example of dollar collar averaging.

Simply put, it is a strategy where you invest a fixed amount of money on a regular schedule (weekly, monthly, etc.) regardless of what the market is doing.

Instead of trying to time the perfect moment to invest, regular contributions smooth out your entry points by buying more units when prices are low and fewer units when prices are high.

Over time, this can help reduce the emotional stress of investing, lower your average cost per unit, and build consistent investing habits that align with your goals.

Here is an over-exaggerated example to illustrate the difference between lump sum investing and dollar cost averaging.

Lump Sum Investing

$10,000 one time on January 1st
In fund A, $10,000 grows to $25,000 by April 30.
In fund B, $10,000 rebounds to $10,000 by April 30.

Dollar Cost Averaging

$100/month on January, February, March & April 1st.

Fund A: $100/$10 buys 10 units, $100/$12.50 buys 8 units, $100/$20 buys 5 units, $100/$25 buys 4 units. On April 30, your 27 units at $25/unit would be worth $675.

Fund B: $100/$10 buys 10 units, $100/$5 buys 20 units, $100/$2 buys 50 units, $100/$10 buys 10 units. On April 30, your 90 units at $10/unit would be worth $900.

How Investments are Taxed

While a good advisor ensures that your investment strategy is diversified, a great advisor also works in tandem with your accountant to ensure your tax strategy is diversified.

Two people could earn the same rate of return, but end up with very different outcomes depending on how their investments are held.

Before we get into a side-by-side example, it is important to note that no matter what type of investment you choose (stocks, bonds, mutual funds, segregated funds, etc.), they can all be held inside an RRSP, TFSA, or non-registered account.

These accounts don’t change what you invest in; they are simply a vehicle that tells the government how to tax you on your investment.

Let's illustrate an example where $10,000 is invested one time and earns an 8% rate of return for 30 years. At year 30, there would be $100,000 in the account.

RRSP

A tax-break is received on the $10,000 contribution amount.
If the individual's marginal tax rate is 20%, $10,000 x 20% = a $2,000 tax rebate.
Tax is owing on the full $100,000 upon withdrawal.

If the $2,000 tax rebate is reinvested, then $2,000 would grow to $20,000 over the same 30 years. This $20,000 is meant to be used to help offset the taxes owing when withdrawing the $100,000 out of the RRSP.

The challenge with this concept is that most people don't realize that this is what the tax rebate is for, so it ends up being spent rather than reinvested.

TFSA

No tax-break is received on the $10,000 contributed.
The $100,000 is accessible without any tax owing.

In short, the difference between the two can be summarized as:

RRSP = tax break on the seed, tax owing on the harvest.
TFSA = taxed on the seed, tax-free upon harvest.

The two most simple questions you can ask yourself to determine where you want to shelter your money are:

1. Am I building a plan based on my income decreasing in the future or increasing?

2. Do I believe the government will decrease or increase tax rates over the long-term?

Non-Registered

No tax-break is received on the $10,000 contributed.
No tax is owing on the initial $10,000 contributed.
A capital gains tax is owed on the growth.
The taxable gain is a percentage of the overall capital gain.
In this example, there is a $90,000 gain. If the taxable capital gain percentage is 50%, then $45,000 would go to you tax-free (in addition to your $10,000 contribution), while the remaining $45,000 would be added to your income for the year and taxed at your marginal tax rate.

Final Thoughts About Wealth Building

Here are a few points to consider that are less commonly discussed / taught in the traditional financial industry.

1. A tax refund is NOT free money. It is money that you loaned (overpaid) the government all year that they paid you 0% interest for.

2. A risk with the RRSP that is not present with the TFSA is the unknown of what tax rates will be when you go to retire. It would be similar to getting a job and when you ask what the rate of pay is they say "just work for 30 years, and we'll tell you when the time comes".

3. A justification used by advisors who prefer to utilize the RRSP before other vehicles is that you will be in a "lower tax bracket" by the time you go to withdraw the assets. This is true, in theory, since you may no longer be employed. But that assumes that your income from investments, government sources, part-time work, or a business will all combine to be less than what you are currently earning.

Shouldn't a good investment plan strive to earn more in your later years because every day life will be more expensive, and you will have more time on your hands to find ways to spend money?

Preserving Wealth

Let's revisit the three phases of an investment life cycle.

1. Asset Accumulation (growth)

2. Asset Distribution (preservation)

3. Asset Transfer (legacy)

While the asset distribution and transfer phases typically don't occur until retirement and death, respectively, decisions made during the accumulation phase can greatly impact each of these stages.

If you are working with an advisor, it is important that, in addition to addressing your current needs, they also have a long-term view and are considering the things on the other side of the mountain that you may not yet see.

In the absence of a sound strategy that addresses all three phases, it is easy to overspend too early, pay unnecessary taxes, or accidentally drain your assets too soon.

Here are two recent client examples that illustrate this point (using pseudonyms to protect client confidentiality).

Scenario #1: Outliving your Wealth (Asset Distribution)

John Doe was referred to us at 79-years-old to complete a Financial Needs Analysis. He didn't think he needed the help, but his kids wanted us to make sure that his affairs were in order.

John had retired 12 years prior at age 67 with a small company pension and a personal RRSP.

Upon retirement, his previous advisor rebalanced his portfolio, and set up an automatic withdrawal from the RRSP to his bank account to put him on a fixed income that was supposed to last him through retirement.

After doing this, the advisor never reached out again.

Not to update his budget
Not to rebalance (or even review) the investments
Not to see if he had any kids or grandkids that needed guidance.

You get the point. Complete radio silence.

Because John didn't hear from the advisor and was told that he would be okay, he continued on with life as normal. He even sold his house a few years prior to meeting with us, and spent the multiple six-figures of equity frivolously because "he was okay" and "it was just extra play money".

Fast forward to age 79 when he is meeting with us thinking that the only thing we will need to do is get his existing policies and investments all in one place and double check that the beneficiaries are correct.

Here's what we discovered:

1. His RRSP was set up to provide him with a monthly income stream until age 80 before it would be terminated.

2. He had an outstanding insurance policy loan that was taken out prior to retiring that was eating away at the permanent death benefit he thought he was leaving to his kids to pay for his final affairs.

3. His TFSA had never been contributed to.

John's pension, CPP & OAS were enough to cover his rent, food and car insurance, but in the absence of his RRSP, he went back to work at 80-years-old.

There were so many missed opportunities that could have been taken advantage of had John been properly serviced and educated. It was a reminder to our team of how the Financial Needs Analysis process is applicable to people of all ages.

If he knew his retirement plan was only going to last until age 80, he said himself that he would have been willing to keep a small portion of his portfolio exposed to the equity market to grow the wealth required for it to last longer.

He would have been open to potentially considering an RRSP meltdown strategy to experience tax-free growth inside of the TFSA.

He would have been open to taking some of the home equity and putting it aside for a later date; and

He would have used our budget calculator a little bit more closely if he knew there was a risk of running out of money.

This is why we are so passionate about reaching people before they get to the "could have, would have, should have" phase. Because we know there are a lot of people who seem "taken care of" to the public eye who don't realize they need help, or at least a second opinion, before it is too late.

Scenario #2: Improper Estate Planning (Asset Transfer)

Jimmy Smith was referred to us to help develop an investment plan after he inherited money from his late mother, Jane Smith.

Jane outlived her money, but another case of advisor negligence put her kids in a position where they couldn't properly grieve her loss because they were simultaneously settling a poorly planned estate.

Issue #1: the portion of her investments that were to be left to the next generation were being invested the same way as the investments she was drawing from for retirement income. The investments that she didn't need could have been way less conservative and earned tens if not hundreds of thousands of dollars more in interest.

Issue #2: all of her investments were in a non-registered account. She had $102,000 of never been used TFSA contribution space that could have been leveraged to reduce taxes owing upon death.

Issue #3: the named beneficiary of the non-registered account was her estate, in spite of there being a clear opportunity to structure the assets to bypass the estate and go directly to ANYWHERE other than probate fees and the government.

The estate took months longer than it should have to settle and the adult children inherited about $100,000 less than what they would have in a properly structured plan due to fees and taxes.

Estate Taxes

Let's revisit the "how investments are taxed" section.

We previously used an example of a one-time $10,000 contribution growing to $100,000 to illustrate when there would be tax breaks and tax owing. In that example, it is important to note that the amount of tax owing is dependent on:

How much of the $100,000 was withdrawn in a calendar year; and
How much income was earned from other sources that year.

Upon death, other than a spouse-to-spouse exception, there is no "partial withdrawal" option to limit taxes. It simply plays out as follows:

RRSP

All $100,000 is added to the deceased's income for the year they pass and it is taxed at their marginal tax rate as income.

Non-Registered

$100,000 Proceeds of Disposition
- $10,000 Adjusted Cost Basis (the contributions of the deceased)
= $90,000 Capital Gain
$45,000 Taxable Capital Gain added to the deceased's income for the year they pass and it is taxed at their marginal tax rate as income.

TFSA

So long as it is structured to bypass the estate directly to a named beneficiary, $0 is added to the deceased's income and $100,000 passes on tax-free.
This works in a similar fashion with permanent life insurance.

If we can take one dollar that was going to be lost to the government and put it back in your pocket or into the pocket of someone you care about after you are gone, then we have done our job.

Building and Preserving Wealth

Understanding Investments

Understanding Investments

Understanding Investments

Understanding Investments

Investing $10,000 One Time (No Monthly Contributions)

Starting with $0 and Investing Monthly

Understanding Investments

Investment Volatility Pyramid

Understanding Investments

Understanding Investments

How Investments are Taxed

Preserving Wealth

Estate Taxes

Building and Preserving Wealth

Understanding Investments

Understanding Investments

Understanding Investments

Understanding Investments

Investing $10,000 One Time (No Monthly Contributions)

Starting with $0 and Investing Monthly

Understanding Investments

Investment Volatility Pyramid

Understanding Investments

Understanding Investments

How Investments are Taxed

Preserving Wealth

Estate Taxes

This website uses cookies.