Dushan Milic/The Globe and Mail
On the surface, Dave looks like the kind of guy who's in charge. The Torontonian earns $62,000 a year as a policy analyst for the Ontario government. He just hit the contribution cap on his tax-free savings account. And he has no debt. Not bad for a 27-year-old, right?
"These things make me very lucky compared to some of my peers," Dave says. But not everything in his life is certain. "I'm a disciplined saver, but I'm precariously employed and have limited personal finance knowledge."
He is hired on contract, so he lives in six-month cycles, always worrying the money will stop coming in. Being debt-free? His family, he admits, helped out with his student loans. And that TFSA? There's no plan behind it – it's all in an investment savings account, bringing in a whopping 1.4-per-cent interest. No equities, no bonds, no funds, no GICs – nothing.
Dave wants to figure out how best to configure his TFSA. He doesn't mind absorbing long-term risk, but he's also conscious of his uncertain employment and wants to set up an emergency fund. Some day, he'd like to own a home in Toronto.
He's in a better position than he used to be. His original summer placement was renewed month-by-month for a half a year, until he managed to land a couple of six-month contracts. And at least Dave's working in his desired field: he has a bachelor's degree in history and political science and a graduate certificate in public administration.
"While I'm hopeful that another renewal is in the cards, I won't know my fate until closer to D-Day, or [if] I land a contract or permanent position elsewhere," he says.
Dave saves $1,300 a month – about a third of his income. His disposable income usually finds itself spent on an urban twentysomething's usual amenities: sports equipment, electronics and going out, with a little going to his home-brewing hobby, too. (He makes a batch of beer a month.)
Any extra income, from tax refunds or coin jars, goes straight into his savings. "I've been tracking my spending, and plan on cutting it down in a few key areas to make savings a higher priority."
Now he just has to figure out what to do with those savings. We took Dave's portfolio to two financial experts for advice: Jason Round, head of financial planning support with Royal Bank of Canada Financial Planning, and Barbara L. Garbens, chartered financial planner and founder of Toronto's B L Garbens Associates Inc.
The basics
– $25,500 in a TFSA, in a high-interest savings account.
– $2,000 in a chequing account.
– No debt.
Jason Round's tips
1. Diversify his savings: Saving through a TFSA is a flexible option that's well-suited to Dave's short-term contract work, Mr. Round says. "While he still needs flexibility as he moves toward more permanent employment, he has accumulated enough and plans to continue saving enough going forward to start to take advantage of other savings programs, like RRSPs," he says. This route doesn't just let him save for retirement – he can withdraw up to $25,000 sooner than that to take advantage of the federal government's Home Buyers' Plan to fund his first home. Once Dave's TFSA is maxed out, he can contribute his $1,300 monthly savings to his RRSP, which should provide him a good tax return he can roll back into the RRSP next year. When TFSA contribution room rises again next year, Dave should split his savings between the two investments
2. Diversify investments: First, Mr. Round suggests having the equivalent of three months income in an emergency fund – for Dave, that's $15,500. Dave should keep that amount in his TFSA's high-interest savings account, leaving about $8,500 to invest in a conservative portfolio. "While he is young, Dave's objective of getting into the Toronto housing market warrants staying on the more conservative side," Mr. Round says. No more than half the portfolio should be in equities, with the rest in fixed income, including a portion in laddered guaranteed investment certificates, with their terms configured to match when he plans to buy his first home. "Mutual funds are a great option for Dave, providing diversification across different bonds and stocks both in Canada and abroad," Mr. Round says.
3. Stay disciplined: "Dave has been very disciplined with his budget and savings plan, but it can be easy to deviate as things change early in a career," Mr. Round says. He should continue to dedicate a significant portion of his income toward his financial goals, both for the short and long term. Setting up automatic regular contributions will make this process easy on Dave. "Putting in place a monthly savings program where the money goes straight into his TFSA and RRSP will help keep that discipline going," Mr. Round says, "and Dave can revisit his contribution amounts as his income increases or his employment becomes more permanent."
Barbara L. Garbens's tips
1. Get TFSA on track: Dave should use his TFSA to hold his emergency fund, which Ms. Garbens recommends should be about $12,000, to last him three months. She suggests putting the rest in equities to get some real growth in the account. "Some good, dividend-paying exchange-traded funds are probably the way to go, with dividends being reinvested. He could choose one or two at the most," she says. "I'd go even higher with equities if his job were secure, but since he may need to draw down on his savings, it's better to keep some of the money liquid." That emergency fund should be kept in easy-to-access cash. "He may want to consider just investing in a term deposit that matures around September. He can then decide whether he needs to draw down or not, depending on the job situation."
2. Start an RRSP: With a maxed-out TFSA, it's time for Dave to put his savings into an RRSP to start saving for specific goals. "I would consider this a long-term savings plan, first toward a downpayment for a house, and second, for retirement," Ms. Garbens says. "I would invest in mostly equities at this stage, but review the mix at least annually." Once Dave starts accumulating assets in the account, she recommends a 70/30 or 60/40 split between equities and fixed-income investment. In both cases, she recommends buying low-cost ETFs.
3. Max out tax opportunities: With an income of $62,000, Dave likely won't get any immediate tax breaks by contributing to an RRSP – but, Ms. Garbens points out, he can be strategic about how he uses the tax deductions he's eligible for. "If he has RRSP room, he can make the contribution, but he doesn't have to deduct it in the current year," she says. "He can wait until a year with a higher income and use it then. The option is his." This makes an RRSP a great savings tool for Dave, as he can also withdraw money from it later for a down payment on a home. The tax-defered compounding of investment earnings over time helps, too. "It all adds up," Ms. Garbens says. Dave might also qualify for Ontario's Trillium Benefit – a combination sales, property and energy tax credit – and other credits he could use to his advantage with a little research.
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Josh O’Kane