Expensive in a Couple of Ways

If I were to admit to a major vice that costs me more money than it should, it would be food. I love food – all kinds of it. One of the only reasons that I consistently go to the gym is to offset my habit of overeating on some weekend days, work “pot lucks”, or just a random Tuesday night when I decide it would be a good idea to hit an all-you-can-eat sushi restaurant (these aren’t consecutive food adventures, just inadvisable choices made from time to time).

The problem with eating out is that the cost of the meals adds up to
quite a bit of money over time. The cost isn’t enough to change my savings plan significantly, but between the money spent and the unhealthiness of most of the stuff I like to eat (because who I don’t normally choose healthy food), it’s not the best thing to do.

Six and a half days out of 7 days, I’m able to pretend to be a responsible adult and eat at least home-made food. My lunch staple is ground beef in either some sort of taco / burrito bowl (lettuce, tomatoes, salsa, maybe some avocados, and refried beans) or a pile of frozen vegetables, depending on how ambitious I am the night before. I make my lunch food the night before because I give myself basically enough time in the morning to make coffee and run out the door.

We buy our beef in bulk from one of my friend’s mom, and have been buying half a pig from a local farm over the past few years to add to our freezer stock.  Because of this stockpile of meat, we usually have enough food sitting around the house that I really shouldn’t be eating out at all. I know how to cook a lot of food, most of which is both delicious and much cheaper than something comparable at a local restaurant – I just choose not to some days.

Instead of taking 15 or 20 minutes at night to put together a lunch, which would result in me eating locally raised grass fed ground beef with healthy vegetables, I choose to continue watching baseball or football and shovel some of the worst food possible in my face. It’s one of the things that I do that makes neither financial or health sense, and could be easily remedied. Over time, this “habit” is probably costing me about $20 a week, just so I can eat food out that I already know how to make at home.

I try to spend my money efficiently, and me being lazy and semi-addicted to bad food is kind of the opposite of that. In the past, I’ve been able to talk myself into reducing the number of times I go out to eat to once every couple of weeks, which seems to work until I decide that I “deserve” more of the fun food that I want.

Given more time, I would probably cook for myself 100% of the time – something I look forward to when I’m done working full time in retirement.  I can figure out how to cook some fairly elaborate meals as part of a hobby, instead of rushing to put things in lunch containers for the next day. For now, I just battle my “vice” as
much as possible.

Better to Start Now

I meant to post this yesterday, but had to re-work some of my calculations in the examples below that didn’t make sense.  I’m definitely not advocating this type of investment for anyone, but wrote this post as part of my own investigation into possibly doing it for myself.

I am far from an innovative investor. I lean heavily on stealing other people’s ideas as my own, picking and choosing the best stuff that seems to fit into my own risk profile and investing strategy, as well as for the time I’m able to use to research the investments going into my portfolio. I continue to read books and blogs of people who are smarter (and probably more interested) at investing than I am.

Ever since I initially read “Rich Dad Poor Dad”, I had a dream of being a real estate mogul – of building a business that was outlined in his book from a couple of small houses to eventually a full portfolio of buildings that would make me a multimillionaire. I read that book over 10 years ago, during my initial rush of inhaling every personal finance book that I could. While I think that in general, most of what was talked about in the book doesn’t really apply to me, the picture of being a real estate “player” as a means to wealth never really left my mind.

One thing that has kept me out of the physical real estate market is that I really don’t like people. I know what I was like as a fairly responsible tenant during my renting days, and I wasn’t ideal – I can only imagine the problems that I could come across with some of the “horror story” tenants that I read and hear about from landlords. My wife and I can barely manage our own house, let alone look after several properties at a time. While I know I could hire a property management company to look after the houses I’ve bought, that would mean I’d have to hire and fire those “employees”, something I wouldn’t look forward to doing.

A couple of weeks ago, Nelson from Financial Uproar wrote about an alternative method of having a leveraged real estate portfolio.  Most of my adult life, I have been against most forms of debt, I don’t like to have it hanging over my head and have avoided most forms of borrowing as much as I can. I am generally a risk averse individual when it comes to investments, but this kind of leveraged investment has me intrigued. I am currently invested in a couple of REITs in my RRSP portfolio (RioCan and Dream Office), but these items make up a fairly small portion of my current overall investments. A much larger exposure to real estate wouldn’t really shift the diversification of my portfolio.

Example

As an example of how this investment would work, let’s say my wife and I were to start a “mini” real estate portfolio. Like most real estate starts, our intention is to use 20% of our own money (similar to how we would have started with buying a small house to rent to a small family or students) and borrow 80% of the amount from our bank using a home equity loan. I have made the following assumptions (taken from Nelson’s blog post, as well as September 15, 2015’s return for the REIT TSE:ZRE) :

Interest Rate Charge – 2.70%
Annual Charge = $2,160
Monthly Charge = $180

Return on the REIT investment – 5.71%
Annual Return = $5,710
Monthly Return = $476

I’m going to assume there is no change in distributions or interest rates for the period of testing.

Basic calculation:
On a monthly basis, we could, on a 20,000 investment earn $295.83 (distributions less interest charges) as long as interest rates never increase, or cash distributions aren’t adjusted in the for the index fund. Annualized, this investment would provide an additional $3,550 in income for our household – not a huge amount of money, but a pretty good return of 17.75%. If our goal at retirement is to have passive income of $25,000, we would be 14% of the way there, with minimal effort.

Paying down the debt:
If, over the next 9 and a half years (114 months) if we didn’t spend any of the income received from the investment and use the total net amount to pay down the principle on the loan, we would be making $382.22 per month ($4,586 per year). At the end of this period, we would owe $21,604 on the loan we took out

“Letting it Ride”
A more aggressive method of utilizing this kind of investment, would be to pay interest only, and utilize the money earned to purchase more shares. This kind of strategy would be similar to a “small-time” real estate investor starting with a single house, and using the equity created by the investment, to extend the investment to the maximum. At our projected retirement date, we would be generating annual income of $6,100 with our investment, an increase of $2,550 over the year 1 investment returns, or about an 8% increase on return (hopefully greater than inflation).

A Mix
The investment could be paid down like a mortgage, increasing the investment and paying down the debt at the same time. In month 1, the net return of the investment is the calculated $295.83. The $295.83 could be split in two, with half of the distribution used to pay down the debt and the rest used to purchase more of the security, more of a “blended” payment. This method of debt payment would reduce the debt outstanding, which might insulate any future impact of an increase in interest rates, while increasing income associated with the investment.

Tax Implications:
If I were to utilize this kind of investment, I would do it through a taxable account. With a taxable account, there are implications that need to be taken into consideration over holding a REIT in a tax-sheltered account.

On the taxable income side, REITs are much more complex than normal securities, due to the methods used to create income. The Globe and Mail wrote an article about tax filing for RioCan in previous years, which included the following items in income:

31.24% – Other income – taxable at the marginal rate.
1.72% – Capital Gains – 50% taxable at marginal rate
4.57% – Foreign non-business income – taxable at the marginal rate
62.47% – Reduction in adjusted cost base (return on capital or ROC) – A bit of a complex calculation – the Globe and Mail writer explained it as:

When you receive ROC, you are not taxed immediately on the amount. Rather, you subtract the ROC from the adjusted cost base of your units. This gives rise to a larger capital gain, or smaller capital loss, when you ultimately sell your units. Because of the tax deferral, ROC is considered tax-efficient income.

Interest on investments is an allowable expense, provided the investment is used to try to earn investment income (can’t be used for capital gains investments). This allowable expense will reduce the taxable liability on the interest earned, provided I would fill out a schedule 4 tax form.

Risks:

The two main risks with this type of investment would be a decrease in the distribution paid out, or an interest rate increase. Both of these risks are a little scary when it comes to the investment as a whole, but there is (currently) a 3% spread currently between the interest charge and investment return to “play” with.

Verdict:

I’m still not sure if I’ll do this or not. If I do make a leveraged investment, the earlier it’s made the better, as it would give more time to get either interest paid down or to increase the investment earnings by reinvesting into the security.

Continuing Education

I received an accounting designation 2 years ago, after around seven years of tedious distance education. For three of the seven years, when the courses I was taking became too difficult to allow for the amount of procrastination I was accustomed to, I had to give up a good portion of my hobbies and interests in order to give myself a chance to pass the courses I had decided to take. As in most schooling I’ve been part of, there were many things that were not applicable to either real life or any accounting work that I’ve come into contact with, but it seemed very important at the time.

As part of my accounting designation, I have to fulfill 40 hours of professional development per year. This year, I took a two day course on auditing standards (was actually better than it sounds) and will probably scrape together enough free webinars offered by financial companies and accounting bodies to fulfill the necessary requirements to keep my license. I don’t mind the learning part, it’s the cost of learning that makes me a little angry – the Chartered Professional Accountants of Canada / Ontario essentially have a monopoly on the courses offered now, and price accordingly.

Besides continuing my education for my chosen career, I am also trying to continue to teach myself to be a better investor. I would be the first to admit that I read fewer personal finance and investing books than I did five or six years ago, when I was deep in the middle of creating a personal finance plan for my wife and I. At the time, I read most of the personal finance and investing books that my library had available, trying to sponge up all of the information out there. These days, my intention is to learn more nuance – instead of the previous strategy of “learn everything at a time, and hope that some of it’s right”.

I’m much more comfortable with my financial situation. My wife and I have gotten our monthly expenses to a reasonably low level that allows us to save enough to hopefully achieve our end goal of being financially independent in about nine and a half years. What I need to learn right now and into the future, are ways to limit (as much as possible) investing mistakes that could put my finances in peril. In addition to risk avoidance, my goal is to reduce the opportunity costs of my investment decisions – if there is a more profitable place to put my money, I’d like to at least be aware of it.

So, for now, I have a pretty big list of books that I’m planning on reading, taking notes on and applying (if what has been written makes sense) to my investment decisions. I’m hoping that sometime in the future, I will have less doubt when I make a purchase or sale of a security, but I have a feeling that as I get older and my investment portfolio gets larger, the wariness and worry will probably always be there.

Separate Lives

I think that most people who meet my wife and I, wouldn’t really guess that we were in what I would call an exceptional financial position compared to an average household. Most people see my wife and I on weekends, when I’m golfing all summer, and we are hanging out at backyard barbecues or patios at bars, the same as any other D.I.N.K (dual income no kids) couple would do in our situation.

Other than the weekend stuff though, we’re mostly pretty boring people. We both read quite a bit, we watch some Netflix, and try not to make our house too messy, but really don’t have many other hobbies that would cost a lot of money. These “intensely indoor” activities are significantly different than our more extroverted social outings that we take part in on weekends with our friends. Our “boring” indoor hobbies are part of the reason we have money to save towards retirement at the end of every month.

I like our separate lives – I’m mostly an introverted person, and if I spent all of my time around other people, I think I would spend a good amount of it in a grumpy state. Additionally, most of the activities that I like to do when I’m out and about involve either eating or drinking or both, which would adversely affect my ability to maintain a healthy body weight if I were to indulge like that all the time.

For me, I try to maintain a balance. I balance my hobby spending, by saving for my ridiculously expensive golf addiction for the whole year, while barely spending anything else on any of my other interests. Health-wise, keeping a low-profile life during most of the week gives me more time to talk myself into going to the gym on a regular basis, as well as to get enough sleep and lets me shove less unhealthy food in my face.