3 things that make me pull my hair out

I have been writing on this blog for almost nine years. Over that time, I have learned and gained a lot of personal finance and investing-related knowledge. Whenever I gain new knowledge, I try to share it on this blog with the hope that readers can gain the same understanding as well. 

As much as I love sharing new knowledge with other people, there seem to be some deep-rooted misunderstandings, myths, or misconceptions on certain topics. I really don’t understand why some people have these misconceptions and I will try my best to debunk some of the common misconceptions I have encountered, just so I don’t have to keep ripping my hair out.

#1 Don’t want a raise to avoid the next tax bracket

Our tax system is extremely complicated, so I understand there are some misunderstandings here and there. The biggest misunderstanding is that all your income is taxed at your tax marginal rate.

Due to this misunderstanding, people often make such statements like…

“I don’t want a raise just to get taxed more.”

“I am not working overtime to get bumped to the next bracket and lose my income to taxes.”

And so on…

But that’s a very very wrong understanding. Your income is taxed on a tiered bracket system. Below are the 2022 federal tax brackets.

Taxable Income – 2022 Brackets	Tax Rate
$0 to $43,070	5.06%
$43,070.01 to $86,141	7.70%
$86,141.01 to $98,901	10.50%
$98,901.01 to $120,094	12.29%
$120,094.01 to $162,832	14.70%
$162,832.01 to $227,091	16.80%
Over $227,091	20.50%

So if you happen to make $90,000 a year, the entire amount does not get taxed at 12.29% tax rate. The first $43,070 is taxed at 5.06%, then the next $43,070.99 is taxed at 7.7%, then the rest is taxed at 10.50%. 

Essentially your $90,000 annual income is taxed like below:

Income	Tax Rate	Tax amount
$43,070.00	5.06%	$2,179.34
$43,070.99	7.70%	$3,316.47
$3,859.01	10.50%	$405.20

You’d be paying a total of $5,901.00 of federal tax on your $90,000 income, or an effective average tax rate of $6.56%. The same tiered tax bracket system is applicable to provincial taxes as well, albeit with different specific percentages for each province. 

So no, the $90,000 you received isn’t all taxed at 10.50%. The amount is divided up and taxed at different tax rates. 

What if you had an income of $90,000 and your employer decided to give you a $35,000 raise? Should you say no because you’ll move up two tax brackets federally from 10.5% to 14.7% and get taxed way more than your $35k raise? 

It’s mind-boggling that some people actually believe this is the case and therefore would say no to any raises!!! Let’s do some quick and easy math to sort this out. 

I ran the numbers using Wealthsimple’s 2022 income tax calculator and set BC as the province. Here’s the summary:

	Income	Federal Tax	Provincial Tax (BC)	CPP/EI	Net
	$90,000	$12,643	$5,079	$4,453	$67,825
	$125,000	$21,146	$9,320	$4,453	$90,091
Delta	$35,000	$8,503	$4,241	$0	$22,266

So, an increase of $35k a year raised your total taxes by $12,744 a year. More importantly, you will be netting $22,266 more than you’d have at the lower income of $90,000 a year.

So ask yourself, would you rather pay almost $13k more in taxes while pocketing over $22k more each year? Or would you rather not get the extra money at all? I think 99.9% of the population – if not more – would want the former.

All things equal, you will always come out ahead with a raise regardless of what tax bracket you end up with. 

Fortunately, people that have this misconception are a very small percentage of the population.

#2 “Invest” in RRSP

Every February I hear statements in the line of… “I’m investing in my RRSP.” But when I ask for more clarification, I learn that people are simply transferring money into their RRSPs and letting that money sit in cash. They’re moving money into RRSP simply for the RRSP income tax deduction.

I get the idea of getting the RRSP tax deduction to reduce your overall taxes. But don’t you want your money to compound and grow? Why do you have your money sit inside a tax-deferred account and earn a measly 1% interest rate when you can invest in things like ETFs and stocks? 

Some people argue that GICs are way safer than other investment vehicles like mutual funds, ETFs, and stocks because GICs have a guaranteed earning rate and you can’t lose money.

If you “invest” $10,000 into your RRSP and earn 1%, you’d get $100 extra a year. But that won’t do you any good when the inflation rate is at 6%. In fact, you’re actually losing 5% of your purchasing power each year.

So don’t just transfer money into your RRSP and let it sit there. Invest in something that will actually compound and increase your purchasing power. 

Take advantage of your RRSP.

#3. TFSA is for short term savings only…so gotta invest in GICs only

This misunderstanding drives me absolutely bananas. TFSA stands for Tax Free Savings Account, but just like my previous point, it doesn’t mean you should invest in GICs only. And stop thinking that TFSA is only for short term savings only, start using your TFSA as a retirement account!

To get my point across more clearly, let’s consider the following:

Imagine you just became eligible to open up a TFSA this year, so you opened up a TFSA and transferred $6,000. Let’s pretend that one of the financial institutions offers a 30-year GIC at a rate of 5%. should you lock your money in for 30 years of guaranteed return?

Or should you invest your money in a broad market passive index ETF that alternates between a 20% return one year and a -5% return the year after for 30 years? 

The math turns out like this…

Year	GIC Amount	ETF Amount
0	$6,000.00	$6,000.00
1	$6,300.00	$7,200.00
2	$6,615.00	$6,840.00
3	$6,945.75	$8,208.00
4	$7,293.04	$7,797.60
5	$7,657.69	$9,357.12
6	$8,040.57	$8,889.26
7	$8,442.60	$10,667.12
8	$8,864.73	$10,133.76
9	$9,307.97	$12,160.51
10	$9,773.37	$11,552.49
11	$10,262.04	$13,862.98
12	$10,775.14	$13,169.84
13	$11,313.89	$15,803.80
14	$11,879.59	$15,013.61
15	$12,473.57	$18,016.34
16	$13,097.25	$17,115.52
17	$13,752.11	$20,538.62
18	$14,439.72	$19,511.69
19	$15,161.70	$23,414.03
20	$15,919.79	$22,243.33
21	$16,715.78	$26,691.99
22	$17,551.56	$25,357.39
23	$18,429.14	$30,428.87
24	$19,350.60	$28,907.43
25	$20,318.13	$34,688.91
26	$21,334.04	$32,954.47
27	$22,400.74	$39,545.36
28	$23,520.77	$37,568.09
29	$24,696.81	$45,081.71
30	$25,931.65	$42,827.63

In the GIC case, you’d end up with $25,931.65 after 30 years, or an increase of $19,931.65, whereas in the ETF scenario, you’d end up with $42,827.63, or an increase of $36,827.63. 

Even though  half of the time the ETF has a return of -5%, the other 15 good years, were more than enough to make it the superior investment choice., tt ends up with an average annual return of 7.5%. This is roughly about the long term historical return of the stock market. Thanks to the 7.5% average return, the ETF came out ahead of the GIC by almost $17,000.

Therefore, do consider the GIC rates in comparison to the historical stock market return average. A few more things to keep in mind. One, once you lock yourself into a GIC, if you take out the money before the time is up, you may lose all the interest entirely. Meanwhile, with ETF you can sell at any time to lock in the gains. Second, the entire interest made from a GIC is taxed at your marginal tax rate while if you sell an ETF and have a capital gain, only 50% of the gain is taxed at your marginal tax rate. In other words, capital gains from an ETF is much more tax efficient than GIC interests. 

Just for fun, what if the GIC has a 30 year rate of 8% while the ETF returns 21% for the first 15 years then performs poorly at -5% for the last 15 years for an average return of 8%?

Year	GIC Amount	ETF Amount
0	$6,000.00	$6,000.00
1	$6,480.00	$7,260.00
2	$6,998.40	$8,784.60
3	$7,558.27	$10,629.37
4	$8,162.93	$12,861.53
5	$8,815.97	$15,562.45
6	$9,521.25	$18,830.57
7	$10,282.95	$22,784.99
8	$11,105.58	$27,569.84
9	$11,994.03	$33,359.50
10	$12,953.55	$40,365.00
11	$13,989.83	$48,841.65
12	$15,109.02	$59,098.40
13	$16,317.74	$71,509.06
14	$17,623.16	$86,525.96
15	$19,033.01	$104,696.41
16	$20,555.66	$99,461.59
17	$22,200.11	$94,488.51
18	$23,976.12	$89,764.09
19	$25,894.21	$85,275.88
20	$27,965.74	$81,012.09
21	$30,203.00	$76,961.48
22	$32,619.24	$73,113.41
23	$35,228.78	$69,457.74
24	$38,047.08	$65,984.85
25	$41,090.85	$62,685.61
26	$44,378.12	$59,551.33
27	$47,928.37	$56,573.76
28	$51,762.64	$53,745.08
29	$55,903.65	$51,057.82
30	$60,375.94	$48,504.93

In this case, the GIC comes out ahead. But I’d argue if GIC offers a rate of 8%, the stock market probably would return at a higher average percentage. Furthermore, you’d probably be paying way more in terms of overall taxes with GIC than with ETF…. but without crunching the numbers, those are just pure speculations on my part. 

Summary – 3 things that make me pull my hair out

There you have it, these are three things that make me want to rip my hair out and drive me nuts. I hope I have explained the concepts well enough to straighten these misunderstandings. 

What do I hope you get out of this post? 

First of all, it is almost always better to earn more money and pay a little extra taxes than not earning more money. Second, you should consider how to invest your money in your tax-deferred and tax-advantaged accounts. An extra 1% in return can go a long way when compounded over decades. 

Dear readers, what are some personal finance and investment related misconceptions that drive you insane? I’d love to hear yours.