Raising a family can prove to be more expensive than you realized. What's the best way to balance spending and saving?
Warren MacKenzie, founder of Weigh House Services, a Toronto firm that provides financial advice without selling investment products, joined us to answer readers' questions.
The following is a transcript of the hour-long discussion, or you can read the Q&A as it originally appeared in the window below.
CanucksAbroad: I would like to ask where financial planners get their long-term returns from stocks and bonds from? It seems given recent stock market performance that buy and hold investors have not done nearly as well as those expected returns despite 20-years of fiscal stimulus and loose monetary policy. While bonds have outperformed stocks over the same period, which is not supposed to happen.
Warren Mackenzie: Re the question that came in last evening:I believe most financial planners make their estimates based on long term average rates of return. During the past 50 years the average return on the TSX has been about 8%. To get to an average rate of return you have years that are above average and years that are below average. Given the uncertainty in the world today we believe we may be in for a period of below average rates of return. Some of the most experienced forecasters are projecting that developed market equities will be about 7% over the next 10 to 30 years. (If you pay 2% management fees that would yield a net return of about 5%). The average return on bonds over the past 30 years has been about 6% part of that return is based on the fact that interest rates have fallen from 18% to 2% during this period). A sensible estimate for the rate of return of bonds is to look at what the 10 year Canada bond is currently paying – about 2%. Many experts believe we are now in a secular bear market and buy and hold investors will never do well in a secular bear market.
Andrew: Is it worthwhile trying to save money when you have kids if you're barely keeping up with costs? Or is it better to just avoid going into debt?
Warren Mackenzie: It is difficult to save money when you have a young family - but you absolutely need to avoid going into debt. If you can't make ends meet you have to reduce your lifestyle.
Bill: Is there a general figure (per year cost) that is generally accepted as a baseline cost for raising a child in Canada to say age 18 or post University?
Warren Mackenzie: There is a huge range of costs - some would say about $10,000 per year, (Money Sense estimates it at $10,000 per year) and those who want to send their children to private schools could be looking at an additional $25,000 per year.
John: Hi, my partner and I are just starting a family and are trying to get on a good financial footing...what is the best thing for us to do - pay down our debt or invest in RRSP/RESPs?
Warren Mackenzie: It makes a difference whether or not the interest is tax deductible - but generally - since you can accumulate your RRSP room - I would pay down debt first.
LakeDweller: My wife and I are in our early 30s and raising 3 young children. We have about $100,000 in equity investments and $300,000 in home equity. With interest rates so low, why should I pay down my mortgages (primary and rental) when I have them both 50% off and I feel I can get better return with other investments.
Warren Mackenzie: It depends on your level of comfort with risk, in these markets I would pay down mortgage (although many experts believe it is an excellent time to invest). But if you are going to have a mortgage and also investment you want to do it in such a way as to make the mortgage interest tax deductible. It also depends on the buffer you have between income and lifestyle expenses.
Herb: With interest rates this low, should I invest in the RESP to get the grant or pay down more of my mortgage?
Warren Mackenzie: I would pay down the mortgage. This is a clearer choice than the question of borrowing to pay into an RRSP because you do not get a tax deduction with the RESP.
Christina, Globe and Mail (moderator): Warren, do you have general advice you give people about what to consider when planning on starting a family?
Warren Mackenzie: The most important thing is to have a financial plan that shows how things will work out financially. The decision to have children involves both emotional elements and financial elements and when you can isolate the financial elements it is easier to deal with the emotional aspects.
LMA: I am due in a few short weeks with my first :) My husband and I are both employed fulltime and our only debt is our $220k mortgage. I have a great pension plan with my work (govt) and my husband is contributing to an RRSP (self-employed), but now that we are starting a family what is your advice for ways to save for our future and our child's future? I plan to start up an RESP immediately but are there other products out there that could be useful? Currently, with any extra $ (which is rare) we are making lump sum payments on our mortgage because there is no penalty to do so.
Warren Mackenzie: Congratulations! It is very important that you open up the RESP to get the advantage of tax free compounding and the government grant. It would be important to ensure that you both have disability insurance. In these markets - unless the interest is tax deductible I would pay down the debt first. To clarify - I would open the RESP and pay down the mortgage before looking for other investment opportinities.
Liza: What general advice to you give to people who are recently separated and faced with going from a dual to single income household and primarily parenting 2 young children?
Warren Mackenzie: You need a financial plan that shows how things are going to work out. You have enough stresses without the additional stress of worrying about money. The financial plan will show you what you need to do (maybe it will show you need a reduced lifestyle - or maybe it will show you have no worries) but the plan is necessary to remove the uncertainity and show you what you need to do. What age are your children - depending on their age it may be important to be open with them.
Michael: In light of today's very low mortgage rates, I would like to understand why it is best to pay down non-tax deductible debt before investing. We are locked in a 5 year 3.19% mortgage and generally maximize RRSP contributions prior to paying down the mortgage. (I do not have a strong company pension plan.) RESP contributions are next down on the list prior to mortgage repayment. Is this strategy not advisable?
Warren Mackenzie: It would make no sense to be using your surplus cash to invest in bonds which are earning less than 3.2% therefore if you are investing it would be to go into equities. It is my view, becuase of the uncertain times, I think it is more important to protect capital than try for a higher return. If you are in the top tax bracket you would need a 5% pre tax return to have about 3.2% after tax return (which you are effectively getting by paying down the mortgage debt) - and this is a risk free return.
Amelia: Are there any potential downfalls to contributing the maximum grant-eligible amount to an RESP every year if funds are available? I would like to do this for my 1 yr old daughter but my partner disagrees with me.
Warren Mackenzie: I can not think of any reason not to do this. If the child does not go to a higher education institution the parents can transfer the RESP to an RRSP if they have the contribution room. Even if the spouse wants to put the money into a TSFA I think the RESP is a better bet - becasue of the government grant.
Warren Mackenzie: As a general point - people need to know the long term cumulative cost of a higher monthly payment. For example, if you lease a car and it has a few bells and whistles that cost an additional $100 per month it does not seem like much – but if that $100 went into an RRSP (and you also saved the tax refund) – in six years by the time you are ready to buy a new car you could have and additional $10,000 in your RRSP.
Manjit: Is it better to be part of a GROUP RESP plan or open up a RESP on your own, for example at a bank and manage the investment yourself?
Warren Mackenzie: I am not very familar with group RESPs. But I understand they are not very flexible and have some restrictions such as only being able to withdraw funds if the child goes into a four year program.
tm: I have three young children and my husband's business is not doing well and I am underemployed after taking a leave to be home with my kids . We have 200K in RRSP's and owe 95K on a 550K home. We have no other debt. We have monthly expenses of 6K and will soon have to either use our home equity or RRSP to cover expenses. What should we do?
Warren Mackenzie: You might be able to withdraw funds from your RRSPs at a very low (or almost zero) tax rate and if so you could use the proceeds to pay down the mortgage. You might have to downsize - painful as that might be. You need a financial plan to show how things will work out under different scenarios.
Eric: What is your opinion of the new movement toward Index investing in the mutual funds ?
Warren Mackenzie: Generally we believe the ETFs are a better option because the fees are lower - however the index investing is probably better than regular high fee mutual funds.
Guest: I have heard that it is a good idea to delay opening an RESP a few years after your kid is born because it has an expiry date. Is this true?
Warren Mackenzie: I think it would be better to open it right away to get the full benefit of tax free compounding. RESP accounts can remain open for up to 36 years and there is flexibility to transfer to other siblings or even to yourself.
Guest: Warren, You keep mentioning tax decutions on your mortgage interest. Are you suggesting some sort of Smith Maneuver? How can you ensure your mortgage interest is tax deductible?
Warren Mackenzie: I generally do not recommend borrowing to invest. But it makes no sense to have an investment portfolio of non RRSP investments at the same time as you have a non deductible mortgage. So if you do want to continue with the mortgage it might make sense to sell the investments - use the money to pay off the mortgage and then get a new mortgage and use the porceeds to purchase a portfolio of equities. - Since the mortgage money is being used to buy investments the interest would be tax dedcutible.
Guest: Childcare costs are very high in Toronto - especially for my husband and I that both earn $75M each. When maternity leave commences and then the impending child care costs -- do you have any tips on how to cope with an additonal $1400+ a month in childcare costs? i.e. tax deductions etc
Warren Mackenzie: I agree these are very high costs. I think it is worth while to find out how much you really make after deducting all expenses such as tax, childcare costs, transportation, etc. The only other advice is to have a budget and a financial plan that shows how things will work out. If it does not work out as you desire you have to reduce expenses or find a way to increase income. But you must not follow the easy route of borrowing to maintain your lifestyle.
Andrew: What do you think of a strategy of putting money into an RESP, while leaving contribution room in an RRSP in case my child does not go into higher education?
Warren Mackenzie: Sounds like a sensible plan - however it depends on your income tax bracket now and in the future. If you are in a high tax bracket the tax refund might be more than the government grant.
Kate: What's the maximum that I can contribute to an RESP per year and still get the government grant on the full amount?
Warren Mackenzie: If the RESP is opened and payments have not been made so that there is accumulated 'grant room' the grant will be paid on the first $5,000 per year until the surplus grant room has been used up. But normally the grant is payable on the first $2,500 per year per child.
Christina, Globe and Mail (moderator): Unfortunately we are out of time but our guest has been kind enough to offer readers the option of contacting him personally. For those whose questions were not answered, how should they contact you?
Warren Mackenzie: Readers can go to our website at www.weighhouse.com or contact me at info@weighhouse.com.