Free Lunch Friday #7: How to save 30% of your income per year (and invest it for afterward)
This month, I'm going fully transparent on how I saved 30% of my yearly net income over the last three years.
Howdy financial wizards! This month, we are taking a quick break from investing and going back to basic with how to save money. Investing is great, but if you don’t have a budget or an emergency fund you might need to recheck your priorities. If you have any suggestions of topics you would like me to tackle, let me know!
What is your contribution room and how does it work?
You heard about having a contribution limit with your TFSA or RRSP, but how does it really work with investing? You have a limit of $6,000 per year to contribute to your TFSA (from 2019 to 2022) but it started to $5,000 from 2009 to 2012. These yearly limits are stacking up and you can follow your contribution room with the Canada Revenue Agency (CRA).
But what happen when you reach out your TFSA contribution limit with money invested in stocks? The answer is simple: the difference in gains or loss you're making aren’t added on top of your contribution limit. However, it’s a bit different for your TFSA or RRSP.
On your TFSA
If you were 18 years old in 2009 and haven’t contributed at all to your TFSA, you would have an available limit of $81,500 in 2022. If you have 81K in your TFSA but this amount is now at 100K, you’re not going over your limit because your gains are not added over your contribution limit.
On your RRSP
For your RRSP, it’s a bit different. It’s 18% of the income you earned in the previous year or the maximum annual contribution limit for 2022 of $29,210. They are not taxed when gains are realized but when funds are withdrawn.
Let’s say that you invested in bear markets and you made gains of $20K over the last 15 years. If you decide to withdraw this 20K from your TFSA, you won’t pay taxes because you withdraw it, but 50% of your gains are taxable.
That means that 50% of the capital gain on any given sale is taxed at your marginal rate by province. This is based on your total income. Let’s go back to the 20K you’ve made.
If you made 70K this year, you’re in the second federal tax bracket with a tax rate of 20.5% with a maximum of 10K. You would be taxed 20.5% on 50% of your 20K, so you would pay a total of $2050 in taxes. The total gains after taxes is $17,950. However, you’ll have pay additional provincial taxes in Canada.
How to save 30% of your income per year (and invest it afterward)
I have been saving 30% of my income for 3 years now. I know that every situations is different. I come from a middle class family with access to a college education, and I’m part of the lucky ones to have a mortgage that isn’t bleeding me out.
Even if it’s not 30% of your income, it should be an ultimate goal to reach, but saving 20-25% is fantastic. Here are a few tips that helped me save over 30% of your income per year:
Pay yourself first
Every time you get paid, automatically transfer it on an investing platform.
Start budgeting
Let’s face it, budgeting sucks. Seeing how much you spent on stuff you don’t need is depressing. However, you can still apply a few rules to get the best of it and keep your cash flow healthy. Keep 50% for needs, 30% for wants, and 20% for savings. If you can do 40% for needs or 20% for wants and put the rest toward savings, that’s even better.
Find gaps in your spending
Sometimes, you might realize that you’re spending a lot in specific categories. On my end, I like having the occasional Guru energy drink but the monthly sum of it can be a lot. By seeing the gaps and working towards reducing them is a great way of improving your cash flow.
Understand your new “zero”
A great way of becoming better with your cash flow is to select a specific amount and get used to it fluctuating. It can be from $1,000 to $5,000 and will become your new zero. This will improve how you behave with your chequing account.
Keep your lifestyle when increasing your income
The more you progress in your career, you either get promotions or you change jobs to increase your income. Keep your lifestyle and invest the percentage you are used to with that new salary. This way, you can keep increasing the value of your savings according to your new income.
Treat yourself from time to time
Life is not all about investing. Follow the idea of saving 30% of your income per year, but don’t sweat or stress over it. It’s important to enjoy life with experiences rather than hoping to do it in 35 years.
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