Dump Your Debt to Build Wealth

You’ve just had your first child, put a down payment on a house and are thinking of buying a mini-van. Sure, money is scarce but, if you tighten that belt, you’ll be able to make the payments — perhaps even put a little away for a vacation.

All of a sudden, however, this isn’t enough. Your financial adviser tells you that, on top of all your current financial obligations, you must start accumulating wealth. But before throwing up your arms in desperation, stop and ponder.

Simply put, if you want financial security, you must get an early start. The sooner you start concentrating on building wealth, the more wealth you’ll build. With money disappearing on all sides — home, auto, daycare, children’s education etc. — it doesn’t take a financial genius to tell you things aren’t going to be easy. The big question is where to start. In short, there are two key areas that should occupy most of your attention: debt reduction and investment.

Pay your debts
Debt comes in many forms — mortgage, car loans, credit cards etc. — and is obviously a major stumbling block to increasing your net worth. Compound interest on loans wreaks voc on any effort to save, so pay down your debt as soon as possible. Take advantage of all pre-payment options on debt — if you have extra cash, pay down the loan. By making weekly rather than monthly mortgage payments, you can pay down the principal sooner, saving you much interest in the future.

The first debt that should be paid down is debt on which interest is not tax deductible — mortgages, personal loans, credit cards, etc. This is done simply because, as there are no tax savings, it is the most expensive debt. Then you should prioritize this debt based on how expensive it is. Credit cards, for example, attract the highest interest rates and should be paid down or replaced with a lower-cost loan as soon as possible.

Maximize investments
The years between your 35th and 50th birthdays are your prime investing years. Try to maximize your yearly RRSP contributions. Think long-term — your retirement is far away, so consider making higher-risk, higher-yielding investments. Other investment vehicles such as personal property or developing a non-registered investment portfolio, should also be considered. The key is to diversify your investments among all types of investment vehicles — bonds, stocks and mutual funds. Long-term studies have shown that better diversification leads to better growth. As well, don’t hold investments that are all in the same business or geographic region — so if there’s a downturn, they won’t all suffer.

Just do it
Try the “pay yourself first” principle. At the beginning of each month, before you pay any bills, put some money away for yourself. This takes sacrifice and discipline but is well worth the effort. This money can be used for personal investment, paying down debt or creating an emergency fund.

Prepare a financial plan that is both realistic and attainable. Try to stick closely to your plan and revise it when necessary. Start an emergency cash fund to cushion you from unexpected future shocks such as losing your job, disability, caring for a parent, or unexpected health problems. The bottom line is that even if wealth accumulation means no more than paying down your debt and investing some money, you’re headed in the right direction.

Right now, these may seem like baby steps. But later, once you see the big picture, you’ll appreciate just how important they are. The key is to remember that net worth can be enhanced through the basics — debt reduction and asset appreciation.