ING Direct $25 Referral Bonus

I've written before about my experiences with ING Direct. I actually attribute much of the credit for my financial turn-around to ING, since it was their no-fee, high-interest savings account that gave me "somewhere else" to put my money. This is what got me started with partitioning my money in order to develop an emergency cushion and shrink my debts. In 2007, I wrote a series of three posts on the subject:

• Canadian High-Interest Savings - A New Hope - I opened savings accounts with four Canadian institutions, and compared the experiences


• The Canadian High-Interest Savings Strike Back - I compared the web interface and money transfer experience at the four institutions


• Return Of The Canadian High-Interest Savings - I compared the other features of savings accounts at each institution, including bill payment, online banking and ABM/branch availability

The end result of this analysis was that, in terms of features and user experience, ING was a winner. Its interest rates are currently middle-of-the-pack, but they are a pleasure to do business with, and offer a full suite of savings products (including RRSP and TFSA options, as well as GIC and mutual fund accounts). Transferring funds is simple and fast, with a one-day turnaround in either direction. I can't say enough good things about ING, and they will always hold a special place for me as the first tool in my financial toolbox.

If you're looking for a no-fee savings account to add to your portfolio, I have a referral code that you can use to get started with a $25 sign-up bonus. Here's what you have to do:

1. Fill out the online application for a new account.


2. In the "Orange Key" field on the application form, enter my referral code: 17093935S1


3. Send ING a cheque, made out to yourself, for at least $100. This accomplishes two things:
   
   • It creates a link between ING and your chequing account, so that you can move funds back and forth between institutions
   
   
   • It qualifies you for the $25 bonus, since you need to make an initial deposit of at least $100 to qualify

Note that existing ING customers can not use the Orange Key to get the $25 bonus; this offer is only available to new clients.

The great thing about savings accounts is that there's no downside to opening them up and trying them out. Getting started with a $25 bonus just sweetens the deal, since ING is a great bank to deal with.

Disclosure: Since I'm providing the Orange Key, I will also receive a bonus for every new customer who signs up with an initial deposit of $100 or more.

The value proposition of a premium chequing account

Million Dollar Journey has a post today comparing the big five banks' high-end chequing accounts. These accounts charge a substantial monthly fee, and in return provide a number of "value-add" services, including the following:

• Unlimited transactions


• Free drafts/certified cheques


• Discount on safety deposit box rental


• Discount/waiver of credit card or discount brokerage annual fees

Some of these accounts offer a waiver of the monthly fee if a minimum balance is maintained in the account. For example, BMO's Premium account has no monthly fee if the account's balance never drops below $4,500 (otherwise the fee is $25 per month). The thinking behind these minimum balance fee waivers is that, while the customer avoids paying a fee, they also miss out on interest they would have earned on that balance in a savings account.

I was curious recently as to just how favourable the fee/interest trade-off turns out to be, so I decided to run some numbers. Using the BMO account as an example, I worked out what APR would correspond to $25 per month on a $4,500 balance. Assuming a 40% marginal tax rate (since interest income is taxed at the full marginal rate), I came up with the following:

• $25 = $4,500 X ((1 + APR / 365)^³⁰ - 1) X (1 - 0.4)


• APR = 365 X ((($25 / 0.6) / $4,500 + 1)^^{(1 / 30)} - 1)


• APR = 11.22%

This means that, in order to earn $25 per month after taxes on a balance of $4,500, you would need to find a guaranteed 11.22% APR. Since the market is currently swimming in 11.22% savings accounts, it's a no-brainer, right?

One of the best rates currently available for a Canadian savings account is Canadian Tire's 2.00%. At this rate, a $4,500 balance would earn a mere $4.44 per month after taxes. This means that, with today's interest rates, keeping the minimum balance in this account essentially means that you're "paying" a $4.44 monthly fee for the use of the account. If you take advantage of the features of the account, this can turn out to be extremely worthwhile (a safety deposit box rental can easily run $4 per month).

This doesn't mean that a high-end chequing account is automatically worth it, but it does mean that, at least for the foreseeable future, the cost of such an account is significantly reduced by maintaining the minimum balance.

HSBC has stupid account dormancy rules

Back when I first started testing the waters of online savings accounts, HSBC had one of the better rates out there. That, combined with their numerous access methods (including online bill payment and no-fee ATM access at BMO/HSBC machines) made them a strong choice for parking the lion's share of my Emergency Fund. For over a year now, I've basically kept just over $1,000 of my savings in my HSBC account, on the basis of a decent (though far from stellar) interest rate and easy access to the cash.

Fast-forward to today, and HSBC is offering a whopping 1.05% rate on their Direct Savings account, and I decide that maybe I'll move a chunk of that cash over to Canadian Tire, where I can earn twice as much interest. So, I login to my HSBC account (as I have at least once a month for as long as I've had the account), enter the details to transfer money to my primary chequing account, and am met with an error message that they can not complete the transaction at this time.

Wait, what?

This account currently has a balance just over $1,040, and I'm able to login and view the account details to my heart's content. Why are they barring me from making a withdrawal?

A quick call to customer service brings to light that, if you have no debits on the account over a 12-month period, they flag the account as dormant, and you have to re-activate it by faxing them your signature and waiting 24 hours before you can complete a transaction.

Looks like HSBC will no longer be my Emergency Fund container of choice.

I'll keep $150 with them, and set up recurring transactions to churn $15 in and out once every six months to keep the account "active", but I'll be looking to put the bulk of my balance elsewhere.

I realize that $1,000 isn't exactly big potatoes, but my Emergency Fund is growing, and they had been my preferred savings institution. I was willing to overlook their low rate in favour of their access methods, but now they've driven me out the door.

Maybe CTFS will be happier to have me as a customer.

Taking the road less optimized

I'm a numbers guy.

I love numbers. I actually enjoy working with spreadsheets, and I love the challenge of working out the mathematically optimal way of doing things. Flexo at Consumerism Commentary has a great post today on the power of a "mathematically correct" solution, and I have to say I agree with his logic.

That doesn't mean, however, that I always use the optimal solution.

Take my bi-weekly cash flow, for example:

1. Money comes into our joint chequing account on payday


2. Fixed expenses, including mortgage payment, student loan payment and line of credit payment, come out of chequing


3. Emergency Fund and Freedom Account contributions are transferred from chequing to online savings


4. Leftover cash gets transferred into my secondary chequing account, as my spending money for the next two weeks


5. As I spend money on groceries, entertainment, etc., I either pay cash, or use my credit card and immediately transfer the corresponding amount from chequing to my line of credit


6. When my credit card payment is due, I pay the bill with my line of credit

Steps 5 and 6 are my attempt to perform small-scale credit card arbitrage with my monthly spending. Because the credit card is paid in full every month, each purchase essentially represents an interest-free loan until the next payment due date. By making a corresponding interim payment to my line of credit, I'm actually using my credit card to defer interest accrual on the LOC, and saving myself some money.

I'm pretty proud of having devised this system, but I can't ignore the fact that, if I skipped steps 4 and 5, and instead just transferred all my leftover cash onto my LOC on payday, I would save even more interest. Even though this might be the "right" way to structure my cash flow, I've learned from experience that it's much easier to lose track this way than it is with the method described above. I find that transferring funds every time I make a purchase gives me a much more concrete feel for how much I've spent, and how much I have left before the next payday. The extra interest that I accrue by leaving that money sitting in the chequing account ends up being the "fee" that I pay for having a system that works for me.

True, I could be paying less interest, but I could also be paying a lot more, and I'm happy to find some middle ground.

This is partly about having training wheels on our financial bicycle, but it's also about priorities. I keep $200 of my Emergency Fund in physical $20 bills, earning no interest, so that we have cash immediately available in an emergency. Both Ms. Loonie and I have income tax withheld by our employer so that we don't have to worry about making up a shortfall at the end of the year, and also to keep us thinking of our income in net, rather than gross terms.

As the size of our Emergency Fund grows, it will become more important to optimize the vehicles we use for these savings. Similarly, as the gap between income and expenses grows, the impact of where I keep my "in-flight" cash will become more significant. However, for now, I think the small dollar amount we give up in order to have a convenient, manageable system is worth it.

Feeling some property tax relief

Both Paid Twice and Make Your Nut posted recently about changes to their property tax payments. Like many new homeowners, they make escrow payments to their mortgage lender in order to cover their periodic property tax expenses, and like many new homeowners, they started off with an escrow shortage, and subsequently saw their payments jump to cover the shortfall.

Ms. Loonie and I have been in a very similar situation. We make a property tax payment to our bank every two weeks along with our mortgage payment, and this is meant to cover our property tax bill when it arrives. Because we had a tax bill to pay shortly after closing on our condo, we initially found ourselves behind on our tax payments, and the bank hiked our bi-weekly contribution as a result. Now that we've got two years of payments under our belt, however, we're finally getting caught up on our initial shortfall, and I've been thinking of talking to the bank to get the payments adjusted back down.

Well, it turns out the adjustment letter we received last summer was just part of an automatic review the bank does on the account every year, as we received an almost identical letter from them this year. The only difference is, this time around the payments are being reduced rather than increased.

It's nice to see that the bank is actually proactive with managing the property tax account. I'd still prefer to pay the taxes ourselves (and I think we'll look into this when we renegotiate next summer), but it was a nice surprise to see the lender adjust our payments down without having to ask.

Like Paid Twice and Make Your Nut, we'll have a bit of extra cash injected into the budget once the payments readjust (effective August 21). It amounts to about $100 per month for us, which is certainly welcome. This was a nice instance of seeing something I read on a couple of American blogs relate directly to my own situation here in Canada. Another illustration that, although the terminology may differ, our financial systems operate in very similar ways on either side of the border.

Enter the TFSA

Checking my account balances online this weekend, I noticed a link on ING's front page to information on the Tax Free Savings Account that will make its debut in Canada in 2009. The folks at ING have included a top-10 FAQ on the TFSA, and their tagline for the product, "Great news. Now even the Government wants you to save your money!" illustrates the reason I love this company: they want to get people excited about saving.

I'm not so naïve that I can't see ING's financial motivation here (I do work in the banking industry, after all), but they really seem to put a lot of effort into making these saving products attractive to the consumer. I personally consider opening an ING account one of the most important steps I took to start my financial turn-around last spring. Saving for saving's sake was something new to me, and I have to say they've got me hooked.

One of my favourite things about ING is the way their products "cooperate" with accounts at other institutions. It's dead simple to move funds between your brick-and-mortar accounts and your ING account, and this gives their products a clear place in your financial portfolio. Their focus (at least in Canada) is not on meeting your chequing and day-to-day spending needs, but they do a great job at providing a convenient savings product.

ING is the first bank I've seen openly promoting the TFSA, and I can't wait to see when and how the other institutions start to promote their own accounts.

Payday update: Decisions to make

Today was payday in the Loonie household, and I've updated my progress bars and NCN Network chart to reflect my current debt reduction and savings progress. No big changes this month, as I'm largely treading water on my ongoing goals. However, there is a significance to today's paycheque that I need to consider.

Today marks the last time (at least for the foreseeable future) that Ms. Loonie and I will be on the same pay schedule.

When she starts her new job next month, Ms. Loonie will switch from our current routine getting of paid every two weeks, to a two-paydays-per-month system. There will be times in the future when our respective calendars will line up and we'll both be paid on the same day, but these will be few and far between.

It's easy to dismiss this as a negligible change, as this really only means that she will be paid slightly more on a less frequent basis. However, our mortgage and student loan payments are currently synchronised with our pay schedule, so that the payments come out of our accounts on the same day we get paid. This means that, two weeks from today, our payments will be due a few days before Ms. Loonie's paycheque goes into her account.

This serves as a huge reminder of the importance of having some liquid savings on hand. Between Ms. Loonie's student loan and her contribution to our housing/utilities expenses, she shells out about $850 every two weeks. That translates directly to a $850 shortfall in our income that we need to cover on July 10.

When I started this blog, we would have had little choice but to use my ULOC to cover this interruption of cash flow. Today, however, we have a few more options:

• Ms. Loonie can "borrow" from her tax savings account to cover the shortfall. When she gets paid mid-July, she can then move the money back into savings.


• I can "borrow" from the Emergency Fund, for the same short-term period.


• I can postpone some of my Freedom Account contributions for a few days to cover the shortfall.

Ideally, we'll use the first option, and leave all of her pre-authorized transfers in place. However, any of the three options simply represent a temporary re-allocation of cash savings to fill a gap in our income.

Once she has a couple of paycheques under her belt, Ms. Loonie will have more than enough savings cushion accumulated to cover future mismatched pay periods, and this will cease to be an issue. In the interim, however, it feels good to know that we have a choice in how we'll address this issue.

Just goes to show the difference that even $1,000 in liquid savings can make: borrowing from yourself feels a lot better than borrowing from the bank.

Remember the tape deck: a lesson in delayed gratification

When I was a kid, one of my favourite pastimes was browsing the Consumers Distributing catalogue. The pages of this catalogue were always teeming with unimaginable treasures, from the latest G.I. Joe action figures and assault vehicles, to sporting equipment, to keyboard synthesizers and children's drum sets. Every November, my brother and I would gather around the catalogue to put together our wishlists for Christmas, which invariably took the form "CD page 72, item Q; CD page 89, items L-P..."

Just after I turned 12 years old, I spotted an item in the electronics section of the catalogue that I just had to have: a Panasonic dual cassette deck. Feast your eyes on this list of features, and tell me you can get through another day without owning this bad boy:

• One-touch, high-speed dubbing


• Cushion eject


• Auto reverse on recording deck


• Auto stop on playback deck


• AM/FM radio with telescoping antenna


• Built-in condenser microphone

The tape deck had everything I could possibly want. Unfortunately, it also came with a hefty price tag: $99.99.

I asked my parents to buy the tape deck for me, but they balked at the price. They agreed to give me extra chores around the house to earn some extra money, and said that I could buy it once I had saved up the purchase price. I was a bit downcast at the monumental task put before me, but I decided to soldier on and earn my way to my all cushion ejecting, all high-speed dubbing prize.

For the next several months, I cleaned bathrooms, dusted and vacuumed the house, helped paint the garage, and babysat neighbourhood children, and little by little, my pile of savings grew. I jumped at any opportunity to earn some extra cash, and I clamped down on my spending, because every quarter that I spent on candy or arcade games was a step away from my goal of kicking back and listening to my freshly dubbed cassettes.

After months of saving, the day finally came, when I had $114 ($100 plus taxes) in cash in my hot little hands. My mother drove me to Consumers, and I excitedly filled out the catalogue slip to request the tape deck. The cashier brought the box out to the counter, and I proudly handed over five twenties, a ten, and four ones (this was in the days before the Loonie had completely replaced the dollar bill). The transaction complete, we got back in the car and headed home with my spoils.

I loved that tape deck. Over the next few years, I spent many an evening basking in the dulcet chipmunk tones of high-speed dubbing, as I put together countless mix tapes. I felt a sense of pride every time I looked at it, knowing that I had earned it through hard work and careful planning. When it finally kicked the bucket in my third year of university, it was like saying goodbye to an old friend.

These days, when I'm suffering from a bout of technolust, I think back to the day I bought that tape deck, to the intense pride I felt being able to pay in cash, and to the years of use that I got out of my purchase. If I can't pay cash, I either move on, or save up until I can. The lesson of the tape deck is a powerful one: delaying gratification can make it much sweeter, with the feeling that you've unequivocally earned your new toy.

My thousands of dollars of consumer debt are a constant reminder that I've strayed from the path of delayed gratification in the past.

I'm glad I've found it again.

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.

Changes coming to RESPs?

This week, the House of Commons passed a bill that would provide a tax deduction for RESP contributions. The bill still needs to be approved by the senate, but it's an interesting idea.

Currently, RESP contributions are made with after-tax dollars, and compound tax-free until they are withdrawn by the beneficiary for post-secondary education purposes. At withdrawal, the investment income is taxed to the beneficiary, at their (usually low) marginal rate. Under the proposed bill, up to $5,000 in annual contributions would qualify for a tax deduction, similar to RRSP contributions. This would represent a fundamental change in the tax treatment of these plans, and potentially provide a much greater incentive for parents to contribute to their children's plans.

I've written before about the benefits of contributing to RESPs, essentially looking at this plan as a sort of "education insurance", but this new bill would significantly change some of the assumptions. Let's look at a simple example to determine what the impact of this change might be:

Assumptions

• One-time RESP contribution of $5,000


• CESG match of $500


• Contributor marginal tax rate = 43.41%


• Beneficiary marginal tax rate = 22.15%


• Investment growth = 8%


• Inflation = 3%


• 18 year investment period

The $5,000 contribution would generate an immediate tax savings of $2,170.50 for the contributor. In future dollars (i.e. after 18 years' inflation at 3%), this would be $3,695.13. The $5,500 (contribution plus CESG match) would grow to $21,978.11 after 18 years of 8% growth. Assuming that the beneficiary withdrew this entire amount for education purposes at the 18 year mark, they would pay $4,868.15 in taxes (since taxes would presumably be paid on both the contribution and the investment income). This represents $1,173.02 in net taxes paid (i.e. taxes paid by the beneficiary minus taxes saved by the contributor).

Compare this with the current rules, where the beneficiary would pay tax only on the $16,478.11 investment income, for a net taxation of $3,649.9 (since the contributor does not have any up-front tax savings). This is $2,476.88 more than the taxes paid under the proposed system.

Based on this example, it seems that the proposed tax deduction would result in a much more tax-efficient way to save for education, especially if the contributor were to put the $2,170.50 tax refund in a TFSA for some additional tax-free growth.

What do you think about this idea? Have I missed anything?

Managing your finances: pretend you're a corporation

I work in the marketing department of a large Canadian corporation. In my day-to-day job, I'm constantly dealing with different departments and business units and their individual business objectives and budgetary constraints. However, the scale of it all makes the actual dollars and cents seem very abstract; it's often hard to look at a multi-million dollar advertising budget and see it in terms of real money.

A couple of weeks ago, Ms. Loonie and I attended our condominium corporation's annual general meeting. We live in a building with about 100 units, and approximately 30 units were represented at the meeting. This was my first time attending such an event, and it was very interesting. Somehow, the smaller scale of this corporation's financial picture made it much more tangible, and I was really geeked out to go over the financial report. There are a lot of things from the way a small corporation like a condominium operates, that you can apply to your own finances:

• Reserve Fund - A big part of our common element assessment every month goes toward building the condominium reserve fund. This is the fund that is used to cover any "out-of-budget" expenses. Need to replace your boiler? Use the reserve fund. Need to fix leaks in the parking structure? Use the reserve fund. It's essentially the corporation's Emergency Fund, just on a much larger scale. I was interested to learn that the Condominium Act requires that a reserve fund be held in an interest-bearing savings account, just like your personal Emergency Fund should be.


• Operating Budget - Much of the rest of the common element fees help to cover things like keeping the lights on, paying the maintenance staff, and heating the building. These are all planned expenses, and the corporation takes pains to stick to this budget in order to maintain a positive cash flow. It sounds simple, but corporations need to do this just as much as individuals need to stick to their own budgets.


• Reserve Fund Study - This was the item I found most fascinating. The condominium commissions a study on a periodic basis to determine the general status of its assets and infrastructure. A team of engineers conducts a very thorough review of the building, and determines the amount that the corporation should set aside to pay to fix or replace elements when they eventually fail. This really makes the reserve fund a combination of the Emergency Fund and Freedom Account concepts; it's where we keep our "rainy day" emergency cushion, but it's also where we save up for periodic major expenses, like re-paving the driveway every 10 years, or replacing the heating system every 20 years.

It's not exactly a new idea to think of yourself as a corporation; lots of bloggers have written about how we're all essentially self-employed (even if you work "for the man", you're essentially a service provider, and your employer is your only client). It helps, however, to shake up your way of thinking about your finances. I know this meeting was an eye-opener for me, and I think I learned a lot.

Tax Free Savings Account: a Roth account for Canadians?

Wow, a lot can change when you spend a week on the couch. The federal government released the 2008 budget yesterday, and the news on everyone's lips (well, maybe not everyone, but at least on most Canadian PF bloggers' lips) is the creation of a new tax-advantaged savings plan, the TFSA. I hate to be a day late and a dollar short, but I can't go without commenting on this.

I've written before about the savings plans available in Canada and the US, and where the RRSP has a close cousin in the IRA, and the RESP is analogous to the 529 plan, the one savings vehicle unique to the United States is the Roth IRA. While the IRA (like the RRSP) is funded with pre-tax dollars, and withdrawals at retirement are fully taxed at the marginal rate, the Roth IRA is funded with after-tax dollars, and withdrawals at retirement are not taxed.

Well, the Roth account seems to have a new cousin (by marriage) in the proposed TFSA. Although not designated as a retirement account, the workings of the TFSA seem comparable to those of the Roth IRA: you can contribute up to $5,000 per year to a TFSA, and the income you earn in the account is not taxed. You can withdraw from the account at any time without penalty, and doing so actually frees up your contribution room again, so you can "re-fill" the account.

I'm finding it very difficult to find a downside here. The TFSA seems to be the ideal place for Canadians to keep their Emergency Funds. There's obviously a lot to be worked out here. I'm not sure what investments can be held in a TFSA, and what sort of interest rates will be paid on "cash" investments, but it sounds like a fantastic idea.

And it's nice to tie up a loose end by finding a dancing partner for the Roth account.

Looking into RESPs

The Loonie clan has seen a number of new additions recently, with births and pregnancies abounding. As a result, I've been thinking about RESP options, and decided to learn a little more about the workings of this plan. I've written briefly about RESPs in my Loonies And Savings Plans post, and other Canadian bloggers have posted great guides to RESPs, so I won't be delving too deeply into the intricate workings of these accounts. Instead, I'll look at a few of the rules, and lay down my decision on participating in the plan.

The Basics

When you set up an RESP, you register two individuals under the plan:

• The contributor (you) is the subscriber


• The future student is the beneficiary

The subscriber can contribute after-tax money to the plan, up to a lifetime limit of $50,000 per beneficiary. In contrast with RRSP contributions, the subscriber does not receive a tax deductions for any RESP contributions. However, the plan does have a couple of tax advantages:

• Provided that the beneficiary attends a university or college, withdrawals from the plan are taxed at the marginal rate of the beneficiary, not the subscriber. Since the beneficiary, as a student, should be in a low tax bracket, they will pay very little tax on these withdrawals


• The subscriber has already paid tax on the contributions, so only the growth in the investments is taxable. Combined with the first point, this means that RESPs can provide over 20 years of nearly tax-free growth

In addition to being a fairly tax-efficient way to save for a child's post-secondary education, there is the additional benefit of the CESG, which matches 20% of subscriber contributions, up to an annual maximum of $500 and a lifetime limit of $7,200. The CESG matching contributions count as investment growth, and are not taxed when withdrawn by the beneficiary. This represents an immediate tax-free 20% return on the first $2,500 in annual contributions.

The Big "If"

The big question with RESPs is, what happens if the child doesn't pursue post-secondary education? In this case, you "collapse" the plan, meaning that you, as the subscriber, close the account and withdraw the funds. Since you can have over 20 years of investment growth in the plan, there will clearly be some taxes to be paid. Here's the rundown:

• Your contributions are not taxed, since you made them with after-tax dollars


• You must refund any CESG that you received, immediately knocking up to $7,200 off your investment growth


• You must pay a 20% penalty on your investment growth (excluding CESG)


• You must pay taxes on your investment growth (excluding CESG) at your marginal rate

That's a pretty big tax hit to look at, but there are many factors to consider.

An Example

Suppose you contribute the $50,000 maximum, receiving the $7,200 CESG maximum, and over the years your investments grow to a total of $100,000. If the beneficiary attends university or college, then they have access to $57,200 in tax-free money, plus $42,800 in investment returns that, if used for education, will be taxed at their (low) marginal tax rate.

If the beneficiary does not pursue post-secondary education, then the plan must be collapsed, and the funds revert to the subscriber. If the subscriber's marginal tax rate is 40%, then they will have to pay the following:

• 0% tax on $50,000 contributions = $0


• $7,200 in refunded CESG


• 20% penalty on $42,800 investment growth = $8,560


• 40% taxes on $42,800 investment growth = $17,120


• Total paid = $32,880

This leaves the subscriber with $67,120 ($50,000 contributions plus $17,120 growth) out of the $100,000 that was built up in the plan. The 20% penalty, combined with the loss of favourable tax treatment of investment income, result in a huge tax hit to the subscriber in the event of a collapsed plan. However, there is some rationale behind these penalties:

• The 20% penalty is meant to offset any investment growth that you realized based on the CESG matching. Since your contributions were topped up by 20% each year, 20% of your investment growth is essentially due to this grant. So, having to pay back the CESG plus 20% of your returns makes sense


• The RESP can be looked at as a sort of "education insurance", where you pay an annual premium so that you have "coverage" in the event that the beneficiary pursues post-secondary education. Unlike most insurance policies, however, you get back all of your contributions at the end, with interest, if the plan is collapsed


• The $17,120 in net investment returns in the example given above should still be better than inflation, so even though you paid a big chunk to taxes, your contributions have still more than kept their value over time


• You were essentially willing to "gift" all of your contributions to the beneficiary anyway, so getting back your nominal contributions is a pretty nice consolation prize

The Verdict

For me, it really comes down to this: an RESP is a way of saying to a child, "I'm willing to help you out if you decide to pursue post-secondary education." If the child takes you up on the offer, then they have a great resource to help them through their education. If not, you've passed up some potential investment opportunities, but you more than recoup your contributions, and you know that you were there to support the child. There's nothing to stop you from giving them some of this money anyway, if that's what you want to do.

I'll be looking into setting up RESPs for some of my young relatives over the next couple of years.

Going from "Yeah, right" to "All right!"

A couple of posts yesterday really got me thinking about where I am in my "financial recovery". Trent wrote that a very inspirational post detailing the bad place he found himself in a couple of years ago, and the steps he took to get to where he is today. JD wrote about the experience of developing positive cash flow. Both of these really hit home for me, as they underscore the changes in behaviour and outlook that have helped me improve my financial picture over the last several months.

I've been in debt for a long time. Maybe not as long as some, but long enough that I had more or less forgotten what it felt like to be debt-free. Over the past five years, I've searched for advice and motivation on getting myself in better financial shape, but never really found any traction. The advice I read then was the same as what I read today:

• Spend less than you earn


• Pay yourself first


• Have an Emergency Fund


• Pay off high-interest debt


• Save for retirement

When I used to read these tips, however, I would tend to scoff at the suggestions. "Sure," I would say, "it would be great to have an Emergency Fund of 6 months' expenses, but how am I supposed to get there when I'm barely making minimum payments on my credit cards?" I would then dismiss the advice, and more often than not, go out and buy myself something to make myself feel better.

As my income (and thus the denominator in my debt ratios) grew over the years, I was able to get an unsecured line of credit to help with my cash flow. By using my line of credit to "pay off" my credit cards, I stopped paying interest on my credit cards. As a result, I no longer looked at my credit card spending as revolving debt, and didn't realize that I was still digging a hole, just with a different shovel. My total revolving debt continued to grow.

Finally, last April, I found myself with a $1,500 tax bill, a car needing a $900 timing belt, a line of credit rapidly closing in on its credit limit, and no savings. At this point, I finally realized that something needed to change.

Fortunately, I had been reading a few personal finance blogs, particularly The Simple Dollar, and had some ideas for where to start. I opened an online savings account at ING Direct, and started throwing money into it. My goal was to build this up to a $1,000 Emergency Fund, as a starting point for something bigger. At the same time, I drew a line in the sand, saying that all my existing revolving debt was "old debt" to be paid off, and that I would budget to avoid taking on "new debt". Basically, I accepted that my current situation pretty much sucked, and decided that any improvement had to be better than the way I was living.

Over the next few months, I started to see these improvements. Suddenly I had money in a savings account that was still there at the end of the month. My revolving debt started to go down consistently every month. Within six months, I had built my $1,000 Emergency Fund, and knocked down my debt by 10%.

For the first time in years, my cash flow each month was positive. Granted, most of this "positive" flow reduces my debts rather than growing my savings, but the net effect is the same.

I still have a long way to go before I say a final goodbye to my revolving debt, but I know how I'm going to get there, and I'm starting to get a sense for what a debt-free life will be like.

It looks good, and it's all because I took that first small step.

HSBC Direct rate promotion

I've written before about my decision to move my Emergency Fund to HSBC Direct. Their rates have been quite competitive in the past, and they have very flexible access methods, including bank-to-bank transfers, ABM withdrawals and online bill payment. Granted, their rates have been slipping lately, but they still offer a very convenient place for your savings to keep up with inflation.

Well, I have received two e-mails in the past week, drawing my attention to a promotion going on at HSBC. The first message (to my personal address) was from HSBC proper, telling me to "tune in on February 4" for an exciting interest rate promotion. The second (to this blog's address) seems to be from their PR firm, inviting me personally to check out the rate. The second, more spammy e-mail kind of irks me, but I already deal with HSBC, and I've been happy with my experience, so OK, I'll bite.

Here's the deal: any new deposits into an HSBC Direct savings account between now and May 2 will be subject to a 4.75% APR until May 2. Whether you already have an HSBC account or not, any net-new money you deposit will earn 4.75% interest. This interest is compounded daily and paid monthly, just like the regular interest (currently at 3.70%). You don't need any promo codes or anything; this automatically applies to any new deposits.

If you're interested, then you should open an account or transfer your balance now, so that you can start earning the higher rate as soon as possible. The account opening process at HSBC can be a bit slow, but the account is easy and convenient once you've jumped through the appropriate hoops.

Remember that the promotional rate expires at the beginning of May, so if you're a rate chaser, plan to look for greener pastures at that point.

Staying on top of the Freedom Account

I've written several times about my use of a Freedom Account to budget for less frequent expenses. This piece of my personal finance arsenal has been invaluable in keeping me on track with my debt reduction. I've recently set up an improved spreadsheet to track the funding of my Freedom Account, specifically to track the balances in the individual categories. This has helped me to stop plundering the account whenever something comes up; I now have a clear picture of exactly how much is available in each category, and I can see where I have the ability to "borrow" from myself if something unexpected comes up.

The start of the new year has brought with it a number of subscription renewals and annual fees, and I'm easily able to cover these, thanks to the "Subscriptions" category in my Freedom Account. I'm able to fork over $87 for my passport renewal without batting an eye, because I've saved up for it. I was recently able to buy a new toner cartridge for our printer because I'd saved up for it. A recent bout of preventive maintenance on the Looniemobile was easily managed because I'd saved up for it. All of this is done as part of my regular bi-weekly budget, by paying myself first and diverting funds into the appropriate savings accounts.

I've created my own spreadsheet to track the categories in the account, and this suits my needs perfectly. If you're not inclined to build your own, however, you can check out the resources available at Money Musings. This site has some great spreadsheets available, both for free and for a small price. I recommend checking it out.

Feeling the Bank Of Canada rate cut

By now, I'm sure you've heard that the Bank Of Canada cut its rate by 0.25% this week, and the banks have followed suit with a 25-point cut of their own. Our mortgage and student loans are all fixed-rate loans (our mortgage is up for renewal next year), but my line of credit and savings accounts are subject to the whims of the banks and changes in prime rate.

Here's the impact of this latest cut:

• My line of credit interest rate dropped from 6.25% to 6%, which will save me money every month.


• My student loan, currently at 5% interest, remains below the 5.25% that I would be able to get from my bank today; Ms. Loonie's loan is currently at 5.75%, so it may be worth looking into renegotiating this loan.


• ING Direct, Canadian Tire Financial Services and ICICI Bank have all held steady through this most recent rate cut, with savings account rates of 3.75%, 4% and 4.25%, respectively.


• HSBC Direct have dropped their rate again from 4% to 3.75%. This puts them on par with ING in terms of rate, so their abundant access methods are now the only reason for keeping my Emergency Fund with them. This is interesting, because they have gone from having one of the highest rates to having the lowest rate out of the primary players in Canada.

Overall, the rate cut is beneficial to me, especially given that my debts are a lot larger than my savings. This really just gives my debt reduction a boost, as more of my payments will go toward principal. I'll be interested to see if the other savings accounts lower their rates to follow HSBC.

Building a chequing cushion

I really have a feeling that 2008 could be the Year of the Loonie. I've set my formal goals for the year, but I'm also developing some informal projects as I go along. One of these is to pull myself further out of my paycheque-to-paycheque rut by developing a chequing cushion. I stated last week that I would be building up this cushion, so I thought I'd go into some detail as to exactly what this means, and how I plan to go about it.

What is a chequing cushion?

A chequing cushion is a sum of "extra" cash that I will leave in my chequing account(s). This money is separate from my Emergency Fund, but serves much the same purpose: it is meant not to be touched unless absolutely necessary. This will be useful under the following circumstances:

• I incur a "temporary" expense, i.e. one for which I will be reimbursed. The cushion funds provide immediate access to the cash I need. For example, if I need to cover a medical expense, I can borrow the funds from my cushion until I file the claim with our insurance company.


• I incur an unexpected expense. For anything that falls outside the scope of my regular bi-weekly budget or Freedom Account savings, the chequing cushion would be the first place I would look to cover the expense. If the cushion proves too small, then I would look to the Emergency Fund to close the gap.


• Greater liquidity will give me more flexibility around my cash flow. Having cash on-hand, outside of my Emergency Fund, will allow me to "borrow from myself" to take advantage of opportunities (such as a sale on an already-planned purchase), or survive small crises (such as a delay in receiving my paycheque).

Essentially, this cushion will be looked at either as a temporary Emergency Fund, or as an extension of my formal Emergency Fund. The key to using this cushion effectively will be in training myself to know when my account is "empty", since there will always be funds in the account, even though the cushion is off-limits.

What is my ideal chequing cushion?

Ideally, I would like to have two weeks' expenses as a cushion, in addition to my formal Emergency Fund. This would mean that, without touching the Emergency Fund, I have two weeks to respond to any disruption of my cash flow. When I reach this point, I will know that, if my pay is delayed, or an expense comes early, I can cover it without depleting my Emergency Fund.

How will I get there?

Two weeks' expenses is not a neglibible sum, and it will take a while to get to that amount. I've divided the target into some different "segments", in order of their priority:

1. Ms. Loonie's expenses - I've already discussed the fact that Ms. Loonie and I approach our credit card payments differently, and I really want to get her ahead of the payment cycle. Therefore, the first priority is to save up one month worth of Ms. Loonie's expenses, in order to get her in sync with my own pay-as-I-go approach. We'll work together to determine exactly what this number should be.


2. My discretionary expenses - Once Ms. Loonie's expenses are covered off, I'll focus on building up enough to cover my discretionary spending, which includes wardrobe, gifts and "fun". This may seem counter-intuitive, but I'm taking a page from Dave Ramsey's book here, by tackling the less important, but more achievable goal of discretionary spending first, and then moving on to my committed expenses. Obviously, in the event that we hit a major bump in the road, the committed expenses will be given first payment priority, but while I'm building up our cushion, I want to be able to check steps off the list, to mark my progress.


3. My committed expenses - Once I've got my discretionary spending covered, I'll build the cushion up to the final stage of being able to cover all of our committed expenses, including mortgage and other debt payments, groceries, etc.

As to how long this will take, that will depend on the exact amount that we decide on. The saving approach is basically a savings snowball, where my progress will accelerate as I get closer to the goal. It will be a long undertaking, but it will provide significant peace of mind. This is all about forward progress, and knowing that I'm in a slightly better position with every bi-weekly contribution will be a huge motivation.

Do you keep a chequing cushion? How have you gone about setting it up?

He's here! Quick, drop the rate!

Well, as of yesterday, my Emergency Fund is held at HSBC Direct.

As of today, HSBC's savings APR has dropped from 4.25% to 4.00%.

I'm trying to tell myself that 4.00% is still a good rate. It's 25 basis points above ING (who can't be far behind with a rate drop of their own), and my decision to move was based as much on HSBC's impressive access methods as on their rate, so I still think it was a good move.

I just wish the rate had stayed higher.

Maybe even for a whole week.

Choosing an Emergency Fund

After writing yesterday's post about moving my Emergency Fund to HSBC, I was interested to read what Paid Twice had to say this morning in her post describing her family's rationale for choosing a $1,000 Emergency Fund.

$1,000 is the most commonly recommended size for a starting Emergency Fund, largely based on the popularity of Dave Ramsey's 7 Baby Steps:

1. $1,000 to start an Emergency Fund


2. Pay off all debt using the Debt Snowball


3. 3 to 6 months of expenses in savings


4. Invest 15% of household income into Roth IRAs and pre-tax retirement


5. College funding for children


6. Pay off home early


7. Build wealth and give!
   Invest in mutual funds and real estate

The idea is that $1,000 should be enough to cover most emergencies that would otherwise derail your financial plan in the early stages.

I have a $1,000 Emergency Fund. I started building this amount in May of this year, and crossed the $1,000 mark in October. For me, the decision of how much to save for emergencies was largely based on my 2006 tax return. I had under-estimated the amount of income tax I owed for the year, and when April 30 came around, I found myself with a $1,400 tax bill to pay. At the time, I had no savings (aside from my retirement investments), so this amount went straight on my line of credit. This represented an instant 6% jump in my revolving debt, all due to the fact that I was living completely paycheque-to-paycheque. Having a $1,000 buffer in savings would have made a huge difference.

Until this year, I've never had an Emergency Fund. Sure, there have been times when I've had $1,000 or more sitting in my account for a month or two, but it's always been spoken for, with a specific purchase (or debt paydown) in mind. Now, my savings and debt reduction are completely separate from my Emergency Fund. That $1,000 has no strings attached, and will only be used for an unexpected expense that I have no other way of covering. Over time, I'll gradually build this amount (it currently sits at $1,105.28), but I'm largely going to ignore the growth above $1,000, in order to avoid thinking of this as money that I can spend.

The other key piece of my safety cushion puzzle is my Freedom Account. This is the account that I use to cover predictable periodic expenses, such as car repairs, gift purchases, and license renewals. In the past, all of these expenses have generally qualified as minor emergencies, and have gone straight on a credit card. By putting aside money from every paycheque in my Freedom Account, I'm basically redefining what constitutes an emergency, and leaving my Emergency Fund to cover the truly unexpected expenses.

In my mind, I have $1,000 saved up for minor emergencies. That's more than I've ever had before, and it's an incredible boost to my feeling of security to know that I have anything saved up as a safety cushion.

What's your Emergency Fund strategy?