Net worth and retirement savings

At the beginning of every month, I tally up my assets and liabilities, and calculate three financial snapshot numbers:

• Net Worth - This is my total assets, including home, car, retirement investments, and liquid savings, minus my total debts, including mortgage, revolving debt, and student loans. I use this to represent my "full" financial picture, and it tells me how much I really "own".


• Net Investable Assets - This is my total financial assets, including retirement investments and liquid savings, minus my total non-mortgage debt, including revolving debt and student loans. This represents my full financial picture in monetary terms, and basically tells me how much money I really have available, without selling off possessions like our home or our car.


• Net Liquid Assets - This is my total liquid savings, minus my total non-mortgage debt, including revolving debt and student loans. This represents my full financial picture in liquid monetary terms, and basically tells me how much money I really have immediately available, without liquidating my retirement savings or selling off possessions like our home or our car.

There's a lot of talk about exactly what assets belong in the calculation of net worth. This discussion seems to center around how you intend to "use" your net worth number. For example, if you want the number to express how much money you really have on hand today, then you probably won't consider your home as an asset (or your mortgage as a debt), since your plans likely don't include liquidating your home for extra cash. If, on the other hand, you want the number to represent your progress toward early retirement, then you likely would include your home (and mortgage), as well as your retirement investments.

I've seen some people estimate the tax penalty they would pay for immediately liquidating their retirement savings, and enter the post-penalty balance remaining as an asset in their net worth. This helps to represent retirement savings as a "right now" number. If you were facing financial ruin, and needed to liquidate everything you own, then you might very well sell your home and take the tax hit for cashing in your retirement savings.

This has got me thinking about my own calculations. I currently include my retirement accounts in my net worth and net investable assets, but not in my net liquid assets. I'm wondering if it makes sense to include an after-penalty retirement balance in my net liquid assets, to represent my total "immediate cash available".

I realize that most of the value in tracking net worth comes from keeping the calculation the same, and watching the trend over time that results from your financial behaviour. Therefore, it would seem that I'm better off keeping things as they have been, and excluding retirement accounts from net liquid assets. I still think I'll work out the after-tax balances, however, to feed my own personal hunger for data.

What do you do? How do you account for your retirement savings when figuring your net worth?

The market can make you crazy.

Interesting Money posted recently about his nasty habit of obsessively checking his investment balances. I have to admit that I share this tendency to over-track my retirement accounts, whether out of excitement, concern, or morbid curiosity.

In spite of my daily ritual of checking my account balance, I've generally been able to keep a cool head during the market turmoil that started last summer. I haven't done anything drastic like selling off my investments or switching to an all-bond portfolio. In fact, I seem to have been pretty lucky with my timing in diversifying my asset allocation using low-cost index funds. Given my still-negative net investable assets, the single biggest factor in my net worth trend over time is my ongoing debt reduction. As a result, although investment performance does have an impact on my overall financial picture, this effect is often overshadowed by my progress in paying down my debts.

I was looking at my history of monthly snapshots at NetworthIQ, and thought I'd have a look at my retirement account history. Since I started tracking my monthly progress, my retirement balance has gone from $36,087.43 to $46,914.08, an increase of $10,826.65. That's not a bad balance growth, but let's not forget that I've been steadily contributing to my RRSP during this time. In total, I've added $10,487.76 in book value (meaning actual out-of-pocket contribution value) to these accounts, so my actual investment "returns" really amount to $338.89. If I factor in my employer's matching contributions of $1,856.03 over the same timeframe, I'm actually behind by $1,517.14.

To get a (very rough) idea of the rate of return represented by these numbers, I'm adding half my contributions to my April 2007 balance, and using that as my starting amount. Therefore, I get the following 10-month rates of return:

• Without Match: $338.89 / ($36,087.43 + $5,243.88) = 0.82%


• With Match: ($1,517.14) / ($36,087.43 + $6,171.90) = -3.59%

This is equivalent to annual rates of return of 0.98% and -4.29%, respectively.

Even the positive 0.98% is not exactly kicking inflation's butt.

As I look at these numbers, I remind myself constantly of the words of encouragement offered to any long-term investor:

• The real asset at this point is the stock/fund shares themselves, not their dollar value. These investments are generating dividend and interest income, which is in turn being used (through a DRIP) to buy more shares.


• The 4.29% "loss" I see when I take into account my employer's matching contributions is currently only a loss on paper. Provided I don't get cold feet and sell now with prices at their current lows, there's a very good chance that I'll more than recoup this drop over the next couple of decades.


• Even though my investment returns over the past 10 months have been poor, I'm still nearly $11,000 ahead of where I was last April. That's nothing to sniff at.


• I wish, oh how I wish, that I had some extra cash lying around to snatch up some of the investments that are currently "on sale".

I'll say this much: it's certainly shaping up to be an interesting year.

Rebalancing for the first time

My employer allows us to direct up to 85% of our year-end incentive into a group RRSP to reduce our taxation on the bonus. Under this group plan, we can choose from a variety of low-MER mutual funds, or invest in the company's stock. I deferred a big chunk of this year's bonus into this plan, and then proceeded to transfer the balance into my brokerage self-directed RSP account.

As of last night, I had a large cash balance sitting next to my index funds in the brokerage account, and this morning I placed orders to use this cash to buy more units of my index funds. To determine how much of each fund to buy, I used a spreadsheet similar to Canadian Capitalist's rebalancing spreadsheet. Within a couple of days, these orders should be filled, and I will be the proud owner of a freshly rebalanced retirement portfolio.

Let's see whether my spotless record of timing the market continues.

Getting the most from a group RRSP

Canadian Capitalist has a nice post on the benefits of participating in an employer group RRSP. The gist is that, if your employer provides a match to your contributions, then you are leaving money on the table by not signing up for the plan. Many personal finance experts list this as a priority even while paying off debt: contribute enough to your employer's retirement plan (group RRSP for Canadians; 401(k) for Americans) to get the maximum employer match.

My employer has a group RRSP in which they match half of employee contributions, up to an annual maximum. In my case, the employer match is only available for purchases of the company stock. We also have a portfolio of low-MER mutual funds that we can contribute to through payroll deductions, but there is no match on these funds. Still, having an immediate return of 50% on my investment every two weeks is a great deal, even if it is all invested in my employer's stock. Unless the value of the stock suddenly drops by more than 30%, I end up ahead.

One of the benefits given by Canadian Capitalist is the up-front tax refund you get if you contribute to your employer's group RRSP through payroll deduction. Because you're making the RRSP contribution directly from your paycheque, your employer withholds less income tax, so the impact of the deduction is lessened. Plus, you aren't making the dreaded interest-free loan to the government.

Of course, this up-front tax refund also means you aren't in for a juicy refund cheque when you file your taxes in the spring, because you've already realized the tax savings. The RRSP advertising through January and February of every year is counting on the appeal of a big tax refund resulting from a lump-sum contribution to bring your money through the bank's door. However, if you've been contributing a portion of each paycheque all year long, you may not have this lump sum available.

There is a way you can "trick" yourself into giving yourself a refund for your group RRSP contributions. If you multiply your paycheque deduction by your marginal rate, and set up a recurring transfer of the resulting amount to an online savings account, then when tax season comes around, you will have a virtual tax refund sitting in this account.

For example, if you contribute $150 every two weeks to your employer's group RRSP, and your marginal tax rate is 40%, then you would set up a bi-weekly transfer of $60 to an online savings account. At the end of the year, not only will you have $3,900 (plus applicable employer match) in your RRSP, but you'll have $1,560 sitting in a savings account, as your reward for saving so well.

Early RRSP withdrawals

I seem to have savings and taxes on the brain. I'm not sure whether this is because of yesterday's budget announcement, or Friday's RRSP contribution deadline. Either way, if you've been conscious at any point this month, you've probably been urged by someone to throw those piles of extra cash you have lying around into your RRSP.

While everyone's talking about getting money into RRSPs, I thought I'd look at the ways it's possible to take out your RRSP savings before retirement. Specifically, the HBP and LLP offer a way to do this when buying your first home, or pursuing post-secondary education, respectively.

Home Buyer's Plan

If you are a first-time home buyer, you can withdraw up to $20,000 from your RRSP, with no tax penalty, provided this money goes toward the purchase of a home within a specified time frame. You then have fifteen years to pay this money back in annual instalments into your RRSP. If you miss a year of catch-up contributions, then the amount of missed contributions is added to your taxable income, and taxed at your marginal rate.

Example

Suppose you withdraw $15,000 for a down payment under the HBP. You will then be required to pay back $1,000 per year to make up for the withdrawal over the next 15 years. If you miss a year, then $1,000 will be added to that year's taxable income.

You can look at this withdrawal as a loan you make to yourself from your retirement savings. There is no interest on this loan, except for the lost compounding on the funds you withdrew. If you withdraw $20,000 and pay it back over 15 years, then the value of those funds will be less than $20,000 in today's dollars. Hopefully you will make up the difference in home equity, but this is far from guaranteed.

Read more details on the HBP here.

Lifelong Learning Plan

If you are (or your spouse is) enrolled in (or planning to enrol in) post-secondary education, then you can withdraw up to $10,000 per year (up to a plan limit of $20,000) from your RRSP to cover educational expenses. You then have 10 years to pay this money back into your RRSP. As with the HBP, any missed catch-up contributions will be added to your taxable income.

Read more details on the LLP here.

Repayment

To pay back a withdrawal under either of these plans, you must complete Schedule 7, and include this with your tax return. The Schedule 7 designates a portion of your annual RRSP contributions as repayments to the HBP or LLP. These designated contributions will then not be included as deductions on your tax return.

Example

Suppose you have withdrawn $15,000 under the HBP, and make two RRSP contributions, one for $1,000 and one for $5,000. You would use Schedule 7 to designate $1,000 as an HBP repayment, and only the $5,000 would be included as a deduction on your tax return, even though you technically contributed $6,000 to your RRSP.

Note that the net tax consequence of making the $1,000 repayment and another $5,000 in RRSP contributions is to reduce your taxable income for the year by $5,000. This could also be accomplished by claiming the entire $6,000 as a deduction, and "missing" the $1,000 repayment: you would reduce taxable income by $6,000 for the contribution, and then increase it by $1,000 for the missed repayment.

Unless it bothers you to be "in arrears" on your repayments (to yourself), there doesn't seem to be much reason to claim a formal repayment on your tax return. The key is to ensure that your total RRSP contributions each year of your repayment period are greater than your required repayment amount.

RRSPs and tax withholding

As we near the February 29 RRSP deadline, lots of posts are popping up regarding RRSP contribution strategies. Million Dollar Journey has an interesting post that derives a formula for calculating an appropriate RRSP loan amount. He recommends a target loan amount that is equal to (or less than) the total tax refund that would result. This means that, once you receive your tax refund, you can immediately pay off your loan in full.

The nice thing about this approach is that it essentially allows you, if you have the contribution room, to use your 2007 tax refund as a 2007 RRSP contribution. In his example, where you already have $5,000 in 2007 contributions, with a 40% marginal rate, you will be expecting a $2,000 tax refund. By taking out a $3,333 loan, and using it to make a $3,333 contribution before February 29, your total tax refund will increase to $3,333 (the amount of the loan). You therefore have no new debt (since the refund and the loan cancel each other out), and you have $2,000 in new retirement savings (from contributing your original 2007 refund) plus an additional $1,333 that basically came out of "thin air". Best of all, this is a trick that you can repeat year after year. Leveraged investing at its best.

My employer has a less-than-intuitive approach to income tax withholding, mostly with respect to our year-end bonus. Any bonus for which we qualify is included in the first pay of the new year, rather than the last pay of the year. We have the option to defer up to 85% of the bonus into a group RRSP, and I've taken advantage of this option each of the past three years. This has an unexpected (at least to me) impact on tax withholding.

Take this year, for example. I deferred my bonus with a $6,000 RRSP contribution on January 10. This will be claimed as a deduction on my 2007 tax return, but my employer adjusts my tax withholding as if it were a 2008 deduction. Therefore, every year I need to match my previous year's contribution in order to avoid paying taxes (failing to do this last year landed me with a $1,400 tax bill).

It took me a while to wrap my head around this one, but now that I'm aware of it, it forms a crucial part of my RRSP contribution planning.

What are your RRSP or other tax planning tricks?

This month has 29 days

In addition to being an Olympic year, 2008 is a Leap Year. That means your savings accounts will earn an extra day's interest, but your debts will also accrue an extra day's interest. Most significantly, this year February has 29 days.

For those of you here in the Great White North, a Leap Year has a specific impact on tax planning. The deadline for RRSP contributions in a Leap Year is February 29, not March 1. This means that, if you make a contribution after February 29, it will be counted toward your 2008 (or later) taxes.

February 29 is a Friday, and will therefore be a very busy time in most bank branches you might choose to visit. Therefore, it's probably a good idea to set things in motion for any last-minute RRSP contributions before the 29^th, so that you don't find yourself late to the party.

A dose of reality

It's been a bit painful watching the slide in the markets over the past month. So far, my retirement investments have dropped by more than $3,000 in 2008. That's not an easy thing to watch. Granted, I likely have 30 years of market growth to get my money back, but it's hard not to cringe at such a big drop.

Until last fall, I was an extremely passive investor. That's not to say that I had any kind of diversification or strategy; quite the opposite. My approach to investing was to have 6% of my bi-weekly paycheque deducted before taxes, and used to buy my shares of my employer's stock in a group RRSP. I left the shares where they were, so technically I was a "buy-and-hold" investor, but I was really walking a tightrope by holding all of my retirement savings in my employer's stock.

In September, I diversified my investments using low-cost index funds. Since then, I've generally seen better performance than in my old, concentrated portfolio, and I'm very happy with the change. However, it's frustrating to have made a measured, informed decision, and still end up losing so much ground.

John Bogle says that anyone who can't imagine a 20% drop in the markets shouldn't invest in stocks, and my gut reaction to my recent investment performance really underscores this point. I've lost about 8% of my portfolio's value in less than three weeks, and this is turning into a great test of my ability not to panic. I'll be invested in these markets for decades, so I need to learn how to weather some bad times.

The silver lining is that, with dollar-cost-averaging through bi-weekly contributions, I can likely look forward to a period of low-cost purchases in the near future.

Making sense of pensions

Reading Tim's post last week at Canadian Dream: Free at 45 about his company's new pension plan got me thinking about the components of my own retirement plan.

I contribute to an RRSP. That's it.

My employer offers a defined-benefit pension plan, but I have not enrolled. The big reason is that I don't know how long I will stay with the company (who does know this?). Of course, there's also the fact that I really don't understand pensions all that well. I know the contribution rates, and can calculate what my future benefit would be under certain assumptions, but I'm having a hard time working out just how the pension plan stacks up against the option of investing my would-be contributions myself.

With a pension, in addition to your monetary contributions to the plan, you're making a time and service investment to your employer, so it makes sense that you would get more out of it than just the dollars you've put in. If I make the $3,250 annual contribution to the pension plan, then 20 years of service gives me a benefit of roughly $20K per year, whereas an annual return of 7% on the same amount invested in the market for 20 years comes to $146K, which, assuming 5% investment income, could sustain $20K per year for only 8 years. That's a big difference.

What I've realized during my hashing out of these scenarios, is that I'm not sure how to handle a number of the assumptions required to make these projections. How do you forecast something like an RRSP contribution limit? Marginal tax rates? Pension contribution limits and YMPE? Do you assume these factors will remain constant, or do you apply some sort of inflation factor over time? I'd appreciate your thoughts on this.

Perspective on my market timing

Well, Ms. Loonie and I got back last night from our weekend trip to Michigan. We had a great time, and saw some beautiful countryside. The area we visited is actually around the same latitude as cottage country in northern Ontario, so we got to see some great fall colours and an incredible view of Lake Michigan. It's an odd sensation driving "down" to the United States and ending up hundreds of kilometers north of where you started.

After cashing in the company stock in my RSP, I wrote about the subsequent jump in the value of the stock I had just sold. Now that I've completed my re-allocation into low-cost index funds, I've had another look at the relative performance of my current investments versus the stocks I used to hold. Since the end of September, my retirement investments have grown by 2.6%. My old portfolio, on the other hand, has dropped by 0.2% (essentially holding steady). All-told, I'm up by around $1,000 over where I would have been had I held onto my individual stocks.

That's encouraging.

I know that these short-term returns mean very little in the context of my overall retirement plan, but they have illustrated just how little my initial "loss" of a few hundred dollars actually means in the grand scheme of things. Throw in the fact that my retirement investments are now heavily diversified, and I'm feeling pretty good about my decision.

Fun with funds

Good news, everyone. Effective tomorrow, I'll be yammering a lot less about my goal of diversifying my retirement savings. This morning, I placed orders to buy the five index funds I've had my eye on. These index funds come in two flavours: e-Series and Investor Series. The e-Series versions have a lower MER, while the Investor Series versions have a shorter minimum holding period (30 days vs. 90 days). I went the e-Series route, since I won't be touching these investments within the next 90 days. I'm aiming for a yearly review of my asset allocation in the future, so the expense ratios are more important to me than the redemption period.

Of course, the stocks I sold yesterday continue to climb, so I'm hoping that I'll enjoy the same buoyancy once I'm finally invested in the index funds.

My investing choices at this point are not being driven by emotion, but they're certainly affecting my emotions, as I watch these fluctuations. It's a little unsettling to be making these decisions, and I hope I'm choosing wisely.

Time will tell...

Market timer extraordinaire!

This afternoon, I finally sold my stock shares in preparation for the diversification of my retirement savings into index funds. I've been hemming and hawing over this for weeks, and I decided to stop trying to time the market, and just get the transaction over with.

So, with that in mind, I logged onto the brokerage website, and entered my "sell" orders. At 1:45pm, my 484 shares sold at $70.69 per share.

Fast-forward to the end of the day, and the stocks I sold have now closed for the day at $71.34 per share.

Consider me pwned.

I know my "loss" is only $316.42, which is peanuts in the scheme of my retirement plan, and since all these shares were purchased with a 50% employer match, my actual return on investment is still amazing, but it's kind of amusing to have such a jump so soon after selling.

I just hope that the index funds I'm buying into tomorrow haven't had the same kind of rally.

My RRSP transfers are complete

Last night, the last piece of my retirement savings was transferred into my self-directed RRSP account. This means that I can currently see the real-time status of my entire retirement portfolio by checking the balance in a single account. This will help me to keep closer tabs on these investments, and also give me more control over my asset allocation. I know that, in the spirit of keeping a long-term view of retirement savings, it's generally recommended to check these investments on a less frequent basis (such as quarterly or semi-annually), but I like the idea of having all these assets under one "roof". It somehow makes the money more real to me.

Anyway, in the weeks to come, I will be thinking long and hard about exactly how I want to allocate these savings. My initial plan was to switch the whole balance over into index funds, but I have started thinking that I should hang onto some of my company's stock, since it's done phenomenally well in the past, and I believe in the company's future. I certainly won't maintain the highly concentrated portfolio I have now (75%!), but I think I'll leave a chunk (less than $10K) in this stock, with a DRIP to take advantage of dividend growth. I'll also be continuing my bi-weekly contributions (with 50% employer match) into this stock, and periodically transfer and re-allocate this accumulation. I'm still wrapping my head around exactly how this will work, but at least I've now been through the transfer process, and I'll be ready to go when the next re-allocation is due.

I've done my bi-weekly update of the sidebar goals, and I've also updated my NCN Network chart. It looks like I'm on track to make my Emergency Fund and debt reduction goals for September, so we'll see how the other goals progress.

Almost ready to re-allocate

Well, my shares of company stock have now been transferred from my Employee Savings Plan into my self-directed RSP. Now I'm just waiting for the cash to come in from the other group RSP, and I'll have all my retirement savings in one account.

Then I can start hacking away at my diversification plan.

I hope you all have a great Labour Day, and I'll see you after the long weekend.

Stuff keeps happening...

Readership

I don't mean to brag, but check out the legions of readers my RSS feed has. That's four whole people who like what they've read enough to follow up on a regular basis. Assuming, of course, that they're not all me (I'm still getting the hang of this Web 2.0 thingy).

Retirement Savings

This morning, I requested the transfer of my final "chunk" of retirement savings into my brokerage account. For those keeping score, I have the following (as of July 31):

• Brokerage self-directed RSP account: $5,752.77
• Employee Savings Plan Group RRSP: $27,135.99
• Employee Group RRSP:$4,740.82

The first group RRSP is where my bi-weekly payroll deductions (and 50% employer match) go into company stock. The second is where I can defer a portion of my year-end bonus. My goal is to consolidate my retirement savings into one account (the brokerage RSP), and today I initiated the transfer of the final piece of the puzzle. My bi-weekly contributions will continue in the ESP, and I will continue to defer part of my annual bonus into the other employee account, but I will periodically move these assets into the brokerage account, to have a consolidated view of my retirement savings (diversified across my selection of index funds).

The Spending Struggle

I've been thinking more and more about my recent issues with a "paycheque-to-paycheque" mindset. Ultimately, I think I'm not planning and tracking my spending adequately. A big problem area for me (and for many others) is grocery spending. I tend to look at this category as a single, contiguous "block" of necessary expense, and I believe that there's plenty of room here for better planning and prioritization. It seems to me that I have a choice: either live paycheque-to-paycheque, or live "purchase-to-purchase". By taking the latter mindset, every expenditure will be evaluated to answer the following questions:

• Is this a necessary expense?


• How much money will this leave available until the next paycheque?


• What will I need to sacrifice to accommodate this expense?

I believe that "purchase-to-purchase" thinking is really the essence of frugality. Let's see how it works for me.

Did I say "dip"?

In last Thursday's post on my July progress, I mentioned that my RSPs had dropped with the recent "dip" in the market. Well, as everyone else has noticed, this downward slide continues. Since I ran my update last week, my RSP holdings have dropped by another $963.61. It hurts to take such a big hit, especially as I'm planning my re-allocation. If I continue my switch to index funds, I stand to get far less out of my existing stock holdings than I intended. Granted, I'll also get a lower price for the new funds, but I'm less than thrilled about the feeling of "cashing out" my holdings during this market downturn.

Time for some goals...

Well, I've been at this for over a month, and I thought it was about time that I actually committed to some goals. So far, my aim has been to get my head on straight, and stop digging myself deeper into debt. I feel that I'm making progress with this; I've started an Emergency Fund and a Freedom Account, and I've spent nearly three months with a positive savings rate, spending less than I make. Hardly something to shout from the rooftops, but it's a major improvement from where I was three months ago.

Now, I've been doing some thinking about what specific, tangible goals I can set for myself. Here is a short list of goals I'd like to accomplish by December 31, 2007:

Savings

• Build my Emergency Fund to $1,000


• Fully fund my Freedom Account to $3,000

Debts

• Reduce the total balance of my line of credit and credit cards to below $22,000 (a decrease of $5,610.74 from April 30)

Investments

• Re-allocate my retirement portfolio to reflect my target asset allocation

I like these goals because they are so specific and actionable. I'll report my progress on these goals each month, and the first three will also be tracked in the sidebar (since each goal can be represented as a single number).

Wish me luck...

Allocation on the Brain

I've been contributing to my employers' retirement savings plans ever since I started working six years ago, and have been receiving the full employer match since day one. The nice thing about this is that, when I look at the performance of my RSP, the combination of stock returns and 50% matching gives me a growth of 136% on my money invested. The downside is that, since my retirement savings make up most of my investable assets, I now have a concentrated position in two stocks. The stocks in question have done very well during my investment tenure, but the fact that I've done well so far doesn't mean it's a sound strategy going forward.

As a result, I've been thinking about how to allocate my retirement savings to position myself better for the long haul. Given my level of market savvy, and the amount of time I'm willing to invest in this venture, I think index funds are the way to go. I've been skimming Morningstar pages this past week, trying to get a handle on which baskets I want to put my eggs in. TD seems to have some decent index funds, with reasonable MERs and good index tracking, and I think this is probably the way I will go.

If I cash out out my positions in early August, then I'll be ex-dividend, so I can get started on "re-allocating" my portfolio. It scares me to be making decisions like this, but it scares me more to leave my entire retirement savings concentrated in two stocks.