It's Your Money  

The real cost of a loan

When you borrow money for a car loan, mortgage or other purchase or debt, one of your main concerns is what interest rate you will be charged. When entering into a loan agreement, it is important to understand that the interest rate is only one component of the cost of borrowing money.  

While the interest charged is the largest expense, there are other “hidden” costs and fees that the borrower must incur, such as closing costs, origination fees, insurance costs, etc. When looking at loan options, you may have seen the term “APR” which stands for Annual Percentage Rate.  

The idea behind the APR is to disclose the total cost of borrowing once all these other hidden costs are included. By law, all financial institutions must show their customers the APR of a loan or credit card which clearly indicates the real cost of the loan.  

It’s important to remember that the interest rates and APRs are not the same thing. If two loans charge the same interest rate but one has much higher fees, the APRs can end up being quite different. This is the whole point of lenders being required to disclose the APR – it provides a more accurate estimate of the real cost of a loan in a given year.         

Sounds simple right? Just compare the APRs instead of posted interest rates and you’ll know what you’re dealing with. Unfortunately, it is not that easy.  

Many car makers, credit card companies and banks try and confuse the consumer as much as possible. While some fees are required to be included in the APR of a loan, others are not. Simply comparing the APR of two loans may not tell you the whole story unless you ask what is and isn’t included in their calculations.  

Furthermore, the advertised APR may be contingent on several different criteria that are not readily disclosed. A bank may offer a personal loan with an APR of four per cent but what they don’t make known is that the low rate is contingent on your acceptance of their life and disability insurance to protect them from default and the cost of this insurance isn’t included in the APR rate. To add further insult, the lender may then charge you three or four times the going market rate for this insurance with no easy way for you to be able to compare the insurance fees.

Even further confusing things is the fact that different countries calculate APRs in different ways. An “effective APR” takes compounding into account across a year where a “nominal APR” is the simple-interest rate for a year.       

There is also marketing traps to beware of such as low introductory APRs that jump considerably after six months or multiple APRs (in the case of a credit card) decided by the type of transaction. These and many other hidden fine print items can cause you to pay far more interest than you ever expected and cause significant damage to your overall finances.  

Borrowing money is a necessity for most people and is something the majority of Canadians will do countless times during the lives. But that doesn’t mean you should do it blindly. 

The next time you are going to enter into one of these lending situations, take the time to fully understand the terms and conditions and what the total cost of borrowing that money will be. When in doubt, seek the guidance of a Certified Financial Planner professional who can help to fully explain and evaluate the different options with you.


It's good to be defensive

When the stock markets are going up, everybody loves to talk about how well their portfolio has done or the one great stock that made them 50 per cent last year. When the markets go down however, people get very quiet and don’t mention their investments at all.  

For many years, I have coached clients on investing defensively. This approach requires a lot more discipline than the typical investment plan (or lack thereof) and the ability to keep human emotion and greed out of your investment process.  

You see, when the markets are doing well and the average investor goes up 10 per cent, a good defensive portfolio may only gain eight per cent during the same period. Remember, these are the times when everyone likes to talk about their portfolios and brag to their neighbours and friends about how well they’re doing.  

So, it becomes very hard for some people to sit by and “accept” a measly eight per cent return when they keep hearing how others are earning 10 per cent at the same time.  

The greediest people and those with the least discipline will choose to switch at a time like this. They opt to move their more conservative investments over to whatever Joe next door is holding in the hopes of earning 10 per cent again next year. This is the worst mistake you can make though as you’ve not only missed out on the bigger returns from last year but are now in a position to take big losses as well if the markets move down.  

As we begin 2020, I fear that we might be in exactly that type of situation again. The markets all performed very well in 2019 and I’ve heard many recent comments about people moving their investments into higher risk holdings at a time when they should be doing the exact opposite. 

A good defensive portfolio will really shine during the bad years. Let’s say the next year is rough in the markets and the average investor loses 10 per cent during that time. A good defensive strategy might put you in a position to lose two per cent or less during the same downturn or even stay green for the year. You’ll be a lot farther ahead than the masses but you may never know it, as Joe likely won’t be talking about this year’s returns.  

A high percentage of singles and doubles will provide a much better long-term result over swinging for the fences and trying to hit the odd home run. But don’t just take my word on it, let’s look at the math during the 2008 financial crisis:

Defensive Portfolio A lost 10 per cent during 2008. In 2009, the same account grew 10 per cent. So $100 would have dropped to $90 in value at the end of 2008 and then grown back up to $99 by the end of 2009 for a net two-year return of negative one per cent.  

Home Run Portfolio A was down 40 per cent in 2008 but gained a full 40 per cent in 2009. At the end of 2009, you would have only $84 for a net return of 16 per cent over the two years.  

One of the biggest challenges of investing over the long term is staying invested during the difficult times. If someone invested in the Home Run Portfolio couldn’t handle the 40 per cent drop and decided to move their money out, they’d be even worse off as they wouldn’t be around for the partial recovery.  

Even if they did stick it out, they’re still considerably farther behind the defensive portfolio anyways as you need to earn a much larger return just to get back to even.     

Defensive investing is challenging because you’re probably only hitting doubles when your family and friends are hitting home runs. The most difficult part is blocking out the chatter and knowing that you’re well positioned for the long term. 

I’m not saying that the next recession will definitely hit in 2020, but it’s definitely closer than ever. When the next big drop does come, you really can’t go around bragging about preserving capital to all of your friends who just lost their shirts, but you can sleep a little better at night and know that you’re in good shape for the future.

Don't buy a timeshare

While away on vacation this winter, you might be approached by a salesperson offering to sell you a little piece of the paradise that you’re currently enjoying. The vacation is probably going great and you are instantly excited about the idea of making this an annual tradition.  

The offer sounds simply too good to pass up right? Let me guess, the “special offer” is good for today only, too?  

No matter what the salesperson calls this wonderful investment opportunity, the real name of what they’re trying to sell you is a timeshare and for 99 out of 100 times, the answer should be no. Yes there are certain people who can make a timeshare work but understand that they are very few and far between and I’d like to tell you why you shouldn’t get sucked into one of these disasters.  

The single biggest risk most timeshare purchasers face is their lack of liquidity. There are hundreds of thousands of people trying to get rid of timeshares and prospective buyers are limited. The timeshare salesperson may tell you that you can sell your “investment” easily and likely for a profit but this is simply not true. Go on eBay and see how many timeshares are for sale for $1 or even how many people are willing to pay you to take the financial burden off their hands for good.  

The second biggest risk is the cost of ownership – something that you are potentially locked into for life. Your timeshare could cost you $1,000+ per year in maintenance fees in addition to the annual fees for your week. These costs have no future cap so they can keep going up each year and you are obligated to pay them, even if you don’t use your week at all.  

These annual fees are a big part of why many timeshare owners are so eager to get out of their unit and are willing to take a loss to do so. People realize that they would rather pay someone $10,000 now to take the disaster off their hands instead of being on the hook for $3,500 per year for the next couple of decades.     

With such a large number of desperate sellers out there, there is an equally large group of scam artists or semi-legit companies willing to extort more money from you with false promises of selling the timeshare on your behalf. These scams only add to most sellers financial woes and make the resale market that much harder to navigate.  

Timeshare salespeople may try to convince you that it will be very easy to rent out weeks that you don’t use and that you can turn a profit doing so. Most likely, this will again not be the case. Finding willing renters may be much harder than expected and there could be rental restrictions buried in the fine print. Any damages caused by the renters will be coming out of your pocket, which could put you even further behind.

Even if things all work out, are you really farther ahead financially? Let’s assume you buy a timeshare week for $10,000 and somehow manage to sell it down the road for $5,000. You still have to pay the fees each year and could be hit with a special assessment at any time. 

You may pay $1,500 a year to book a week in “your” resort that general public can book online for $1,299. In addition, your lost opportunity costs of investing that $10,000 elsewhere and earning interest will further compound your balance sheet. When you run the numbers, the whole ordeal ends up costing you a whole lot more.  

If all of the above is not enough to dissuade you, take some time to visit a few online timeshare owner forums and talk to some people who got caught up in the timeshare world. There is a never-ending supply of sad stories of people’s finances that have been severely damaged by timeshare “investments.”

If you have far more money than you can ever spend and you still like the idea of a timeshare, I guess go ahead and buy one. For everyone else that wants to live a happy retirement with low stress, skip the timeshares and book vacations on your own terms.

Making money resolutions

As we ring in the New Year this week, many Canadians will make New Year’s resolutions that will largely focus on their health and happiness.

The most common resolutions that occur year after year include eating better, quitting smoking, exercising and spending more time doing things that are important to you. 

Far less common are resolutions focused on your financial health even though finances are the No. 1 cause of stress and depression. This time last year, I wrote a column on financial resolutions and stuck to just three ideas:

  • Creating a budget
  • Paying down your debt
  • Creating an emergency plan

I’d be happy to email you a copy of that column if you want as the same ideas certainly apply this year as well. But in the meantime, I thought I’d add a new idea to help you build this year’s resolutions:

To create a financial resolution that will have a meaningful impact, you need to know where your biggest shortfalls are.

Most Canadians have no idea where they stand financially and don’t know what areas of their finances need the most work.

We recently launched an online “do it yourself” tool that allows people to figure out exactly where they stand.

It’s called the “IG Living Plan Snapshot” and it provides Canadians with an indication of their financial well being in less than 15 minutes with no strings attached. 

You answer a series of questions based on the five dimensions of financial well being and it will give you a score out of 100 to show you where you stand.

In addition, it will provide personalized recommendations that can then be used to build your new year’s resolutions and maybe even an entire financial plan. 

The five dimensions that the snapshot tool focuses on are:

  • Optimizing your retirement
  • Preparing for the unexpected
  • Planning for major expenses
  • Managing your cash flow
  • Sharing your wealth

As noted above, you can use this online tool for free and it won’t require you to submit any personal information to do so. If you want to give it a shot, you can access the tool right here.

Although I could have listed many more resolution ideas for this year, they would all be generic in nature and not custom tailored to your unique situation.

Instead, I encourage you to see what priorities make sense for you!

Happy New Year to you and your family and here’s to 2020 being the year that you achieve sound financial health.

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About the Author

Brett, designated as a chartered investment manager and certified financial planner, is the regional director (Okanagan) for IG Wealth Management.

In addition to his “day job," Brett was appointed to the board of directors of FP Canada (formerly FPSC) in 2014, named as the board’s vice-chair in 2017 and took over as board chairman in 2019. 

Brett has been writing a weekly financial planning column since 2012 and provides his readers with easy to understand explanations of the complex financial challenges that they face in every stage of life.

Enhancing the financial literacy of Canadian consumers is a top priority of Brett’s and his ongoing efforts as a finance writer and on the regulatory side through the FP Canada board focus on this initiative.   

Please let Brett know if you have any topics that you’d like him to cover in future columns by emailing him at [email protected]

The views expressed are strictly those of the author and not necessarily those of Castanet. Castanet does not warrant the contents.

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