We Have TFSAs Now: Lose the HBP

September 18th, 2014 by Potato

A little while ago Rob Carrick idly wondered on his facebook page/discussion group if the home buyer’s plan (HBP) was a good idea. In case you’re not aware, the HBP is one of the few ways you can take money out of your RRSP without paying tax on it: you can pull up to $25,000 out as a first-time buyer, and repay it over the next 15 years. The HBP primarily accomplishes two things.

1. It lets people contribute to their long-term (retirement) savings with an “out” to use those funds for a down payment on a house/condo. This way they can save for the future without having to plan what will be house funds and what will be retirement funds.

2. It lets people get a tax refund on their down payment that they can also use on the house right away, effectively borrowing from their future selves. In the short term, it’s an incentive to buy.

On top of this, it has a psychological effect: home ownership and post-secondary education are the only sanctioned reasons for borrowing from your RRSP. Add how irrational people can be about taxes and tax deductions, and it’s a bit of a sacred cow. In the right light (octarine?) it looks like the government encouraging buyers to reach for as much real estate as they can, using everything at their disposal (including their RRSP).

With TFSAs in place now though the first point is well taken care of by that tax shelter: you can easily throw all your long-term savings in there as a young person, and if you need to raid them for a down payment (or whatever) then you can, even in excess of $25,000. Plus it’s already set up to be indexed to inflation so we won’t have to worry about future whining that the HBP isn’t big enough. As for point two, I really don’t think we need any more tax incentives or holiness attached to housing, so doing away with the HBP in favour of encouraging TFSA use would suit my politics just fine.

To be fair, this may need a few years for transition, and would present a bit of a savings conundrum to people who get employer RRSP top-ups, but I find it hard to feel that’s a major flaw in my plan. Let’s simplify the RRSP that one extra step, and phase out the HBP.

Potato’s Third Law (of Finance)

September 18th, 2014 by Potato

Clarke’s third law:

Any sufficiently advanced technology is indistinguishable from magic.

Potato’s Third Law (of Finance):

Any sufficiently complicated analysis is indistinguishable from magic.

A few months ago, Brad Lamb posted this inane thing, suggesting that buying real estate in a highly leveraged way beat out investing in any kind of normal way because, with an average 5.5% return over 30 years and lots of leverage, you’d make scads and scads of money. Of course, that’s clearly a biased and overly simplistic analysis from a source that is, well, you get it. For instance, one important consideration in using massive amounts of leverage (95% in his example) is the cost to borrow. And if you look it up, over those same years the (simple) average mortgage rate was 9% — blowing the 5.5% appreciation out of the water.

Obviously there are lot more factors at play than just appreciation, but many people will have trouble following the red lady as these condo kings play their three-card Monte.

Similarly, Melissa Leong recently wrote about Sean Cooper’s quest to save at an incredible rate and pay off his mortgage crazy early. While her article was very fair and level-headed, someone at the National Post decided to put this sensationalist caption to the preview: “Sean Cooper’s secret: He rents main floor of his house, while living in the basement and bikes and uses TTC instead of a car.” [emphasis mine]. While only part of the numbers are shown, if you work the math and make reasonable assumptions you get a fairly unsurprising result: he ends up paying about $800-1000/mo to live in the basement of his house. Which is what a basement apartment including utilities costs in that part of Toronto. Renting out the main floor of his house is no secret at all — the progress he’s making is solely due to the other insanely frugal and hard-working things he does, like biking everywhere and avoiding taxis or car ownership, working multiple jobs 7 days a week, and reusing everything to the maximum. The fact that he’s renting out part of his house is pretty much irrelevant to the story, but it looks like magic because it’s complicated and because for some reason being a landlord is high-status. Indeed, given the timeframes he’s been working under, he would have done much better doing all the hard working and frugal things he’s doing but plowing his money into index funds.

When there are a lot of factors in the analysis people just don’t want to deal with it. It all bleeds together and acts just like magic, so it becomes hard to critically assess what’s being presented. This happens a bit with a few topics in finance like investing, but it seems to be most prevalent — and most exploited — in real estate.

Take for example the terrible condo ads around Toronto that should be banned for what they try to get away with in the condos=magic department. Here’s a recent collection tweeted by Ben Rabidoux:

To pick one, the Thompson Residences in case you can’t read the image, it claims an 18.6% return on investment (such precision!) with no attempt to back it up (the fine text the asterisk leads you towards just says something about the parties not warranting or representing any of the figures). Another (Axiom) also claims 18.6% returns (they must have done some market research to show that this completely made-up number has some truthiness and feels more correct and gets people to buy than some other random number), this time on the unlevered condo. Of course they don’t provide the full details, just assuming that you’ll rent the place for $2355/mo (such precision — also that gets you a 3-bedroom detached house in many parts of Toronto, but sure, let’s just go along and assume a 1-bedroom downtown-ish is worth that because… George Brown?), and somehow make $685 in positive cashflow and $607 in principal repayment. So after interest (at just 3%) you’ll only have $227/mo for tax, maintenance, insurance, and condo fees (yes, that’s totally reasonable — oh wait, no maintenance fees for a year, of course that’s a representative calculation then). But then you take those phoney rent profits and add it to their phoney price gains ($58,993 — yes, also down to the dollar) and you know what you get? 17.8%. Not 18.6% like they say.

Clearly these ads are not targeted at the careful, numerate buyer — they can’t even be bothered to make their fake numbers internally consistent.

Where was I? Right, magic. Well, there’s clearly some smoke and mirrors going on in those ads.

Tater’s Takes: Tax Refunds Are Not Windfalls

September 11th, 2014 by Potato

I haven’t had a Tater’s Takes round-up post in approximately forever. Preamble: early summer was crazy at work, so it was good that I finished the draft of my book in the spring so it could sit with the editors over that time. Several people now have copies in their hot little hands and are providing great feedback so I can make one last round of polishing before I start getting proofs made up. I’m getting super excited for the book. I’ve put a tonne of effort into it (way, way more than I expected when I thought I’d just make a PSGtDIYI 2nd edition) and I think it’s shining through in the manuscripts. Most people who haven’t gone completely silent have praised the initial copies, particularly novices to finance (the target audience). There’s still almost two months to go before I run out the clock on the window to hear back from publishers, and at this point I almost want to get rejected because it’s just so close to being ready to go in the self-published route that it would hurt to have to pause to work out the details with a traditional publisher.

Blueberry is (as every proud daddy will say, I’m sure) uncanny smart sometimes. Like most toddlers, she has become attached to a blanket as her “lovie”. We’ve heard the horror stories of kids who lost their lovies or those that get disgusting because it’s hard to separate them long enough from the child to wash, and Wayfare planned in advance. We bought multiple copies of the blanket in question, and have kept them in rotation so there’s always a clean one ready and so that they all have the same degree of wear. These blankets are identical in every way, right down to their electrons sharing the same spin states. So we were caught completely off guard when Wayfare surreptitiously did the blankie swap for laundry and Blueberry instantly noticed and freaked out. How could she tell? How could she tell so quickly and decisively? Baby genius, that’s the only answer.

Ok, links.

First up is yours truly, scraping the bottom of the barrel for active investing ideas. I hardly post at all on that topic, and considering I’ve got a book on how easy index investing can be coming up it was best to shunt it to another venue. Nelson was kind enough to host this post on HNZ over at Financial Uproar.

I’ve just discovered Steve at Kapitalust. I’d suggest starting with this recent post on the intersection of ethics and investing.

Sandi’s back! Or semi-back, as someone else takes over half-way through.

Robb at B&E preaches about the inevitability of changes to embedded commissions for advisors in Canada.

Michael James has a new twist on comparing car salescritters to mutual fund salescritters and why embedded commissions make more sense for one than the other.

Oh, so this is public now.

Dan at OBFW reviews a new book (not mine, despite what you may think when you see the title — I’ll unveil the title of mine in just a few more weeks, be patient kids) and raises an interesting question: “Would you rather get a $1,000 windfall at age 27 when you are trying to scrape together a down payment for a house or a $1,300 windfall at age 70 when you have close to $1 million in savings?” in suggesting that young people use their RRSPs over TFSAs (and spend the refund).

I think that’s unfortunate framing. A tax refund on an RRSP contribution is not a “windfall” — it’s a deferral of a government obligation. Michael James puts it best when it calls it the government’s share of your RRSP. Of course the short answer is that if you really need the money to buy a car or pay down debt then you should just use the money for that rather than investing it and then redirecting a part back towards the more urgent need in a roundabout way that involves filing paperwork with a large government agency. But let’s do the math on this suggestion:

Let’s say you scrape together $1k to invest while you’re in the 20% tax bracket at 27, and expect to end up withdrawing in retirement at age 70 in the 31% tax bracket. We’ll use 6% real returns. If you suddenly realize, no, you need $200 of that back to pay down some debt you forgot about or to buy something shiny, then you could either put just $800 in your TFSA, or contribute $1k to your RRSP and spend the $200 refund.

If you just trusted your original decision to invest $1000 in your TFSA, you’d have $12.3k to spend in retirement. But to be more fair, the invest-$800-in-your-TFSA scenario would leave you with $9800 to spend at age 70. If you put the $1000 in your RRSP and got a $200 refund to spend on stuff then you’d only have $8453 to spend after the CRA took their cut in retirement. Spending the government’s share and mistaking the TFSA vs RRSP issue adds up to a much bigger deal than just $1000 when you’re young or $1300 when you need it less — you could spend the same “windfall” amount on whatever necessities you have when you’re young in that case, still use your TFSA, and come out way ahead.

If you only decided to spend the refund because it came months later and you were weak (and you didn’t get commiserate value from the dollars spent), then picking the RRSP over $1k in the TFSA would be like borrowing $200 from your future self and paying an interest rate of nearly 7%. But, maybe spending $200 now is more important than spending $3847 when you’re 70 and don’t need it. Of course that logic of “X now is more important than Y later” can lead to a lot of debt if you don’t put some reasonable limit on it.

Nelson also posted about why he prefers the RRSP to the TFSA. I left a weak, off-the-cuff comment about why I still like the TFSA. One other point that came to me when re-reading it is the issue of the refund timing: if you run the math, assuming you’ll be in the same tax bracket before and after retirement then the two shelters come out neck-and-neck in terms of outcomes. If you end up in a lower tax bracket the RRSP provides an advantage; higher and the TFSA will win out. However, the canonical comparison assumes you invest with pre-tax money and avoid withholding (or have the funds available to invest the refund in advance). In practice not only do people run the risk of squandering the refund, it also tends to come later, so the TFSA gets a tiny, miniscule head start on compounding (when looking at it from multiple decades in the future). Anyway, nitpicky.

Use RRSP with DB Pension?

September 9th, 2014 by Potato

Over on the twitter, people wondered whether to contribute to an RRSP if they have a defined benefit pension plan. The answer depends on a few factors, chief amongst them your expected tax rate in retirement versus your tax rate now (or in the near future if you choose to contribute now but defer the deduction for a while). Other factors can include your situation and plans — if there’s a decent chance you’ll need the money before retirement, it may be best to keep it in a non-registered account until you’re sure you can lock it up.

The short answer is easy though: most of the time an RRSP is better than investing in a non-registered account, even if you have a DB pension. You can think of it like this: you have a pension adjustment if you’re in a DB plan, so you likely only have a bit of RRSP room, with the rest being used by your pension. If you had no pension and lots of room, would you use all of it or only 80%? Maybe you’d be in a case where only using a bit made sense, but likely you’d use it all if you could.

Really the only clear case where you should not use your RRSP is if you expect to be on GIS in your old age (but in that case it’s not likely that you have a job that’s offering a DB pension).

The easy case is when your tax rate in your earning (and saving) years is higher or equal to your tax rate in retirement: the RRSP will make sense (assuming you invest the refund or would invest less if you were using a non-registered account). Indeed, if you do invest the refund the RRSP will beat out the TFSA in terms of returns for the case where your tax rate in your savings years is higher than in retirement.

The harder case is to construct a scenario where your tax rate in retirement is higher in retirement than in your working years. If you’re particularly high in the income spectrum then you could have OAS clawbacks, effectively a 15% surtax on retirement incomes over $71k — which if you’re using a typical DB replacement of 70% means you’d be making over $100k in your working years (over $115k in DB income — say $165k in your working years — and it won’t matter anyway). The most likely case for higher tax rates in retirement is the least predictable one: where your inflation-adjusted income stays the same, but the government of the future has raised tax rates. It’s an analysis paralysis black hole to try to worry about deviations too far from the present set of rules. You could be higher than you are today if you make a lot more later in your career, but then if you expect to move up a tax bracket or two you can still contribute to your RRSP and defer taking the deduction. Still, the answer is not as simple as “skip the RRSP if your tax rate in retirement is higher.”

Even if your tax rate will be higher later, the RRSP can still beat out a non-registered account by allowing for tax-free compounding and easing the record-keeping and reporting burden of investing. The tax-free compounding benefit doesn’t sound that spectacular, but bear in mind that after the first jump the marginal tax brackets in Canada increase fairly shallowly. For instance in Ontario the difference between earning $75k and $90k is only 6%, and that’s made up of a federal 4% jump and provincial 2% increase at similar but not quite identical break points, so you could be “higher” later but have an even smaller difference of maybe just 2%. Would tax-free compounding be worth that?

It’s tough to say because the drag from taxes is not precise, and you can defer some capital gains into retirement, but let’s estimate it: assume you have an 8% nominal return (note that taxes are on nominal returns rather than real returns). Assume that your employment marginal tax rate is 31%, and that through the magic of capital gains partial inclusion, the dividend tax credit, and handwaving, your tax burden on those gains is 12% per year (taking a rate below the half-way mark to try to assume some benefit of capital gains deferral). Then you could invest $10,000 after tax in a non-registered account, earn 8% nominally, and pay $96 in tax the first year, or put the $14,493 pre-tax* into an RRSP, and earn 8% tax-free. After 10 years you’d have $19,745 in your non-registered account versus $31,289 in your RRSP. The tax drag would mean that your tax rate could be as high as 37% after 10 years — 6% higher than our starting tax rate or a full federal + Ontario tax bracket move — and the RRSP would still roughly break even. As time wears on so does the non-registered tax drag — after 28 years in this example the tax-free compounding benefit would offset being hit with OAS clawbacks.

I’m not sure what the correct estimate of the non-registered tax drag would be, but in this example I’m neglecting any tax on deferred capital gains which would further improve the outcome for the RRSP case. I’d ballpark it as somewhere between 1/4 and 1/2 of your marginal tax rate, and likely closer to the high end of that.

So yes, there is a very good chance that investing in an RRSP will beat out investing in a non-registered account, even if you move up by a tax bracket over time or face OAS clawbacks.


  • If you’re really low income, where you expect to get GIS in retirement, then avoid your RRSP. Invest in a TFSA, and if you manage to have more to invest than your TFSA contribution room, invest in a non-registered account.
  • If you’ll be in the same or a lower tax bracket in retirement, then definitely maximize your RRSP! Tax arbitrage FTW! Just remember to invest the refund too, where you can.
  • If you’ll be in a higher tax bracket then it may still be worth it:
  • If you’ll be just one bracket higher, it will quite likely work out better with an RRSP due to the non-registered tax drag.
  • If you’re in the OAS clawback range (expected retirement income of ~$71k-$115k in today’s dollars) then consider it carefully, but enough time and non-registered tax drag may still make it worthwhile.

I’ll finish by noting that my rule-of-thumb is simply “TFSA first”. For many the RRSP will come out mathematically optimal (note that the TFSA gets the same benefit of tax-free compounding discussed here), as many people can expect to end up in a lower average tax bracket in retirement. However, the TFSA is more flexible, better for lower-earning people, and moreover is easier to plan around with set contribution limits by year and no pension adjustments, and higher income people can usually find the funds to contribute to both. Mostly though it’s the gap between theory and practice that makes me push the TFSA: most people do not put pre-tax money in their RRSPs (or invest the refunds) — they invest what they have on hand at the time they decide it’s investing day, and then if a refund comes in they spend it. Plus if you figure out later on that an RRSP is better for you, you can easily withdraw from your TFSA and start catching up on your RRSP — if you don’t know any better, the TFSA is a great place to start. Once your TFSA is full, moving on to RRSP next (over non-registered makes sense)**.

Finally, a good related post at Michael James on Money that I couldn’t find a place to link to above.

* - remember that the 31% tax rate is on the pre-tax amount, so the RRSP will have more than $13,100 to invest, but this may come as $13,100 in the first year, then a refund on contributing the refund in a following year, repeating. Or you could fill out the paperwork to get pre-tax money into your RRSP by avoiding tax deductions in the first place.
** - which doesn’t mention the RESP. That depends on your priorities and view towards paying for your kids, but free CESG money is hard to beat so it often goes even ahead of the TFSA.

Back-of-the-Envelope: Motion Sensors

September 8th, 2014 by Potato

In the name of efficiency, many places are moving towards using motion detectors to control the lights, which can be annoying when the decision circuits decide the room is empty and turn the lights off on you. On the whole I find sensor-controlled lights more of an inconvenience than a labour saver. Still, if the lights are off more that’s going to save power. Advances in lighting efficiency means it’s not quite as bad as it used to be to leave the lights on, but unless there’s a next-generation LED technology coming, turning them off when you’re not in the room is still going to be a necessity as always-on lighting just isn’t realistic.

However, motion detection isn’t free, either: the sensor uses some electricity, and of course has some capital costs. So the question is how bad do you have to be at turning off the lights for a motion-controlled light system to make sense?

Doing some brief research (I googled it), the sensor is not energetically expensive: drawing roughly half a Watt, that’s only 4 kWh/year. If the sensor is controlling four 100 W incandescents or eight 50 W halogens, that’s only ten hours of accidentally leaving the lights on, less if it’s an even larger room or hallway. Of course with lighting getting more efficient, even setting aside LEDs and using four CFLs of 13 W each, it would take 77 hours of accidental usage to break even, or about 12 minutes per day. And you have to be especially negligent to make it worthwhile to put a sensor on a circuit with only one or two bulbs.

And on the flip side, sensors can lead to more light usage if you rely on the timer to turn the lights off rather than turning them off yourself. If you leave a room long enough for the lights to turn off say 3 times per day, and each time the lights burn for 2 minutes longer than they would have if you just hit the switch on the way out, then that’s an extra 36.5 hours of light caused by the switch. More if there’s more in-and-out traffic through the area, less for more rarely visited spots.

It might be because I’ve got investments on the mind, but this sounds like it’s going to shape up to be an analysis focused on risk: if the room is a place you go to infrequently with your hands full (so less likely to turn the lights off, and more likely to have them burn for a long time if your forget), with many high-consumption lights, then the risk of having the lights burning all weekend may outweigh the drain (and capital cost) of the sensor.

There are some other benefits to motion sensor controlled lights, such as infection control. There are also drawbacks, such as the existential crisis that happens every time the sensor fails to see you: are you a ghost and just don’t realize it yet, or is the sensor on the fritz?; and DEAR GOD TURN THE LIGHTS ON ALREADY I’M JUST TRYING TO POOP AND WHY IS IT DARK?

In the end though it doesn’t look like we’re talking about large sums of money either way. 4 kWh/yr will work out to about a dollar in electricity, and the sensor-powered light switches are only a few dollars more than a regular one. For your own private dwelling it may be a toss-up, but for a lightly used commercial washroom the math may make more sense, when the lights could be left on unnecessarily for hours every day. Which is a shame, because those are the same places where the malfunctions are most annoying.

Pizza Math

September 2nd, 2014 by Potato

A reader requested this a long time ago, sorry for taking so long Ben!

The age-old question: is the medium the better deal, or the large? The medium may be cheaper per slice, but each slice on the large is bigger…

The math to figure this out is not hugely complicated, but it’s just a bit more than you might be able to do in your head or with a smartphone while you’re hungry and staring at a menu board. What we’re interested in is the area of pizza that you get per dollar. The area of a circle is simply pi * r2. Pizzas are sized by their diameter (double the radius). However, there are no points for crust (”pizza bones”), so we’ll subtract 1″ from each diameter (for a typical 0.5″ of crust on each side of the line through the circle) when computing the area factor. Because we’re really just interested in the relative value we don’t necessarily need to do the division by two or multiplication by pi — the pizza value will scale with the square of the adjusted diameter — unless we’re comparing to a square pizza. While some pizza places use their own wacky sizes, or have irregular hand-shaped crusts, most places have settled on standard sizes. I’ve listed the rounder area factors and actual edible areas below:

Small (nominally 10″): Usable diameter of 9″, area factor is 81 (edible area of 63.6 sq. in.).
Medium (nominally 12″): area factor is 121 ( 95 sq. in.).
Large (nominally 14″): area factor is 169 (132 sq. in.).
Extra Large (nominally 18″): area factor is 289 (227 sq. in.).
(note that Pizza Pizza and some other stores have 16″ extra larges)

Square pizzas: most often encountered with party sized pizzas. In this case to make a true comparison you would need the circular pizzas area in square inches. For a 15×21″ (nominal) party pizza, there are 280 sq. in. of edible pizza. Converting into “area factor” above, that would be 356.

To put this into practice then requires a division step with the price. You can divide the price by the area factor to get a price per unit area — then lower is better. However, because pizzas are often priced near $10 or $20, the inverse may be more convenient to work with — pizza units per dollar — in which case the higher the number the better value. For example, if a large is on for $10, the pizza per dollar is 169/$10 = 16.9. If the medium is $8, that’s 121/8 = 15.1; if the party size is $20 that would come to 356/20 = 17.8. In that case the bigger you go, the better your value.

For your convenience, I made a reference card for your wallet. (Be sure to select “actual size” when printing)

I’ll note that dollar per unit pizza should be the preferred unit/method if you want to look at how the value difference scales across pie sizes rather than just which is larger — analogous to the L/100 km measurement system vs MPG issues.

TFSA Over-Contributions

August 29th, 2014 by Potato

The stats on how many people got nastygrams from the CRA with penalties for over-contributing to their TFSAs this year have come out, and there’s a lot of shock over the fact that this keeps happening. Young recently made that mistake.

I will say it again: the onus is on you to track it yourself. The web portal is known to be dramatically out-of-date. IMHO the CRA should just take it down because it’s misleading and the opposite of helpful. Young suggests calling to get a more up-to-date reckoning. This may be more up-to-date than carbon dating the archeological evidence in the sedimentary layers of the web portal, but I can guarantee someone will be caught by this system also being out-of-date at some point. There is no getting around the fact that the CRA can’t give you an updated contribution limit if the banks haven’t sent them the information (and as an aside, it’s really weird to me that phoning will get you more up-to-date information than the computer system, like we live in an age where there’s a pile of paper forms on somebody’s desk that haven’t been entered into the computer yet). And the CRA will not accept responsibility for telling you that you have contribution room left when they later determine that you don’t.

I make tracking it simple on myself: I max it out in one call the first week of January, and then forget about it for the rest of the year. Now that’s only possible because I had non-registered savings and investments when the TFSA was launched, and continued to have non-registered funds every year, so I just have to call up TD, make an in-kind transfer of some shares, and contribute whatever cash is needed to round out to the limit (which I can then use to buy e-series with inside the TFSA).

But whether you have a simple system so you don’t screw it up (like contributing in one chunk, or an automatic monthly contribution that keeps you under the limit), track it religiously, or go through all your statements on an as-needed basis to forensically re-create the events in question, ultimately it’s up to you to not over-contribute.

MoneySense and the Stockdale Paradox

August 28th, 2014 by Potato

I didn’t like the recent MoneySense tale of a capitulating bear in Toronto. It had some good stuff in there, but it was sandwiched by some awful thinking that does the readers a disservice.

Sandi picked up on one good bit: “It’s a purchase—it’s what I’ve been saving my money for.” While I do harp a lot on the insane costs and the importance of making a good comparison to renting, the purpose of that comparison is to make an informed choice of how to best spend your money for you. Many people are willing to spend more to own for the “pride of ownership” (me? Well, given how awesome this house is and the services our landlords provide, as well as seeing the risks inherent to owning, I would need a discount to owning to take the plunge). But how much more is always the question. So you do your comparison and you may say “meh, an extra $2k per year plus so much extra risk, that’s worth it to us.” Of course for many in Toronto and Vancouver, after running some scenarios it may be more like “Fuckity-buckity! It costs how much more to own?” So he said that money is for spending (which it is), and that his house is not an investment (which I suppose it’s not), but then never really clarified for readers how much more he was looking at or that it was a trade-off he was willing to make because yearly beach vacations are dumb and bad and nobody likes them anyway.

He does do a number of things right: he checks to see if his budget can handle an increase in rates; that he can survive a decent 20% correction and still stay above water in case he needs to move; he acknowledges that prices may fall and is not buying with visions of future gains in his eyes; and he’s not planning to move for a long time (though as a snarky aside, the assumption that he’s not planning to sell for at least 20 years may be a bit optimistic for someone in the magazine industry…).

However, the article also uses some seriously specious reasoning which brackets that good stuff. The worst was right up front:

“The reason is simple: I want to eventually retire with a paid-off house, and I was running out of time.”

There are many paths between not having a paid-off house today, and having a paid-off one in retirement (and that is not even commenting on the goal itself). For example, you can rent your larger family home right up until the day you retire — investing the difference the whole time — and then buy your retirement pad (which may be a downsizer from your working/family life place you rented) all in cash. Boom, paid off in one day and saved one round of transaction fees too. At no point does a mortgage have to come into it. Indeed, given the basic affordability issues he talked about in the preceding paragraph, the last way to get to a paid-off house in retirement should be to buy one now. The last part of that statement also makes no sense: there is no time limit, other than actually entering retirement. You don’t get to having a paid-off retirement pad any more surely from paying off a mortgage on a too-costly house at a young age than you do from renting and saving.

Let’s replace “house” with some other thing that isn’t so loaded and traditionally linked with a mortgage and the point should be clearer: “I want to eventually retire with a paid-off boat.” Well now it’s clearer: you could buy a boat now with a boat loan and pay it down, or you could rent a boat, save up, and buy one with cash when appropriate. That makes even more sense if you think there’s a good chance boats might be 20% cheaper in the future and that renting is less expensive for now — how does buying now make sense if your goal is to have one at some point before retirement? If there was a big boat sale on then maybe it would make sense to take the plunge and get a loan if you needed to. Instead, it looks like many buyers these days are getting suckered by the no interest until 2018 promotional event.

This whole “running out of time” thing reminds me of the Stockdale Paradox*: James Stockdale was in a POW camp in the Vietnam war for almost 8 years. When asked about his coping strategy, he said:

“I never lost faith in the end of the story, I never doubted not only that I would get out, but also that I would prevail in the end…”

When asked who didn’t make it out of Vietnam, Stockdale replied: “Oh, that’s easy, the optimists. Oh, they were the ones who said, ‘We’re going to be out by Christmas.’ And Christmas would come, and Christmas would go. Then they’d say, ‘We’re going to be out by Easter.’ And Easter would come, and Easter would go. And then Thanksgiving, and then it would be Christmas again. And they died of a broken heart.”

The paradox is that you have to believe in the fundamentals, that sanity will return. Trust the math, trust the logic, and trust that you will prevail in the end, but do not be too optimistic — the unrealistic hope for short-term salvation that is dashed again and again will wear you down and end you over time. You need to live in the gritty reality we face. When the bubble first started becoming a “popular” concern around 2008, some were calling for corrections to be as fast or faster than the US, especially given that we had the opportunity of witnessing their meltdown as a kind of sneak preview. I always figured it would be a slow, grinding process — but even I have been greatly surprised by how long the insanity has gone on for, originally pegging 2012 as the timeframe to be prepared to wait (4-5 years). The differences between the US and Canada that people loved to point out (such as how subprime lending was arranged, or non-recourse states) were largely differences of accelerating factors. It would make a Canadian implosion a painful, drawn-out affair compared to the US’s relatively fast (but still multi-year) implosion, but did not immunize us from a bubble.

Christmas has come and gone, and Easter too, but that does not mean that prices will continue to grow at triple the rate of inflation forever until only the Pentaverate** can buy in Toronto.

That’s why I focus so much on the price:rent metric and rent-vs-buy comparison: you have to live somewhere, so you may as well settle in somewhere nice because it’s gonna be a while. Even after the crash, it’s likely that there will be an undershoot in prices that will last for years, so you’ll have plenty of time to dance out of a stock portfolio. Of course you invest it.

Anyway, back to the MoneySense article at hand and the other half of the bracket — the conclusion:

“So do I feel like I got a good deal on my house? Not at all. By historical measures, I overpaid by quite a bit. But it was either that or no house at all…”

Either that or no house at all? That’s a false dichotomy. A really obviously bad one at that. Where has he been living until today? Is this another instance of the implicit assumption that if you don’t own you must be homeless, that renting is somehow equivalent to cowering under a sheet of cardboard? For such a massive purchase and component of the typical household budget, there is a surprising degree of reliance on memes, mantras, tradition, false dichotomies, and surface analysis. A bubble is as much about belief and memes as it is about interest rates, new developments, and price momentum. To see it as the conclusion in MoneySense by a self-described happy renter was infuriating. This isn’t “native advertising” in the Sun saying that, this is the concluding remark from the MoneySense editor-in-chief, and it just washes away all that good stuff about considering risks that came right above it.


Update/clarification from G+: in the article I’m not trying to slam the individual choice he made (the outcome). It’s not the choice I made, it may be sub-optimal, but he’s done his risk assessment and whatever, that’s his choice. So it’s all good there in the middle “here’s my choice, I’ve got my eyes open, and I’m prepared to deal with the consequences.” What set me off was that the good part is undermined by bracketing it in with things that basically say “and I had no choice whatsoever and was forced to do this.” Which just kind of blew the top off Mt. St. Potato, because I know people who would see that as being just as good as “rent is throwing your money away” or whatever. All the careful risk stuff sounds like an unnecessary aside when it’s the only choice there is anyway.

* - Hat-tip to Brooklin Investor for reminding me of this tale at precisely the right time for this rant.
** - The Queen, the Vatican, the Gettys, the Rothschilds, and Colonel Sanders before he went tits-up.

Other Rent-vs-Buy Calculators

August 22nd, 2014 by Potato

I’ve done a lot of things I’m proud of. I think the rent-vs-buy spreadsheet has to feature somewhere near the top of that list (at least if we limit the discussion to things I’ve done for personal finance). It’s the only such calculator to let you include the risk of future rate increases, and includes many important factors without completely blowing the whole thing open to the maze of apples-to-basement-suite type comparisons. Rather than starting blank or with valuations that may have been relevant in 1995, it’s prepopulated with recent data from Toronto (and every 6 months or so I even update the interest rate projections based on what’s available in the mortgage market). Moreover because it’s a spreadsheet you can check the math (or tweak it to do an apples-to-basement-suite comparison) if you so choose.

Really the only drawback is that it’s a spreadsheet rather than a flashy widget (and I keep meaning to get around to learning how to code those but it’s just too big a time commitment for me now), which seems to hurt its popularity. Because other rent-vs-buy calculators are still popular, let’s take a tour through the options.

New York Times: The NYT calculator was updated recently. It takes a neat approach in that instead of getting you to tell it what the cost of rent is, it computes what the equivalent breakeven rent would, and leaves it up to you: “if you can rent for less than this, then rent.” It also has itty-bitty graphs that show you the sensitivity of the outcome to each factor. Now, I prefer my approach because it’s clearer what the magnitude of that is. Maybe you can rent for less, but if it only works out to $10k more over 10 years, maybe “pride of ownership” is worth that. Or maybe the difference merely looks small when expressed in monthly terms: if NYT says to rent below $2500/mo and you find a place for $2000, maybe that sounds like it’s close enough to break-even that you’ll just buy. But if you saw how quickly that difference compounds into hundreds of thousands of dollars, maybe your decision would be different. There’s no way in the current NYT calculator to enter your market rent to make a comparison.

My main beef with the NYT calculator is that you have to tweak it for Canadians in really non-intuitive ways. The big change is that you have to set your tax rate to zero — in the calculator it’s not the investments that are being taxed, but that Americans get a tax deduction for mortgage interest. I think the NYT one is the most-recommended one out there. Even Rob Carrick recommends it on a regular basis, which stings because the refinements to my calculator came about through discussions on his facebook page. Rob Carrick why don’t you love me??? Ahem. Anyway, it’s not bad — actually rather good if you’re American — it’s just that the link doesn’t usually come with the appropriate Canadian conversion kit, and there are Canadian calculators [waves] available.

Getsmarteraboutmoney: This one IS BROKEN. Stop sending people to it. I talked about the “wonky” results back in December, and emailed them about it as well. They acknowledged the problem back in March and said they would fix it soon. Well, it’s still broken and there isn’t even a notice on the webpage about it or anything. The main problems are that it always sells in year 30, so you can’t compare other holding periods (even though the graph visually implies that it is looking at break-even times), but the larger error is that it does not compound the differences in cashflow between the renting and buying option. That can really skew the difference between the options over a long time period. Otherwise it is flashy and pretty and has sliders for all the right things, so it should be good to go in a couple of years when they finally fix the back-end calculations. Of course, that just makes the math errors that much more tragic because it looks like it should be fancy and trustworthy.

RBC: To be clear, they call it a “rent or buy calculator,” not me. It is simply not a calculator to compare the two options. The only inputs are how much you pay in rent, what interest rates are, and how long you want your amortization period to be. Then it tells you how much house you could buy with a mortgage payment “equivalent” to your rent — note that it ignores tax and maintenance and opportunity cost and insur– just all the costs. Every ownership cost you can think of, it is ignored. I’m hoping it ranks so highly in Google because they bribed someone and not because people are actually linking to that POS.

In fact as a short-cut, if a rent-vs-buy calculator doesn’t have an input for your investment return as a renter, just throw it away. It’s likely missing a number of other important factors for the decision. Naturally, Genworth’s is similarly biased, as are most of the other big bank ones. CIBC’s is not that bad, but it does miss transaction costs and insurance. Its rates of return for a renter’s investment and the house are are unhelpfully labelled “market appreciation” and “rate of return” — you tell me which is which.

First Foundation: They recently launched their suite of calculators, including a rent-vs-buy calculator. It seems to do all the calculations properly and includes the most relevant factors. I could nitpick and add the ability to include future rate increases or whatever, or to start with all three tabs open, but the only real criticism I have of it is that the default for maintenance is zero rather than some wrong-but-better-than-zero approximate number. Also, the property taxes are annual while the maintenance is monthly. It’s explained in the tooltip, but the average user buzzing through it might get wonky results before realizing the problem. It’s not mine, and I can quibble, but the math checks out and it includes the important factors others often miss — First Foundation gets the nod.

Money Geek: I opened it up and I was like “nnnnnnuuugggggghhhhhhhh…” as my brain started to overload. This must be how other people feel when they open one of my ridiculously overly detailed spreadsheets. I can’t actually evaluate it because it only works in the bleeding-edge versions of Excel. But it’s there if you can get past that technical challenge.

Yahoo Finance: I’ve seen this exact one around on other sites, so it must be a licensed calculator/widget. Anyway, all the tax issues of being American, without the benefit of sensible defaults (0% selling cost yet 5% house appreciation?). It’s also a little odd in that it subtracts the opportunity cost of investing the down-payment from the owner’s side rather than adding the value to the renter’s side — I haven’t thoroughly tested it to see if that still gives the correct results but a spot test looked in the ballpark.

The Art and Science of Cover Design

August 19th, 2014 by Potato

The cover to Potato’s Short Guide to DIY Investing is something I designed myself one weekend. It’s fairly uninspired in terms of layout: block lettering on the top for the title, a fairly plain image, and then my name. It’s black-on-white so a bit more dull than the typical book, but I think the art piece of my physical $10 bill origami bunnies (with hand-drawn eyes and whiskers — no photoshop there) overlaid on the graph that forms the central message of the book was, well, pretty good. I mean, the book even heavily featured bunnies so it works well.

Still, it does look kinda amateurish in hindsight. So I’ve retained an artist friend to help me create a wonderful new cover design for [new book: title to be announced soon]. I’m trying to come up with some ideas of where to start.

Many personal finance books fall into a few basic categories for cover designs. You have your author lounging in a suit ones, like Preet Banerjee’s, Dave Chilton’s, Peter Lynch’s, Jim Cramer’s, and a whole host of others. Then there’s the really, really ridiculously long title so that the whole book cover is just text school of thought, like Rob Carrick’s and Gordon Pape’s. Some are more academic: plain, with some text decoration at most, like the Intelligent Investor (some editions, anyway) and the Little Book of… series, but not as crowded as the other textual school of thought. Then there is the Cult of the CGI Piggy Bank, which covers nearly every other personal finance book out there. I think Millionaire Teacher had one of the more unique covers, but I can’t say whether that actually helped it sell copies.

So in preliminary discussions on how the cover should be designed this time I’ve decided that I’m not going with the lounging-in-a-suit type cover: no one knows me, and I’m not that pretty. The pig is out, that is just a complete non-starter for me.

Rather than plain white the base of the cover will include some colour. I don’t know if I will go with a conventional title on top, framed image in the middle, author on the bottom, or something else — we’ll play with it. A refresh of the bunnies is possible (not necessarily origami money), but now the bunnies occupy much less of the book*.

A maple leaf is in. Everyone agrees on that, and many can’t believe I didn’t work one in to the first book’s cover. A clear oversight on my part for a book focused on Canadians — though at least my bunny origami was made from a recognizably Canadian $10 bill. How else are they to know? (Other than reading the synopsis, that is.)

Beyond bunnies I’m having trouble of thinking of anything unique and creative related to this book. How do you say, in a visually appealing way, that this book will walk you through investing in a friendly and helpful way? How do you say that this will help you cut out the noise and focus on what matters? Is there a visual metaphor for “index fund good” or “here there be ETFs”? Or should I bring in tropes from other genres, like a long-haired man with oiled musculature ripping asunder the bodice of a flushing maiden arching her back with an impossible curve? Spaceships flying through asteroids and nebulae (mentioned nowhere in the book)? A full moon with mist on the moor?

Actually, let’s revisit that assumption: is unique and creative something to shoot for at all? There are hundreds of personal finance books out there, but maybe if I get too creative with the cover it won’t look like a PF book (or like a respectable one)? Have these few tropes evolved for a reason?

Any brainstorming thoughts or suggestions to add?

Note: if I get a publisher they will likely take care of the cover art. But I’m proceeding as though it will be self-published before the end of 2014 until I have a contract in my hands to the contrary.

* - All the existing bunnies made it over to the new book, but there are no additional bunnies despite the near-tripling in length, so proportionately fewer bunnies.