Sebastien is a 27-year-old professional in his first career position, with a BAC.
Sebastien is dealing with paying off 2 types of student loan debt (Student Line of Credit and Student Loan), totaling about $15,000.00. He is currently renting a 4.5 apartment and is concerned with how best to move forward.
What is the best move for a 27-year-old single professional? Buy a property of some type? Continue to rent and invest in the markets? How can he know which direction to move in when there are still so many unknowns in the future?
Sebastien does have some flexibility in his finances- but in addition to rent and loan debt, he has a car lease and other regular household expenses (food, electric, etc). There is room to move, but not too much.
Understanding your debt
With so many nails sticking out, how do you know which one to hammer first? For Sebastien, the most important step was understanding and mastering his debt. The key to his debt lies in a fundamental between his two student debts. The Student Line of Credit interest is non-tax deductible. The Student Loan interest IS tax-deductible. Right away we can prioritize payment of the line of credit as the #1 priority. The Student Loan has a 10 year payment window, and we can set up a payment plan to hit that target while leveraging the tax-deductible qualities.
Once a budget is in place to tackle those debts, we can now move forward with a clear picture of the situation in future planning. NOTE: One key thing to avoid is re-consolidating your student loan, which eliminates the tax-deductible characteristic and increases interest as well… beware!
Whether working towards a fixed target, or maintaining flexibility, there are viable paths forward in either direction.
Once the debts are under control, we can tabulate the ongoing expenses and account for reasonably foreseeable single event costs and get a firmer picture of what is left to allocate towards future goals.
People generally tend to underestimate those incidental costs - we forget the little things that can add up right under our noses. Being thorough and realistic is critical to realizing a viable budget.
Sebastien is not married yet, and still too early in a relationship to consider it heavily in his financial planning. Because of this, he decided that in the short term at least, he would like to maintain his flexibility for the time being but also aim to be ready to put a down payment on a home in the next few years. What can he do?
The solution is to live as though you own. What is the cost of a property you can realistically see yourself in? What can you afford right now? In Sebastien’s case, he could probably afford a condo at about $200,000.00 or so, accounting for his current salary, expenses and debt level. That number is determined by the amount of monthly mortgage cost he can afford based on his current available monthly funds in his budget.
Basically Sebastien has to take the rent he pays currently, deduct that from the foreseen mortgage cost, and invest the difference. In his case, his total obligation as an owner, accounting for mortgage, property tax, school tax, electric, insurance, maintenance, etc would be around $1298.00/month. His rent and electric currently are $783.00/month. This means that according to the ‘Live as though you own’ plan, he should be investing about $515.00/month.
That $515.00 a month was invested into an RRSP, with any tax refunds resulting from that being put into a TFSA.
How is Sebastien doing?
Things are going pretty well for Sebastien! Now 30 years old, he has been promoted and now makes $50,000 a year, and that budding relationship blossomed into an engagement.
So, what happened with Sebastien’s finances if he stuck to the plan?
Thanks to the ‘Live as though you own’ budget, Sebastien now has $25,696.00 invested in RRSP’s and TFSA accounts. That is just sticking with his initial salary from 3 years ago (he needed to pay for a ring after all).
Now, finally ready to actually take the step of buying a property, he is in a great position to do so. Leveraging the Home Buyer’s Plan, he can withdraw the RRSP investments tax free. Withdrawing the money from the TFSA account has no consequence so no problem there. So what does that mean? Ultimately, Sebastien is now able to put a 10% down payment on a $250,000.00 dollar property after just 3 years. Or, if he chooses not to buy a home at all, he now has the RRSP investment and also the TFSA money available to invest as he sees fit. Even if he never buys a home, if he keeps up with the plan, in 20 years he will have over 250,000.00 of investments assuming a minimal 5% annual return, all based on his salary and debt when he was 27. Every raise he gets from then on is above and beyond this amount too.
Moving forward, whether you rent forever or own, there are many great options to grow your wealth, and clearly, both are viable financial choices.