Monthly Archives: July 2015

Start Here

start saving here

If you’re new to the world of personal finance, or new to looniewise.ca, below is what I consider to be the core articles for gaining understanding and confidence in managing your money.

To start with, motivation. Surely there are more important things for you to do other than read articles about money? Knowing what you want your saved money for is important for knowing where to put it until you need it. Having a goal helps get you going.

  1. Savings Accounts, everyone should be familiar with the pros and cons of savings accounts
  2. Mutual Funds, money invested here will generally grow faster than savings accounts, but there are more risks
  3. Bonds, not quite as popular these days, thanks to a low interest rates
  4. The S&P 500, the best place to put your long-term money
  5. To put these things in perspective, you should re-acquaint yourself with the awesome power of compound interest

These are some handy articles for how to conserve or grow your money. These articles explain how to avoid costs that take your money:

  1. UTIC, the Unavoidable Trifecta of Investment Costs
    1. Inflation
    2. Taxes
    3. Fees
  2. RRSPs, how to avoid the taxes of of UTIC
  3. TFSAs, another way to avoid taxes

For those with an appetite for more risk, and potential reward, there’s the stock exchange

  1. An overview of a solid investment strategy: invest in what you know
  2. How to actually start investing

Wills – Even Death Has a Fee

death-tax

I recently got a will. I went through a lawyer, and was quoted a notarized will for my wife and I at $400 each. With the lawyer, it was an intimidating experience at first, but I did some research on my own and found that you can get a will drafted for free, and notarized for as little as $15. Currently, I am in the process of trying to get a more competitive rate.

How did this all come about? I remember a few months ago seeing a story about a wealthy, well respected family being torn apart over an inheritance. Millions were collectively spent on lawyers. I don’t know how that mess turned out, but I’ve heard about crazy family members who launch lawsuits over an inheritance dispute. To add to the deep emotional damage such a conflict would inflict, the truth is that the only people guaranteed to benefit will be lawyers.

It seems that every family has crazy relatives, and it seems that if you have any considerable worth in your estate at all, you might want to spend the extra time and money to be clear on how you want your estate divided and passed on and stop any potential conflicts from ever happening.

What kind of things are part of your estate? The first thing to be factored is any debt you have, including credit cards, mortgages, and car loans. They are paid off before your estate and any estate beneficiaries. Once debts are settled, all your remaining assets with financial value, such as insurance policies, cash, TFSAs, homes, cars, appliances, and furnishings are added up and considered to be the value of your estate. If your spouse survives you, your estate is considered to be shared 50/50.

Once the value of your estate is ascertained, the provincial government will then proceed to tax it. As per the Ontario Ministry of Finance, the inheritance tax will be $3100 on an estate valued at $240,000.

Note that your RRSPs can be directly transferred to a family beneficiary with no tax penalty at all. You can setup an RRSP tax beneficiary at any time. If you don’t, your RRSP will be converted to cash and taxed as income in your final year and added to your estate to then be subjected to the inheritance tax.

If you don’t have a will, it will be up to the government to decide how to divide your estate. You should check how your province divides your estate as different provinces follow different guidelines. Often, your spouse and/or children will get everything. If you want to leave something for siblings, friends, charities, your community, university, or any other person or thing, you’ll want to put a will together. If you are looking for some ideas, you should search to see what unusual things people have left in their wills.

 

Interest Rates – Controlling the Economy

interest rate

If you’ve ever borrowed money from a bank, you’re probably familiar with the Bank Of Canada’s (BOC) key interest rate. It’s the interest rate the BOC sets on loans banks must pay on money they borrow from each other, that ultimately sets the cost of borrowing money for all Canadians. And this is subtly very important because our economy works by people investing in ideas and realizing business opportunities, both of which require money and create jobs.

The higher the interest payments on a loan, the more risky loans become. In the 1980’s, interest rates were near 20%, meaning you would pay interest of $20 per year on a loan of $100. Compare the 1980’s to today where interest rates are at a near record low of 0.75%, or 75 cents per year for a $100 loan. It becomes clear that buying a home or starting a business would be virtually impossible in the 1980’s for a lot of people who have done just that today because of much lower interest payments on loans. Money was just too expensive in the 1980s.

A rock bottom interest rate is the biggest reason for Canada’s housing market being as frothy as it is. If you look at interest rates over the last 25 years, you’ll see that the steady decrease in the interest rate over the decades matches an equally steady increase in the cost of a home in Canada. At 20% interest in the 1980’s, you would have paid the banks several times the value of your mortgage amount by the time you finish paying off the home. Today, you just pay twice the value of your mortgage, if that.

Being able to control interest rates is a powerful tool used by the BOC (and the Federal Reserve in the US, and other central banks around the world) to help steer the economy. It is one of several tools the BOC has at its disposal in managing the Canadian economy and financial system.

The BOC’s key interest rate is the interest rate that banks use when they borrow money from each other, otherwise known as the over night rate.

Banks will transfer billions of dollars between themselves throughout the course of a day. They will conduct transactions on behalf of their many clients, at different times during the day (as the value of the Canadian dollar fluctuates), and across different currencies. As a result, at the end of a business day, their numbers typically don’t add up. Some banks end up with more money than they should, others end up with less.

To make sure they have enough money available to conduct their near-term business, banks will typically borrow from each other at the end of a day.To minimize the risk of banks defaulting, the BOC dictates that they must have a certain amount of cash on hand, to prevent 2008 American-style bad loans undermining the whole system. So often banks need borrow money just to conform to BOC regulations.

The money banks borrow from one another at the end of the day is what the key interest rate actually applies to. The over-night rate doesn’t directly apply to anyone but the big financial institutions. Because banks are for-profit organizations, they will always pass down the key interest rate to all their other interest rates, such as mortgage rates, but with extra interest added for them to make profits.

Thus, by controlling the interest rate on the main source of money for financial institution funding, the BOC is able to determine interest rates for everyone else downstream, because banks will always lend out money at the current interest rate, plus a little extra for the banks themselves.

When I first discovered the great power the BOC wields, I wondered why the BOC just doesn’t keep interest rates at 0% to make money more easily available to everyone. But unsurprisingly, the more you know, the more you realize how important, complex and entwined the economy is.  The short answer to why interest rates aren’t at 0% is because that’s how bubbles happen, and bubbles have the potential to devastate a country’s economy. Witness the housing bubble in the US that popped at the end of 2008.

The problem is that when you make an asset easy to obtain, the risk of everyone buying it and inflating its value to unjustifiable levels increases. From the Dutch tulip crash in the 17th century, to the great depression of the 1930s, to the dot-com crash and the great recession of 2009, bubbles have wrecked havoc on economies, decimated whole industries and left millions without jobs or homeless.

It is for this reason that central banks around the world don’t want to make money free for banks to borrow, but don’t want to make money too dear either. It is a delicate balancing act.