Have you heard the story of the “Frustrated Student Loan Payer”? I have seen this story 100 times in real life.
A smart kid goes to university and graduates with a large student loan. She spends several years working to pay off the loan. While paying off the loan:
- She delays becoming independent and stays at her parents’ home.
- She wants to buy a home, but feels it is out of reach. She has no down payment and knows it will take years to save up.
- She applies for a credit line or a mortgage, but has no assets at all and a negative net worth.
- Wise people annoy her with good advice about starting to save for retirement early while “time is on her side”.
- She is in her late 20s and feels she has accomplished nothing.
People in their 20s are a unique challenge for a financial planner. There are so many possible goals and so much uncertainty about life.
The goals you should consider in your 20s could include:
- Pay off your student loan. You were taught to pay your debts. You don’t like the payment. You may get a tax credit on it, though.
- Move out of your parents’ place alone or with friends to learn about yourself and become independent.
- Buy a car. It is an important part of being independent. You may not need one if you live in a large city, though.
- Save up a 20% down payment for a home. You likely will want to buy a home within 5 or 10 years, or when you get married. Owning a home is a good investment. It will take years to save this.
- Start saving for your “financial freedom” (retirement). The “magic of compounding” by starting early is huge. For example, if you start in your 20s, instead of waiting until your 30s or 40s (when you might have the money), you have 40 years until retirement. If you invest $500 per month at an average 8% return:
- For 20 years, you have $284,000.
- For 30 years, you have $704,000.
- For 40 years, you have $1,611,000.
What is your priority?
The uncertainties of your life make it hard. You don’t know where your career is going, when you will meet the “right person”, or what you want to do with your life.
How do you decide on your priorities?
- Think about what you want from your life and your career.
- Think about what is likely to happen to you in the next 5 or 10 years.
- Sit down with a financial planner, even if you have to pay for a couple hours of their time. You need advice from experienced, knowledgeable people. Your parents are probably not money experts. Your friends have no more life experience than you.
The best general advice:
- Live frugally.
- Keep your total debt payments under 10% of your income. Then they probably will not affect your ability to get a mortgage.
- Pay off your credit card every month.
- A new car is a sign of a spender, not a sign of someone with money.
- Start your “financial freedom” long term investments at 10-20% of your income before you get used to spending it. Focus on equities.
- Save most of your money for a home down payment in 5-10 years, so you have the option. Target 20% down to avoid CMHC fees (plus closing costs, land transfer tax, furniture costs, etc.). You can save $25,000 in your RRSP for a home.
- Do not buy a home too soon. Wait until you know you will live in it at least 5 years and your career is settling in. If you sell in less than 5 years, you will probably lose money after all costs to buy and sell. Studies show renters tend to have better careers, because they are able to move for a better job.
One thing for sure. Putting 100% of your money into goal #1 (pay off your student loan), while putting zero towards goals 2 to 5 (independence, house, car & retirement) is almost definitely wrong!