Building Wealth

For the first 30 or so years of working, saving and investing, you’ll be first in the mode of getting out of the hole (paying down debt), and then building your net worth (that’s wealth accumulation.). But don’t forget, wealth accumulation isn’t the ultimate goal. Decumulation is! (a separate category here at the Hub).

What will the Post-Covid world look like?

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By Amit Ummat

Special to the Financial Independence Hub

We’re all talking about how the world will change because of COVID-19 and are already seeing things like more cooking and less takeout, lower profits for more stability, and electronic voting. But what about taxes and tax policy? The global economy is undergoing drastic change, but what will be the repercussions of these changes for tax authorities? We can expect three things: more state involvement, reduced globalization, and universal basic income. Let’s have a look at each of them.

1.) More State Involvement

Governments will be more involved in the economies of their nations and this is where new approaches to tax policy come into play. National governments will no longer tolerate tax minimization by large corporations (including airlines) and then acquiesce to requests for taxpayer-funded bailouts.

Denmark and Poland recently made it policy to exclude tax-haven companies from COVID-19 relief schemes. So, if a corporation fails to pay its fair share of tax and thereby fails to finance public goods and services, it cannot expect state-sponsored loans or wage-subsidy programs. The government of Denmark said companies which pay out dividends, buy back their own shares, or register in offshore tax jurisdictions, will not be eligible for aid programs from the state.

Expect more of this. It means income inequality will be tolerated much less by governments and society, prompting action by tax authorities to ensure that all taxpayers pay their fair share. This is already happening.

We hear echoes from every corner of the world that the share of revenues going to labour and producers are grossly out of whack. In 1960 labour expenses were roughly equal to profits, but now there is incredible disparity with the lion’s share of revenues going to capital owners and only a small fraction going to labour, and that fraction hasn’t even kept pace with inflation.

Don’t expect a Marxist-type revolution where the means of production are usurped by the working class, but there will be an expectation for income allocation to be more equalized between capital and labour.

2.) Reduced Globalization and Stronger Domestic Supply Chains

With this pandemic we have seen what happens when nations aren’t able to control supply chains for essential goods (i.e., ventilators and other PPE). The United States is a perfect example. Globally, we will see supply chains repatriated by nations, and technology allowing for this through AI (Artificial Intelligence), portable manufacturing equipment, and more accessible communications. This will make it easier to impose tax on corporations since much of the activity will take place in a single geographic jurisdiction.

While globalization has produced a myriad of benefits, including a huge reduction of poverty in the world, it’s no coincidence that the growth of the globalized economy has spawned incredible growth to the middle class, such as in China and India. But this has also led to the loss of manufacturing jobs in Western countries. One can argue that globalization is why Western nations have become almost entirely service-based. Continue Reading…

Playing with the Box: Re-reading Nick Murray

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Author and Advisor’s advisor Nick Murray. NickMurray.com

By John De Goey, CFP, CIM

Special to the Financial Independence Hub

I was on a cross country flight recently and I re-read a book called “Simple Wealth, Inevitable Wealth” by Nick Murray, a former rock star speaker who was beloved by the financial advice industry – mostly because he constantly told his advisor audiences that they are great, do important work and are worth every penny they make.  The book was written 20 years ago and, unlike the other books by Murray, was written expressly for investors.  Reading it again provided both a nostalgic stroll down memory lane and an enlightening insight into how much the financial services industry has changed in the past generation.  Some parts of the book have held up well.  Others… not so much.

The risk of outgrowing your capital

I’ll begin with the positive.  The good news is that I still find it refreshing to read Murray’s perspective on the perverse way the media defines risk.  He simply, compellingly and eloquently walks readers through the very real risk of outliving your capital as a result of a reliance on the quaint notion that bonds are “safe”.  Safety, according to Murray, is having a pool of capital that you cannot outlive – and putting a significant portion of your life’s savings can significantly impede that outcome becoming a reality.  I was also heartened by his acknowledgement that there are false dichotomies and that the real decision in the ongoing ‘debate’ between active and passive approaches is really a choice between the more relevant considerations of product cost.  Murray also writes persuasively about the need for specific, measurable, time-bound goals that help to focus the mind and guide in principled decision-making.  Best of all, Murray names and blames what I believe to be the biggest culprit in most peoples’ failure to meet their financial goals: themselves.  More specifically, their own behaviour.

There are also a few things that cause me to shake my head in disbelief, however.  The most obvious of these are the return assumptions that he puts forward as being reasonable.  Granted, the numbers he uses are based on historical data, but he does relatively little to explain that real returns are fairly constant and that a portion of all nominal returns is inflation.  While he doesn’t expressly tell people what inflation rate to expect, he does note that there is historically about a 5% premium for stocks over bonds.  He uses 11% as a proxy for expected stock returns and 6% for bond returns.  To put that in perspective, I currently assume inflation to be 2% with a 5% real return for equities (7% nominal) and a 0% real return (2% nominal) for income.  How times have changed, now that everyone has re-calibrated their expectations toward a low-growth, low-inflation environment for the foreseeable future.

Sustainable withdrawal rates

Then there’s the related question of a sustainable retirement withdrawal rate.  Murray uses 6%.  Many years ago, I remember people talking about the real rate being 5%.  For the past number of years, I’ve been using 4%.  Note that my current withdrawal rates are actually more aggressive/ less forgiving than Murray’s.  You’re much more likely to not run out of money withdrawing 6% from something that’s earning 11% than to withdraw 4% from something earning 7%.  Financial planning is easy when your assumptions are based on a rose-coloured past rather than a murky future.

The thing that struck me the most, however, was his admonition to readers (remember, Murray is writing to ordinary investors here) to focus on first principles.  Everyone knows the old ‘life’s like that’ story about getting a young child an expensive present for Christmas or a birthday only to have that child spend more time playing with the box that the gift came in than with the gift itself.  Continue Reading…

Hub Q&A: What is the tax impact of Covid-19 on investors?

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By Darren Coleman and Elena Hanson

Special to the Financial Independence Hub

The following Q&A is between the Financial Independence Hub and the two hosts of the new Two-Way Traffic podcast, financial advisor Darren Coleman and cross-border tax expert Elena Hanson.

Their bios are at the end of this blog. 

 

FINANCIAL INDEPENDENCE HUB:

While April 30th is usually Canada’s tax filing deadline, this has been extended this year because of the Covid-19 crisis. Our first question is whether there are other tax impacts for investors because of the Coronavirus?

DARREN COLEMAN: The stock market sell-off was broadly based and the decline  indiscriminate as both good and bad quality investments dropped about the same amount. When this happens, investors should upgrade the quality of their portfolios by moving into better quality securities. In some cases, this may mean triggering a capital loss you can carry backwards to reduce capital gains paid in the past (up to three tax years) or “bank” those losses to offset future capital gains. It’s a good idea now to review your investment portfolio and financial plan with a qualified Certified Financial Planner and investment professional. Business owners should also be tracking their losses, if they have any, as a result of closures or reduced operations.

ELENA HANSON: Most types of returns and payments have been extended, but Internal Revenue Service (IRS) and Canada Revenue Agency (CRA) operations have been curtailed and are operating at minimum capacity. This inconveniences practitioners and taxpayers as we are in tax season and continue doing business.

Both the Canadian and US governments have also introduced new, large legislative packages to address the current economic reality, stabilize the economy, and prevent a recession. US provisions have been enacted in three phases and we await phase four. The Canadian government has been modifying its economic response plan daily and only a small portion has been enacted. This requires us to stay on top of the situation, communicate with our clients in a timely manner, and advise them on their inquiries.

Are there Tax strategies we should be putting in place in lieu of Coronavirus? 

DARREN COLEMAN: First, you should harvest capital losses in investment portfolios. And second, consider moving from investments that earn interest – rates are at historic lows – to those that pay dividends. Not only will you generate a higher income, you will pay a lower rate of tax on dividends over interest.

ELENA HANSON: It depends. Are you a business owner, and if so, are you US-based or Canadian-based? Are you an employee or are you a Canadian resident or a Canadian resident who is also a US citizen? Right now, it’s about injecting cash into the hands of the business or individuals. The US CARES Act is robust and offers real economic stimulus in the form of large loans. A portion of this is forgivable with eligibility to carry losses back as far as 2013, and you can accelerate depreciation on certain capital assets, which in the past, did not have preferential treatment. The Act also provides non-taxable rebates to individuals and access to their pensions on a tax-deferred or loan basis.

On the other hand, Canadian benefits are all taxable, whether it’s the Canada Emergency Response Benefit (CERB), the 10% employment subsidy of the Temporary Wage Subsidy (TWS), or the 75% subsidy of the Canada Emergency Wage Subsidy (CEWS). This means  individuals and employers who receive these benefits will be taxed on them next year. They will also be taxed on the US benefits on the Canadian return (if they are subject to Canadian taxation) but not on the US return.

As for other strategies, consider filing early if you expect a refund. With the significant loss in marketable securities, it may be a good time to make a gift, replace assets in trusts, do estate freezing or refreezing. In addition, it’s wise to carryback losses to prior years, and on the US side you can now carryback corporate losses for both 2019 and 2018 taxation years for up to five years back. But watch out for scammers and fraudsters during the rebate season.

What are the best short-term things we should be doing?

DARREN COLEMAN: The first priority of every financial plan is to have cash, or immediate access to cash, so you can fund up to three months of expenses. That primary rule is being tested right now for many individuals, professionals and businesses. If you don’t have sufficient cash, you may need to adjust your holdings to free some up.

ELENA HANSON: The immediate need of our clients is to assist them with any tax benefits available from the stimulus packages, especially if they were laid off or terminated. For businesses, owner-managers want to better understand how they can preserve cash to maintain their operations. They want to know which of the newly introduced laws are best suited for their business – Economic Injury Disaster Loan (EID) or Paycheck Protection Program Loan (PPP) on the US side, or which of the two wage subsidies on the Canadian side. We’ve also been dealing with some loss tax planning, including bad debt, related to business operations or individual marketable securities for individuals.

What are the best long-term things we should be doing?

DARREN COLEMAN: The global equity markets had a historic decline in February and March. This has impacted the investment and retirement portfolios of millions of investors. What does this mean for your financial plan? It’s time to review that. For some, it may mean you need to keep working longer. For others, it may be a rare opportunity to improve your portfolios by buying great long-term securities that are on sale.

ELENA HANSON: If you’re a business owner it’s a great time to review and optimize your business strategy, revisit your supply chain, and look at disaster-response measures. This will better prepare you for the next time you face a challenging economic environment. Also, we will likely end up living in a different reality after the pandemic, so start thinking now about how to ensure your business can be more competitive and innovative.

If you’re an individual who is seeing a large portion of your portfolio disappear, perhaps it’s time to have an honest conversation with your money manager, update your risk tolerance in your portfolio, and do estate planning. As people reflect more on their mortality, you should also schedule a meeting with your lawyer (once businesses are open) to draft or update your will. We all want to hope for the best, but need to plan for the worst and this experience proves it.

What is the overall impact of Covid-19 on the market and on your investments?

DARREN COLEMAN: Most diversified portfolios are down between 15-25% in 2020. This has likely concerned most investors and has certainly changed their financial plans. It has also tested the risk tolerance of many, especially after a ten-year bull market. Continue Reading…

Avoid costly mistakes in penny stocks and venture capital by navigating Speculation Booms

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In the 1990s and early 2000s, many Internet stocks rose to extraordinary heights based on the number of visits to their websites, rather than dollars in their bank accounts. Back then, lots of analysts and investors believed that these stocks could go on rising indefinitely. Instead, the Internet stock boom ended suddenly, like almost every speculation boom does. Most of the top Internet stocks collapsed and brought huge losses to investors.

Investors need to be wary when the signs of a speculation boom appear, especially in both venture capital and penny stocks. 

Venture capital investing is subject to a speculation boom

We rule out some investment areas regularly when we feel they offer bad odds of making a gain. For example, venture capital investing is always highly volatile. What’s more, high management and other fees tend to offset lots of gains in good years, and eat up a lot of your capital in bad ones.

Now is a particularly bad time for individual investors to delve into venture capital. That’s because a number of highly innovative technology investments have done remarkably well, and this has helped spark an enormous boom in the field. Money has been flooding into venture capital investments in recent years. In speculation boom, a flood of money tends to bid up the prices of all opportunities, good and bad.

Note, however, that many of today’s venture-capital success stories have yet to reach profitability. They are taking in ever-larger amounts of money from outside investors, and expanding their revenues by using these incoming funds to finance negative cash flow.

Even the most promising opportunities can fail to make the transition from exciting start-up to self-sustaining, profitable company.

You run into the same problem in venture capital investing as in penny-stock investing: It’s easier to launch a venture-capital deal or a stock promotion than it is to create a profitable business.

If you profit during a speculation boom, consider the “sell-half” rule for your speculative stocks

Selling half of hot stocks that surge helps you guard your profits. But apply this rule only to more aggressive stocks, and not to the well-established stocks that may surprise you by going a lot higher in the long run.

Knowing when to sell a stock is one of the most important factors in successful investing: it’s almost as important as knowing when not to sell. That’s why we advise investors to follow a key rule when it comes to rising stocks.

Whether your approach to investing is conservative or aggressive, the quality of your investments matters much more than your skill at selling. Continue Reading…

A philosophy to help investors cope in this uncertain time

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Katie Moum: Unsplash

By David Miller, CFP, RFP

Special to the Financial Independence Hub

If you are feeling uneasy about your financial situation and your investment portfolio, you are not alone.

Our lives have changed. Right now, most of us are working from our home offices, suddenly teaching Algebra and Social Studies to our kids, and watching more Netflix than we should. Healthy behaviours have hopefully changed for the better, with extra hand washing and social distancing. Shaking hands may be a thing of the past.

The economy, for the most part, is shut down, so does that mean your investment behaviours should change too?

That depends …

  • What kind of Plan have you committed to?

If you have an investment plan that looks to take advantage of the low prices during a downturn and if you have stuck with it during this unprecedented time, kudos to you! The panic selling during March 2020 dropped the S&P 500 (the ‘top’ 500 listed companies in the US) by 36%! Scary stuff that made a lot of people feel stressed out, and it feels like it could get worse. But let us check that feeling with historical facts.

March 3rd, 2009 was the technical bottom of the 2008/09 Financial Crisis, but no one recognized it until much, much later. Here is a quote from CNNMoney.com from that day 11 years ago; note the language:

“I think people are at a loss for answers right now,” said Larry Glazer, managing director at Mayflower Advisors. “Investors are mentally exhausted, and the market at multiyear lows has a psychological impact.”

He said it’s possible that the declines are part of a cycle the market needs to go through to get to healthier footing, but that, regardless of that, it’s very painful for investors in the near term.

“This is a risky market and investors need to ask themselves if the stocks they own are ones they want to own through an extended downturn,” said Robert Loest, portfolio manager at Integrity Funds. “If not, they should be raising cash.”*1

This language seems similar to the sentiment around today’s markets. Today is a much different situation but much of the same fear-based feelings are predicated in the media every day. I’m not saying that we’ve already seen the market bottom of this unprecedented event, but if you had followed the advice of the Portfolio Manager above and picked March 3rd, 2009 to sell your investments and raise cash, you just lost out on the best possible day to invest for the next 11 years. Just as no one could have predicted March 23rd, 2020 would be the day the markets would rebound for 20+ days after, even amid worsening Pandemic numbers and an evolving oil crisis.

Table 1: S&P 500 (CAD Hedged) vs. Canadian Short-Term Bonds

The point is, no one knows where the market will go in the short-term. A lot of the market movement is based on fear and greed, not grounded economic reality and fundamentals. Holding a long-term view and a strategy to buy into these short-term panics is vital to investment success.

As an investment firm, we took a cautious approach that last week of March, dipping our toes into the water, selling only some of the short-term bonds that we hold and buying into the down markets. We did not buy exactly at the bottom, but we were close, buying near a 30% discount from February’s highs. If the equity markets drop down again, we will sell more of the safe assets and buy equity again.

What allows us to buy near the bottom during a panic? For each of our clients, we build a holistic strategy that includes a written commitment in the form of an Investment Policy Statement.

“Writing down your goals means that you can visually see them. This is an important point because when we see something, it affects how we act.”*2

  • The Investment Policy Statement

Simply defined, an Investment Policy Statement (IPS) is our guide to how we invest your money. It lays out, in writing, your long-term goals, risk tolerance, methods to invest, expected long-term rates of return, downside risks, and corresponding asset allocation targets. Continue Reading…