Case Study: High Income and Consumer Debt Free

Sean, from Alberta, emailed me to ask if I could analyze his financial situation. Judging from his financial stats below, he is in great financial shape as he has relatively high income and no consumer debt.

Now the fun begins.

Here is the lowdown:

  1. Married w/ baby on the way.
  2. Gross $135k last year, on track to about the same this year.
  3. $280k mortgage @ 3.25%. 1 year term, comes up in February. Purchased the house for $300 about 1.5yrs ago & it is now probably worth… $280k. Got to love Alberta real estate!
  4. Zero consumer debt! We hammered down for the last couple of years to kill this, which is why I haven’t been investing anything.
  5. $3500 in TFSA & will definitely get to $5k by December. No other investments or cash holdings. I have 2 Lines of Credit for a total of $15k, with no balance.

Paying off the debts has been my focus for so long & now that I am entering this next stage I could use some insight.


  1. I want to get enough equity into the house to start making use of the Smith Manouver.
  2. Start contributing to my RRSP, to bring the taxable gross down & to set up for the future.
  3. Start RESP & contribute enough to get the maximum amount from the gov’t.
  4. Eventually buy a bigger house, but keep our current house as a rental. (This is my long term goal…)

Basically I am wondering how to best bring my taxable income down, while still building equity in the house as quickly as possible so I can start the SM going.

A couple of contributing factors:

  1. Wife stays home, so there should be a nice deduction there! Plus for the lil guy.
  2. I’ve been paying an extra 15% on the mortgage from the beginning & intend to increase that now that I have killed the car payments.
  3. I work out of the country & qualify for the Offshore Employment Tax Credit. In a nutshell, this means that I get a big refund every year, with the end of the year all said & done tax obligation around 15%.

This refund has mostly gone to debt reduction in the past & will now go towards house, SM, RRSP’s, etc, but am not sure how best to utilize it.

First I would like to congratulate Sean for taking priority in paying off consumer debt.  It’s difficult to get ahead financially when high interest debt is holding you back.  So basically, Sean is a little ahead of the common house hold.  He has lots of income, no debt, and is wondering what to do next.

1. Estate Planning and Insurance

Sean hasn’t mentioned if he has done any estate or insurance planning, but I think it’s important to mention.  With a baby on the way, and Sean being the main income producer in the family, insurance is a must.  I would suggest that Sean looks into term life insurance and disability insurance to provide an income stream for his family if the worst were to occur.

In addition to insurance, his family should obtain a legal Will to cover the basics of estate planning.

2. Build a Cash Reserve

After establishing the foundation of insurance, a cash reserve should be established.   How much depends on the family, but enough so that when unexpected bills come up (like a car repair, or leaky roof), they won’t need to go into debt to fix it.  For those that are more conservative, it may be wise to have enough cash around to cover expenses for 6-12 months should Sean lose his job.

Here is a post on figuring out how long your savings will last.

3. Start an RRSP

With the high income that he is making ($135k), I would suggest that he starts an RRSP.  Based in Alberta, Sean falls in the highest tax bracket which will add to his already large tax refund at the end of the year.  As I’ve mentioned before, RRSP’s have the most benefit for people in higher tax brackets, that is providing that the tax refund is used wisely.  Namely, to pay of debt or re invest.

How much should he contribute?  He could contribute enough to bring his income down to the next tax bracket, or simply maximize his contribution limit.  It really depends on his cash flow.

If they really want to start planning for the future, it may be wise to consider starting a spousal RRSP as well.  With his wife being a stay at home mom and no income, contributing to a spousal RRSP will help even out the income, thus reducing tax during retirement.

If Sean is new to investing, then I would suggest (as I always do) to index the portfolio for the long term.  Here’s a previous article with some tips on how self directed RRSP’s work.

4. Pay Down Mortgage

After contributing to the RRSP, if there is any cash left over, I would use it (and the RRSP tax refund) to pay down the mortgage.  Paying down the mortgage will create equity, which in turn creates equity to invest with if Sean decides to do the Smith Manoeuvre.

5. Smith Manoeuvre

Before Sean starts the Smith Manoeuvre, he’ll need at least 20% equity in his home based on the appraised value to avoid CMHC fees.  So if the house is worth $280k today, the mortgage should be paid down to $224,000.

Once he gets to that point, he should switch his mortgage to a readvanceable mortgage.  This will allow him to grow his HELOC as he pays down his mortgage principal.

One big thing to note is that the Smith Manoeuvre is a leveraged investing strategy and not a tax scheme.  Having said that, Sean will need to be comfortable with the added risk of leveraging his investments.

For those of you unfamiliar with the SM, here is my variation of the Smith Manoeuvre.

Final Thoughts

Every situation is different, but the basics remain the same.  If you have a family, insurance is a must along with a cash cushion (if you don’t have any high interest debt).  After that, it’s really a toss up between paying down the mortgage or contributing to the RRSP.  With Sean’s high income, I would suggest the RRSP route first, but use the tax refunds to pay down the mortgage.   The last step would be to use his HELOC to invest with, but again, this is not for everyone.

What are your thoughts?

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Frugal Trader


FT is the founder and editor of Million Dollar Journey (est. 2006). Through various financial strategies outlined on this site, he grew his net worth from $200,000 in 2006 to $1,000,000 by 2014. You can read more about him here.
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10 years ago

Is there anyway we could follow-up on the progress to Sean’s situation now? I think that would be a great read to see how him and his family are doing 1 year later.

11 years ago

My brother didn’t lose HIS qualification for the credit, his employer did. The company failed to meet/maintain its standing as an Offshore Employer, (or employer offering offshore emp’t, can’t remember exactly what they “failed” on) which is why they paid out extra dollars towards penalties, interest. That credit had been offered as a perk of employment. Like I said, just a cautionary note.

11 years ago

Thanks for that, but I definitely qualify for the tax credit.
The exact definition of eligibility is that you are a Canadian citizen, working for a Canadian company, outside of the country for greater than 6 months, engaged in the exploration/exploitation of oil & gas.

11 years ago

Just found this blog recently, and felt I should comment on part of your scenario: Just a word of caution on the Offshore Employment Tax Credit. My brother worked overseas for many years, and had this “Credit”. Lived a good life, until CRA audited his employer, disallowed their rating/standing (not sure of exact terminology), came back to him for the 3 previous years’ taxes. Taxes plus penalty plus interest meant he had to re-mortgage nearly-paid-for condo. His employer paid some dollars towards penalties and interest, but, of course, THAT counted as income! NOT a happy employee. And left company soon after as the regular tax regime not enough to balance out the negatives of working overseas. With hindsight, he said he should have saved, separately, the equivalent of the taxes, “just in case”!!

11 years ago

And here I thought it was a revolving door…
Well Ive still got $5k to work with in the wifes! Does it sound reasonable to keep mine in an ING account making 3%, so that its easy to get to, then invest hers in something a little more long term, such as index funds or the like?

11 years ago

I just received a windfall from work in the form of some owed back pay!
Was going to top up both mine & my wifes TFSA with it.
But when I went to add the last $1k to mine Im not allowed to do it! Ive put in $5k already this year, but I withdrew $1k a few months back.
I thought I was allowed to do that & still be able to have that contribution room?

11 years ago

I appreciate all the input.
I don’t want to be holding a huge amount of cash. If I can get the TFSA’s maxed I’ll be happy.
Interesting that jonbon mentioned variable rates, as Ive been thinking about that. If I could get a rate that low for the next year I would probably hammer everything I could on to the mortgage.
I know having a cash reserve is important, but I don’t feel like I own my house at all yet. Ideally I’d like to get my mortgage down to $200k, then start the SM. Thats a number I could live with.

Mark in Nepean
11 years ago

Sean, my suggestions….

1) build your cash reserve/emergency fund first (say $10,000)…with baby on the way, you’ll need it even with your high income!
2) finish maxing out your TFSA, then do one for your wife as well, as your second priority. Even if you have # 1 done ($10 K), with the TFSAs, you’ll have an even bigger emergency fund or savings for the future.
3) start contributing to RRSPs as your third priority, to a) reduce your taxable income and b) build your retirement fund. Even $100-$200/month is a great start.
4) pay down the mortage. Add a $100/mortgage payment. It will make a big difference.

That would be my plan. It would avoid you from returning to consumer debt, something you shouldn’t be in given your income.

Have fun!

11 years ago

Good points Jonbon! Ill look in to the spousal RRSP.
I like going with the shorter term as I feel I have a more active role in the mortgage, being able to take a fresh look every year.