I am 41-years-old and my wife is 37 and we have three children under age 9. My aunt passed away recently, leaving us an inheritance of $150,000. We intend to use the money to pay off the $29,000 on our line of credit, buy a ‘new to us’ car for $10,000, make a few household repairs and maybe buy some “toys” for the family. After that, we should have $100,000 left.
My question is, what’s the best plan for the remaining inheritance? I have a few ideas:
1. Invest the entire sum in the stock market and see if I could get 5% to 10%. What kind of investments would maximize my return? Of the three ideas I’ve had, this seems to me to be the best.
2. Use the money as a down payment for a larger house from the one we bought two and a half years ago.
3. Maximize our RRSP contributions for the year. We are both making regular, small contributions—certainly not enough to retire on. But once the money is in the RRSP, we no longer have access to it.
An inheritance of this size can be a real game changer, significantly altering the trajectory of your family’s future. And what better way to honour your aunt’s life?
The tone of your question suggests that you are not looking to charter a private jet for a weekend in Borneo. So I will provide suggestions that focus on capital preservation and investment return.
Your first idea, which you feel is your best option, is the worst in my opinion. It is gambling with your aunt’s money. It puts your capital at risk and isn’t likely to provide you with the return you seek. Investing takes a huge amount of time, brains and luck. The hard truth is very few people knock the lights out and consistently earn 10% a year.
I also wouldn’t advocate moving to a larger, more expensive house so soon after retiring your household debt and when you still have a lot of RRSP contribution room available. While you might be able to afford a larger mortgage, you also have to budget for the larger expenses, like taxes and maintenance that come with owning a larger home.
Your third suggestion—maximize RRSP contributions—is partly right but I’d take it even further, as you’ll see below.
There was one other idea you didn’t mention and that is saving for your kids’ education. That is where I would start.
Start with your kids’ education
Helping three kids pursue post-secondary education is a costly proposition. I would use the first big chunk of your inheritance here because it will help set them up for success, as well as provide you with a guaranteed 20% return. That is the amount of the grant the government provides on your contributions. Like most families, you probably haven’t been maxing out the $2,500 per child per year. Luckily you can go back in time and catch up.
Open up a family RESP at your financial institution and have them help you figure out what amounts to contribute when so that you have get the most grant money possible. This likely means parking some money in a TFSA until it is time to use it, but your patience will pay off.
Let’s say you have five years of contributions to make—that will use up about $40,000 of the inheritance. Invest the money conservatively and keep on top of the asset allocation and your kids will graduate from school with much less debt than had you not used the RESP.
Max out your RRSP
The next thing I would do is to max out your RRSP, but not just for this year. Find out how much RRSP contribution room you both have in total and start using it. You can probably contribute a big chunk of the money now then work with an accountant to determine when you should actually take the deduction to get the highest refund on your income tax. For this part of the plan might use up another $50,000.
Once the money is inside your RRSP you can choose simple, low cost exchanged traded funds to assemble your portfolio. As you said, you won’t have ready access to the money. But is a very good thing in my view. It will help save you from yourself.
Use the tax refund to pay down mortgage
Those nice, big RRSP contributions will generate a higher tax refund than you are used to. Provided your mortgage has a lump sum pre-payment option, I would use the extra money you’ll get from your tax refund to bring down your mortgage. True, interest rates are low these days, but paying off your mortgage faster will save you interest over time and is a guaranteed return.
Set up an emergency fund
You now have about $10,000 left and I would put it in a TFSA for emergency use. Just be careful about how you define emergency. It isn’t a vacation or new TV. It is something that you could not have anticipated like a job loss or a health issue.
Some people will say that I’m no fun and that more of your windfall should go towards toys and vacations. Of course that is totally up to you. But I bet you’ll say this was the right call 20 years from now, sitting in the back of the crowded arena with tears streaming down your face as your youngest child walks across the stage in cap and gown.