Prudent financial planning has never been more important than it is now. In our recent Integrated Advisory video series, WealthCo President, Sophie Blais, takes us through the key elements of financial planning. We’ve included a synopsis below.
This is a great question and a common one for financial planners.
Not all Debt is the Same
There are two different types of debt:
One where you pay down the interest; and
The other one is where you pay off the debt by paying off interest as well as a portion of the debt on an ongoing basis.
There is debt that you can deduct from your taxes and there is debt that you can't deduct from your taxes. For example, you cannot deduct your mortgage from your income taxes however if you borrow to invest you can potentially tax deduct the interest on the repayment on your income taxes.
When you're looking at interest deductibility on debt it's important to work with your Integrated Advisory planning team to make sure that you have all the information that you need and you're making the right decisions.
Interest on Debt
There are two different types of interest that you might be charged on your debt:
Fixed rate – this rate will not change. If you're paying 3% interest, you'll pay 3% interest through to the end of the term; and
Variable rates – this rate can change and may go up or may go down depending on circumstances.
It's important to understand both and to understand the different types of debt that are out there so that you can determine how you should pay off your debt and what order you need to pay off your debt.
Normally we suggest paying your highest interest debt down first (like high interest credit cards). In the case of a lot of debt from multiple sources, it may be worth considering debt consolidation so that you have one debt payment versus multiple debt payments.
Good Debt vs Bad Debt
There is good debt and there is bad debt. Mortgage debt, for example, as it is an investment in a property, could be considered good debt as compared against other types of debt, such as retail purchases or going on a trip. If you look at consolidating your debt you may have the opportunity to pay off higher interest debts and replace it with a lower interest rate - this can be really advantageous and make a huge difference to your financial plan.
A common misconception that we see is paying off your biggest balance first - however that's not necessarily where you want to start. Again, you should be looking at your highest interest rate debt and paying that off first. It’s also important to consider prepayment penalties – lenders will often infringe a penalty for early repayment of debt, so it’s critical to look at what those penalties are and how they might impact your financial planning. Sometimes it may be worth incurring the penalties if you really want to get that debt paid off and satisfy your peace of mind - different people have different levels of tolerance when it comes to debt.
When considering whether to take the money that you have and decide between repaying debt or investing, and if you can invest and earn a greater rate of return than what your interest payment is, the mathematical answer might be to invest. It really does come down to one’s personal feelings, comfort level, and values around debt.
Your Guide in Debt Decision-Making
At the end of the day, working with your Integrated Advisory planning team and having fulsome conversations with your planner and your accountant will help to make some of those decisions. Even if the math tells you that investing is the better option, but the trade-off is sleepless and stress-filled nights, then I would suggest that investing is not the right option at this time. Your team will be well-versed in the various planning tools, the risk of borrowing to invest, and what makes the most sense for your unique situation and individual risk tolerance.
The Integrated Advisory Network consists of a community of progressive CPA firms, along with best-in-class professional advisors, service, and product specialists, who work together to deliver an elevated and holistic client experience. One that optimizes both their personal and professional lives with an integrated financial strategy designed to help clients reach their goals. Reach out to your Integrated Advisory accountant if you have any questions or want to have a deeper conversation about your financial plan.