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📚 Wealthy Barber Returns

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Book Title
The Wealthy Barber Returns
(non-fiction | Personal-Finance)

Author
David Chilton

Review
A Painful Truth and a Positive Spin

You’ll have to learn to spend less than you make.
Every after-tax dollar we receive can either be spent (consumed) or saved.

Consumed with Consumption

Seneca said 2,000 years ago,
“These individuals have riches just as we say that we have a fever, when really the fever has us.”

Status Update

“It is the eyes of others and not our own eyes which ruin us.
If all the world were blind except myself
I should not care for fine clothes or furniture.”

Choose Your Friends Wisely

Sadly, we often can’t appreciate what we have for its own merit.
Instead, we only consider ourselves fortunate when we have as much
(or even better, more than!)
those with whom we most closely identify.

Interestingly, there is a subset of people for whom this like-reference group selection happens quite naturally: teachers.
Thomas J. Stanley, PhD, the author of the mega-selling The Millionaire Next Door,
has long argued that the fact that teachers only work with people of similar incomes - other teachers -
… they are so adept at living within their means… top of the financially responsible pile.

The Power of Perspective

Is it really that big a deal that your friend at work has a 32-jet, six-person hot tub and you don’t?
Nine hundred million people across the globe don’t have ongoing access to safe drinking water.

Plastic Surgery

I fear credit cards.
Making minimum monthly payments and carrying your debt at 18% (or higher)
is not a recommended financial-planning strategy.

All Too Willing to Lend a Hand

… head to a bank’s loan department and arrange for a $30,000 secured line of credit - nothing more.
Pay off the credit cards with the LOC, thereby refinancing from 18% debt to 3% debt, and cut up the cards…
…set up a monthly pre-authorized transfer from chequing account to chisel away at the loan.

A Borrowed Approach to Borrowing

…used pre-authorized chequing and payroll deductions to fully fund their RRSPs…

Under House Arrest

Live in a house you can truly afford.

Recently, I breathlessly ranted to a banker,
“It’s crazy that if two couples come to see you and they have the same gross family income,
you’ll qualify them for the same mortgage size even if Mr. and Mrs. A are planning on remaining childless
and are members of generous defined-benefit pension plans where they don’t even have to make contributions
while Mr. and Mrs. B have three kids and no pensions. It’s nonsense!”

Charles Farrell (Your Money Ratios)
Thomas J. Stanley (The Millionaire Next Door)

My Frustration

Pay yourself first!

…pay yourself first, start now, live within your means.

A Worthwhile Hassle

…advocates keeping a detailed summary of all your expenses over a period of several months.

Splurge-worthy. I like that.

… don’t just spend less, they spend better.

And Furthermore

…the totals in the same three spending areas seem to have caught them the most off guard:
(1) cars; (2) dining out; and (3) little things.

…they have never grouped their car payments with their insurance premiums,
maintenance costs and gas charges. When they did, they were absolutely shocked.

Shock! That’s the only way to describe people’s reactions to their spending on “little things.”
Nobody, and I mean nobody, can believe how the purchases of under $20 add up.
From magazines to cappuccinos to golf balls to movie to lottery tickets to treats for the kids
to greeting cards to batteries to eyeshadow… well, you get the idea. It never ends!

I was taken aback by how good savers, just like not-so-good savers,
had areas of indulgence and seemingly excessive spending.
Frequently, it was travel. Often it was a hobby like golf.
Sometimes, it was my weakness: dining out.
Good savers are not passionless robots!
They find many things and experiences (usually the latter) splurge-worthy.
But they have the common sense and the requisite Grade 2 math skills
to recognize that extra spending in one area requires extra discipline in others.

By the way, don’t let any of this affect how much you spend on books.

The $64,000 Question

The number 1 enemy of retirees - inflation - is an inevitable visitor.
[Save] between 10 and 15% of your gross income.

When You Assume

…started to save only a decade later,
he now has to save 2.29 times as much per month to catch up to Hank. …more than 18% of his $50,000 income.

‘The best time to plant an oak tree was 20 years ago.
The second best time is now.’

“That Doesn’t Apply to Me!”

…if you can’t live on 60 to 70% of your pre-retirement income in that situation,
I don’t think any book can help you.

I have a friend whose plan will pay her 1.5% of her last working-year’s salary for each year she has worked for the company.
If she ends up spending her entire career there, say 40 years, her pension will pay her 60% of her final year’s pay as an employee.
And she has no deductions from her paycheque!

…the government defined-benefit plans are fantastic.

“That Doesn’t Apply to Me, Either!”

…wealth flows from savings, not from income.

…expenses don’t tend to fall off as much in retirement for this group [low-earners] as they do for higher earners.

Money is Time

“A dollar saved is two dollars earned”

When we buy something, we’re really spending time, not money.

Some Experience Required

…declining marginal utility…watches and cars go from “wow” to “whatever” remarkably quickly.

‘We generally found very consistent evidence that experiences made people happier than material possessions…”

First, experiences don’t grow mundane…being excited during the time leading up to an event is one of the best parts…

The best things in life aren’t things.

…wealth is not an absolute; instead, it is relative to desires.

RANDOM THOUGHTS ON PERSONAL FINANCE

Common Themes

Leonardo da Vinci: “Simpicity is the ultimate sophistication.”

An Easy Choice

Good Advisor: “I have no idea where markets or economy are headed in the short term.
Nor does anyone else here. Our chief economist is brilliant, articulate and wrong more often than right.
Great golfer, though.

A Cool Rule: The Rule of 72

My parents have owned their home for almost 48 years.
They bought it for $19,800 and it’s now worth about $320,000.
Seems pretty impressive.
But what’s “The Rule of 72” say?
Well, the house value doubled from 20K to 40K, then 40K to 80K, then 80K to 160K and, finally, from 160K to 320K.
That’s 4 doubles in 48 years or 1 in every 12 years.
That’s a compounded rate of return of 6% a year.

Albert Einstein: “The most powerful force in the universe is compound interest.”

The Illusion of Wealth

“Well, our house is currently worth about $600,000,” my new friend began.
“But we’re planning on moving to a condominium in a couple of years.
It’ll cost us around $400,000. That will be our last stop, by the way.
Because the expenses there will be higher with monthly fees,
I’ve allotted $100,000 of the $200,000 excess to spin off an income to cover the increased costs.
So, essentially, we have only $100,000 in our house that we’ll be able to convert to a true investment asset.
Is that a strange way to look at it or does it make sense to you?

…a lot of people heading toward retirement “house rich, investment poor.”

As real-estate prices in Kitchener-Waterloo have climbed,
they’ve dragged my parent’s property taxes and insurance premiums up with them.

…don’t forget sales-agents’ commisions, lawyers’ fees, land-transfer taxes, moving costs, and so on and so on.

A Controversial Solution

…a reverse mortgage, the borrower does not have to make ongoing payments on the loan
and the balance isn’t due until the home is sold.
…a way to tap into one’s home equity without moving.

Interest rates on reverse mortgages are significantly higher than those on conventional mortgages.
…the borrower is turning finance’s most powerful force - compounding - into an enemy…

…He conceded that he is normally very hesitant to recommend reverse mortgages,
but felt he may have come across an exceptional case.
An elderly client had been diagnosed with cancer and given only a few years to live.
She was adamant about not moving but couldn’t afford proper in-home care on her low income.
She also wanted to help her grandson out with his university costs.
Initially, the advisor thought it was a rare, ideal time for a reverse mortgage,
which would allow her to stay in the house and free up the needed funds.
However, after thinking it through, he instead suggested a home-equity line of credit (HELOC).
He pushed her to borrow only as needed and to service the debt through writing cheques on the line of credit itself.
Sounds a little crazy at first blush, but makes sense.
Both her legal fees and her interest rate would be lower than with a reverse mortgage.

Dashed Hopes

‘Never invest your money in anything that eats..’

A Misunderstood Shortcut

Think of an index as an aid. A shortcut. A time saver.
All totals, averages, and medians are indices (or indexes).

Clearly, weighting by share price is a goofy idea.
Curiously, though, that’s how one of the world’s most famous indices,
the Dow Jones Industrial Average, is structured.

Incredibly Interesting Math

(1) Could buy stocks on your own.

Cost of utilizing managers (2.3% annually)
Cost of utilizing index fund (0.5% annually), it still wins!

I Wish I Could Help

Frequently, good short-term numbers are the result of the fund being overweighted in the market’s surging sector.
Right place, right time.
Sadly, a whole whack of money flows into the fund based on its last couple of outstanding years
just in time to be introduced to the financial world’s greatest humbler: regression to the mean.
Remember the tech bubble?

Oblivious

…rebalancing their portfolios periodically…
…investors often chase their money away by watching it too closely.

Unorthodox, But…

“It’s simple. I follow only mature Canadian companies that have established track records of paying reasonable dividends.
From that group, I buy shares in firms that I do business with but hate.”
I thought he was kidding but there was no accompanying chuckle. “Hate? What am I missing?”
“Well, if I hate these businesses but I’m still dealing with them, they must have a heck of a good situation.
Obviously, I really need whatever it is they’re selling and the competition can’t get at them.
A captive audience gives them pricing power and staying power - tough to beat!

A Widely Held Misconception

They last traded yesterday at $10 a share,
giving the company a market value of $10 million.

Realizing that no company named after me could truly be worth that much,
you wisely decide to sell your 1,000 shares.
Unfortunately, it’s a rough day for equities and there are no buyers at $10 a share.
You’re so eager to move on that you happily accept the best offer at $9.

Chilton Inc.’s market value is suddenly only $9 million.

By selling a mere $9,000 worth of stock,
you’ve lopped $1 million off the company’s market value.
You’ve ruined the fun for all of us.

The Silent Killer

The difference between the highest “bid” price for an investment asset (the most anybody wanting to buy is willing to pay)
and it’s lowest “ask” price (the least anybody wanting to sell is willing to accept) is known as the “spread”.

Assume the seller comes down and meets your $5.20 bid. Exciting!
But do you now own shares worth $5.20 each of $5.00 each?
Our adage and the real world of markets both say the latter.

A Tough Call

Go with the registered educational savings plan (RESP) first
until you’ve taken full advantage of the Canadian Educational Savings Grant (CESG).
Then, if you still have some money available, contribute to your retirement plan.

What if the RESP’s beneficiaries don’t go on to qualified post-secondary schools?
You could face a major tax bill and the CESG money may have to be repaid.

Why? Because people must save for retirement.
Especially if they’re not members of pension plans.
Naturally, I don’t want to see young graduates loaded down with debt.
But I’d rather see that than their parents struggling mightily to get by later in life.

A Simple Idea

“In your marginal tax bracket of around 40%,
a $5,000 contribution will generate a refund of $2,000. Your $3,000 will take care of the rest.

The Canadians who really get this go one step further.
They figure out how much they should be contributing annually to their retirement plans
and then set up a pre-authorized chequing (PAC) plan to have one-twelfth of that amount
transferred monthly to their RRSPs from their bank accounts. Once that’s in place,
they apply to the Canada Revenue Agency for a tax reduction at source to reflect
the deductible RRSP contributions.

So, using our example, Todd would set up a PAC plan for $417 a month - $5,000 a year.
He’d then apply to have his tax deduction at work reduced by $167 a month. Why?
Because his $5,000 contribution will lessen his taxes by $2,000 a year and that
amount divided by 12 is $167.
In the end, he’ll have $250 ($417-$167) a month less than last year.
Sounds horrible, but guess what?
Over a year, that’s the $3,000 he wasn’t spending anyway - it’s the same amount he was already saving.

Battle of the Abbreviations

When you make an RRSP contribution, you get to deduct that amount from your taxable income.
The invesments inside your RRSP grow free of tax while they stay in the plan.
Down the road, however, when money is withdrawn directly from the RRSP or from the registered retirement income fund (RRIF)
or annuity to which the RRSP has been converted, it will be taxable.

In essence, a TFSA is the mirror image of an RRSP.
You contribute after-tax dollars. In otherwords, you don’t get a deduction for your contribution.
But once the money is in the plan, it not only grows free of tax, but also comes out free of tax.
No tax ever! Fantastico!

Even the numerically challenged can understand that if the marginal tax rate is lower at the time of withdrawal
than at the time of contribution, the RRSP will win.
Conversely, if the marginal tax rate is higher at the time of withdrawal than at the time of contribution, the TFSA will win.

When you withdraw money from your RRSP or RRIF (or receive an income from an annuity to which your RRSP was converted),
not only do you have to pay taxes on it, but your increased income could also lead to higher clawbacks of your Old Age Security pension,
Guaranteed Income Supplement and other means-tested government benefits.

…the effect an RRSP contribution can make on the amount of the Canada Child Tax Benefit (CCTB) parents receive.
…almost all of the researchers assumed every dollar withdrawn from and RRSP or RRIF will be taxed at the marginal tax rate.
Think about that - it’s not always the case.
If I have $10,000 in government-pension income and receive a RRIF payment of $53,000, it’s not all going to be taxed at the marginal rate.
In some cases, it would be more appropriate to use the average rate of tax on the withdrawal in the calculations.

The TFSA won a surprising percentage of the time (though usually not by a wide margin) TFSAs are very flexible.

Are You Sure?

“If I’m saving $400 a month for my retirement,
am I better to put it into a TFSA or use it to pay down my mortgage?”

She instructed her audience to contribute the previous-mortgage-payment amount to a TFSA instead
of just the original monthly savings. But she should have said in addition to.

The Eternal Question

If the rate of return on the investment(s) you make with your TFSA contribution is higher than your debt’s interest rate, the TFSA wins.
If lower, the debt paydown wins. If the same, it’s a dead heat.

Another alternative is to diversify by strategy.
That’s a fancy way of saying invest for growth inside your TFSAs
with a portion of each month’s savings and put the rest against your mortgage.

…paying off even a low-interest-rate mortgage may end up being a clever move if rates rise significantly.

Unbowed

…life insurance really comes in just two basic flavours: term and cash value.
With a term policy, you’re buying coverage for a stipulated time frame. If the insured dies during that “term”,
the beneficiaries collect the policy’s face value. If not, they don’t.

When you purchase a cash-value policy,
each year the issuing company must extract a mortality charge

But reasons not to bundle term insurance with your savings and investment:
(1) The mortality charges (i.e., the term insurance premiums) levied inside cash-value policies
are almost always more expensive than pure term-insurance premiums quoted in the marketplace;
(2) The available investments also usually involve higher fees
than most equivalent ones available outside of cash-value plans;
(3) Although cash-value policies do offer a tax-deferral opportunity, TFSAs ad RRSPs
are even more tax-efficient homes for your investments.

Potpourri

  1. Watch Inside Job, the Oscar-winning documentary on the credit crisis.
  2. Modern firms are incredibly complex entities…their auditors get fooled regularly - what chance do most of us have?
  3. If you insist on building your own equity portfolio instead of using a mutual fund or ETF,
    it’s probably wise to emphasize companies that consistently pay a healthy dividend.
    Cumulatively, that group has tended to outperform non-dividend-paying stocks and be less volatile.
  4. DRIPs - dividend reinvestment plans. Many companies throughout the world, including here in Canada,
    offer investors the option to reinvest their dividends into more shares… Forced saving, compounding, zero to low costs, convenience!
  5. If you have a group RRSP at work and your employer matches all of part of your contribution, take advantage of it! 100% returne!!
  6. Many advisors are moving to a fee-based model. Some charge a flat or hourly fee but most charge a percentage of assets.
    However, for clients with low-turnover portfolios, the old-fashioned, commission-based model may be a better deal.
  7. Over the next few years, the costs of financial products and financial advice are going to go down significantly.
    Competition is heating up and consumers are becoming better educated - a powerful combination.
  8. (i) The best advisors are excellent communicators. They know how to listen, how to teach and how to coach;
    (ii) They love to read about all thing money. That’s probably a big part of how they developed their strong communication skills.
    (iii) They spend their time developing and implementing sound financial plans, not trying to outsmart the stock market.
  9. Please keep your will updated. Do not draft your own will. Think very carefully when selecting your executor.
  10. A will is revoked by marriage unless it states that it’s being signed in contemplation of that marriage.
  11. Seniors should purchase annuities.
  12. Books to read:
    • The Little Book of Big Dividends by Charles B. Carlson
    • The 50 Biggest Estate Planning Mistakes…and How to Avoid Them by Jean Blacklock and Sarah Kruger
    • 101 Tax Secrets for Canadians by Tim Cestnick
  13. Blogs to read:
    • Rob Carrick of The Globe and Mail
    • Jonathan Chevreau of the National Post
    • Dianne Maley of The Globe and Mail
    • Andrew Allentuck of the National Post

A Man With a Plan

“My wife and I use pre-authorized chequing to put as much as we’re allowed to into RRSPs every year.
I use a spousal plan for some of my contribution dollars so that we’ll end up with about the same
amount of money under each of our names. We want equal incomes in retirement for tax reasons.”

“I put half our RRSP monies into GICs. Lately, I’ve been going longer term because rates are high,
but I usually spread it out so that I have money coming due every year.
The other half I put into stocks of big Canadian companies
and we’re into dividend reinvestment plans where possible.”

“Outside the RRSP, any extra money we’ve had we’ve put down on our debts.
Two years ago, we finished paying off our mortgage.”

“Since then, I’ve used the extra cash to help out our son at university
and to start picking up some shares in stable companies like the banks and utilites.”

“We have our will updated and a term-to-100 insurance policy
to cover off the taxes our estate will owe ont he farm when we die.”

“That’s it. Nothin’ fancy.”

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