Unburdened by school, a mortgage and dependants, your 20s are a time of freedom and exploration. Young millennials who chose to save early will thank themselves later – in the near and not so near future. At this point, your most valuable asset is the time value of money.
The first step to achieving your goals – whether it be travelling, buying a home, or retirement (start now) – is to learn how to stick to a budget.
Budgeting will involve some compromises, but “the ability to postpone gratification is a huge indicator of future success,” says Certified Financial Planner (CFP) Peter Andreana, a partner at Continuum II.
Start with the essentials
“The core of your budget is just adding up everything that you need to do to keep a roof over your head, keep the lights on, feed yourself, take care of your basic needs,” and manage debt payments, says Karen Wallace, Morningstar’s director of education.
“A very challenging issue that we've got across all of society, not just millennials, is that the world has been built on consumerism,” says Andreana. “It's all about choices. When you want to hang out with friends, he adds, and go out for dinner, “where you go has a huge impact on how much it costs.”
“It’s really important to weigh purchases,” says Wallace. That often means reasoning: “This is the vacation we want to take, but this is the vacation that we should take,” she notes. Budgeting, according to Wallace, is “knowing when to make a more prudent decision and when to splurge.”
A big first step is as simple as making conscious decisions about money, says Andreana. “You've got a credit card, you've got your bank account, you've got some cash in your pocket, you've got PayPal, Stack Pay and your Amazon account.” Spending is easy, he observes, but keeping track of expenditures is hard. It can be made easier with apps, such as Mint and YNAB, which automatically import transactions from your bank and credit cards, providing a clearer picture of your purchases, he says.
Building an emergency fund is an effective way to prevent borrowing, Wallace adds. “If you set aside enough cash to cover three to six months of essentials, that could really help if you lose your job,” she points out. “If you have credit card debt, it’s still important to have an emergency fund because you wouldn’t want to use a credit card to pay down the emergency.”
Decline debt
Credit cards can cause poor spending habits. One third of indebted millennials in Canada often make purchases on impulse, according to a Manulife Bank 2019 survey.
“Anytime there's consumer debt, put all hands on deck to pay off that consumer debt. No one should really be carrying credit card debt,” says Andreana.
Credit cards carry toxic interest rates and should be paid off in full every month (if you’re stuck with a balance, go with a low interest line of credit from your bank if you can). Debt should be avoided whenever possible, however, with one exception.
“The only caveat is if there's a great employee retirement savings plan at their company. They should absolutely be taking advantage of that because typically there's some sort of matching component. If the employee puts in $100 and the company matches $100, that’s a 100 per cent rate of return on your money.”
Under the right conditions, investing is a faster way to build wealth than paying off debt. “A lot of financial planners recommend paying down your student debt and investing for retirement at the same time,” says Wallace. If it takes you 10 years to pay off your debt and you do not save during those years, you will have no savings going into your 30s. Make sure that if you decide to save, it is invested for the long-term, she says.
Mastering the tax game is a must
The government has designed tax shelters to encourage Canadians to save. Andreana describes TFSAs and RRSPs as “baskets” that contain your investments.
You can put $6,000 into a TFSA for 2019, plus about $5,500 for most other years since you turned 18, says first vice-president, portfolio manager and CFP Stan Tepner of CIBC Wood Gundy. Check out an online TFSA calculator to find out your exact limit.
RRSPs work differently. “You could have been earning income selling ice cream when you were 10 years old and claimed it on your tax return. Let’s say you made $1,000 doing that. Eighteen per cent of that is your RRSP limit for that year. If you don’t use that, it just accumulates,” Tepner says.
It’s likely that a 22-year-old graduate in 2019 has a TFSA contribution limit of $32,500 and an RRSP limit of only a few thousand dollars. Twenty-somethings should not feel bad about being unable to reach these limits, as generally, it would be difficult to do, “especially for millennials,” says Andreana.
If you’re saving for “a short-term goal, like a big trip coming up in 12 months or 18 months, then the TFSA can be a great spot to do that,” says Andreana. Don’t take any risk with this money, he warns. The key is to make sure that if you “need to save up $2,000 for that trip, that money is still going to be there and it's not going to be decreasing with the market,” he says.
Appropriate investments for short-term savings are low-risk bonds, GICs, or cash, says Tepner.
If your goal is to save for a home, Andreana recommends using the RRSP because, “the homebuyers program is a government program that allows first-time homebuyers to take out $25,000 from their RRSP and then have 15 years to repay that money,” he says. If your employer matches your contributions, “you can save for a house way faster.”
When it comes to saving for retirement, says Tepner, if you don’t get matching contributions for your RRSP from an employer, maximize contributions to your TFSA. “You can put money into your RRSP if you have contribution room. You don’t have to claim the deduction for years, so it’s not a bad strategy to put the money in, let it grow on a tax deferred basis and don’t claim the deduction until your income is high enough to trigger a larger refund.”
No point to gamble now
Tepner advises investing in a broad portfolio of stocks when thinking ahead to retirement.
"We’re not trying to pick winners because no one can pick winners,” says Tepner, “You can get lucky with the occasional bid, but usually you won’t.” Over time, if you own enough variety, he comments, “that’s the way to win.”
Andreana remarks that investing is all about the “habit” of saving. People who don’t save may be happier in the moment, but in the long run, they definitely are not, he says.
