For the select population who saw their savings grow during the pandemic, experts recommend creating a financial plan that starts with debt repayment (Getty Images/mapodile)
During the past year, we have travelled less, commuted less and spent less on entertainment.
According to Statistics Canada, Canadian households saved 12.7 per cent of their net income in the fourth quarter in 2020, up from just two per cent at the end of 2019.
Some people fortunate enough to be working remotely and in industries largely unaffected by the pandemic have also found themselves saving more due to lowered cost of living.
A Scotiabank study indicates the majority of Canadians are being more cautious with their money, with 58 per cent of respondents putting extra money away and 38 per cent contributing to investments.
“Their spending has been dramatically reduced,” says D’Arcy McDonald, senior vice-president, day to day banking, retail deposits and investments, advisor deposit services at Scotiabank, of this select population. “They’re probably sitting on balances in their account they may not have seen in their lifetime. I think it’s a pretty dramatic shift in savings.”
For those fortunate enough to land in this position during these times, experts recommend taking advantage of this opportunity by creating a financial plan that starts with debt repayment.
1) PAY DOWN CREDIT CARD DEBT
In Canada, average consumer debt rose to more than $74,000 by late 2020. And, while credit card use returned largely to normal by end of year, credit card payments did not increase.
“That is obviously job number one: whatever money you’ve got sitting around, pay off the credit card,” says CPA David Trahair, a personal finance expert and author of CPA Canada’s free practical guide, Survive and thrive: Move ahead financially after losing your job.
Trahair says the pre-pandemic data shows that around 56 per cent of people regularly pay off their cards, leaving 44 per cent who are unable to do so. If you find yourself with extra savings during lockdown, this repayment should be your first stop. “That’s the best investment you can make, to pay down personal debt [with] double-digit interest rates because you achieve an after-tax rate of return of whatever that [number] is,” he says.
2) CREATE AN EMERGENCY FUND
With consumer debt hitting $1.99 trillion in the second quarter of 2020, some Canadians have an opportunity to better their situation with this extra windfall. And an important step to financial security is creating an emergency fund, explains McDonald. “The most obvious option is to keep a cushion of emergency savings available depending on the length and the shape of the [pandemic economic] recovery,” he says.
Trahair points out that an emergency fund should be both protected and liquid to ensure quick and easy access to your money. According to him, an unused line of credit is one of the safest options for those who are financially well-off. “An unused line of credit is a beautiful emergency fund because it doesn’t cost you anything if you’re not using it. It doesn’t require you to have cash sitting in it, earning no interest.”
It is better than having months of savings sitting in an unused bank account, he adds, which for many is an unrealistic situation. However, reducing debt overall is an important way to invest your money.
Bruce Ball, FCPA and CPA Canada’s vice-president of taxation, also says you want to be cautious of acquiring more debt. “If you are in a difficult situation later, you are increasing debt that will have to be repaid,” he adds.
Contributing to an RRSP or TFSA is another way to contribute to an emergency fund.
3) CONTRIBUTE TO INVESTMENTS
RRSP or TFSA savings are also the next logical step in your financial plan, as you can invest your savings tax-free, says Trahair, who uses a spreadsheet in his Enough Bull course to help clients determine which plan is best for them.
Depending on your own personal financial situation, “topping up their RRSP contributions is a no-brainer,” he says of those who have room to contribute, are in a higher tax bracket and who likely have a six-figure salary, especially if their goal is retirement.
For those early on in their careers, not yet thinking about retirement, but about first-time home ownership down the line, Trahair sees a TFSA as a good saving option. This way the money you earn in a TFSA remains tax-free in most situations, he says.
Whichever investment options you choose, experts advise to maximize your contributions if possible. “If your job has largely been not impacted, you want to reduce your tax burden by making an RRSP contribution or a TFSA contribution on top of your kid’s RESP,” says McDonald. “Make sure that your registered plan opportunity is fully exploited so that can further leave a bit more savings and you can move back into other things,” such as other investments or spending options.
Whether you have just enough to begin paying down your credit card debt, creating an emergency fund or maxing out your RRSP contributions, putting your extra savings towards your debt is the best choice for your future, say experts. McDonald adds that no matter what you decide, ensure you create a proper financial plan, so you don’t come out of the pandemic worse off than when you went into it.
PLANNING FOR THE FUTURE
Refer to CPA Canada’s COVID-19 financial literacy resources for help on how to manage your finances during the crisis and beyond. And, with a variety of investment options available, find out if an RRSP is right for you and when you should start contributing to one.