Jul 292014
 

[Edit] The following post was written in July 2014. I’ve posted an update in October about my purchased Sherritt Bonds. It’s not doing so well. [/edit]

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Investing in High Yield Bonds

Last year I blogged about wanting to invest in bonds as one of my goals because I’ve heard smart people invest in stocks, but smarter people invest in bonds 😉 Then earlier this month I wrote about taking out a loan and have dedicated some money to buy bonds with.

Well I have finally taken the plunge into bonds. Yesterday morning I purchased $5,000 face value of the Sherritt International Corporation 8% bonds, maturing on Nov 15, 2018, for the price of $104.475. I will explain the jargon in a moment, but essentially what this means is I have made an investment of roughly $5,200. And by the end of 2018 that investment will turn into $6,800. That represents a 6.8% annual return 😀 It’s not the best investment ever, but it sure beats the low returns on 5-year CDs and GICs.

14-07-sherritt-bond1

Bonds are generally safer investments than stocks because if a business goes bankrupt bond holders have priority over shareholders 😛 muahaha. I’m not 100% sure on this so maybe Chuck the bond trader can weigh in, but I assume this means my 6.8% bond return is pretty much guaranteed as long as Sherritt stays in business until my bonds mature. Considering how the company’s stock is part of the S&P/TSX Composite index and it hasn’t missed a quarterly dividend payment in almost a decade, I think my 6.8% return is pretty safe 🙂

I will discuss three topics in today’s post: Why I’ve decided to buy these bonds. How to buy bonds. And what are the risks and expected returns of my new bonds.

Continue reading »

Feb 082014
 

A dedicated reader recently emailed me about how I’ve managed to reach my financial position today without making a large income. So I thought I’d reveal one of my best kept secrets to becoming rich: Taking money from the government 😉

I’ve blogged about my various income streams in the past, but there is one income source that I have never talked about, until now. This income provides me with thousands of dollars every year! (゜o゜) It’s undeclared income so I pay no taxes on it, which is perfectly legal 😀 It’s also not disclosed in the list of incomes on my take home pay vs expenses graph because it’s not technically a legitimate income 😕 But it is 100% passive, and gets automagically deposited into my bank account 🙂

In many countries like Canada and the U.S., the interest we pay on loans for investment purposes is tax deductible, as long as the investment is expected to produce an income, like with dividend paying stocks or rental properties. So if we pay $1,000 of interest this year on an investment loan, and our marginal tax bracket is 30% (like mine is,) then the tax man will give us back $300.

14-02-taxcat, tax deductible interest, passive income

Here’s a look at all my tax deductible debts taken from my latest net worth update 🙂 I’ve left out my mortgage and RRSP loan because those do not qualify for interest tax deductions.

  • Farm Loans: $208,300 @ 3.89% annual interest rate = $8,100 of interest /yr
  • Margin Loan CDN: $27,900 @ 4.25% = $1,200 interest /yr
  • Margin Loan US: $25,000 @ 4.50% = $1,200 (converted to $CAD)
  • TD Line of Credit: $33,700 @5.25% = $1,800
  • CIBC Line of Credit: $14,000 @ 5.5% = $700
  • HELOC: $17,900 @ 3.5%= $600
  • Total Tax Deductible Interest = $13,600

So after paying $13,600 of tax deductible interest this year I’ll be getting 30% of that, or roughly $4,000, back from the government 😀 This refund has zero risk since I’m guaranteed to receive the $4K regardless of my investment’s performance. Thank goodness I have debt 😀 Otherwise I wouldn’t be getting any of this money 😉

Continue reading »

Mar 212013
 

The term on my mortgage is up for renewal in a couple of months. I have to decide between fixed or variable. The good news is that interest rates are lower today than when I bought my condo almost 4 years ago so no matter what I choose my monthly payments should become lower. My strategy is to try and prolong the life of my mortgage for as long as I can or until interest rates are much higher. I believe making extra payments to a mortgage in a low interest environment likely won’t be as financially beneficial as putting that extra money to work in a diverse investment portfolio instead.

13_03_ratesprices

Part of the reason why real estate prices are higher today than several years ago is because we had higher interest rates back then. When I bought my condo in 2009 a 5 year fixed rate was about 4%. But today the same mortgage can be found for 3%. Manulife even played around with a 2.89% 5 year fixed recently but decided to cut the promotion short. My current interest rate is 3.4%. If I can lower my rate to 3% when I renew then I would be saving around $70 a month. Enough to buy almost 30 ounces of silver a year 🙂 I just have to shop around for a good mortgage rate. Some people aren’t aware but banks and mortgage brokers aren’t the only places to find a lender for real estate. As mentioned earlier insurance firms like Manulife and Great West Life offer mortgage products to their clients too.  Home buyers can also go through a mutual bank service such as the Heritage Home Loan, or even a private mortgage broker who deals directly with investors looking to lend people money for interest income 🙂

How does interest rates affect home prices? When interest rates are low it doesn’t cost as much to borrow so people can afford to take on larger mortgages. This drives real estate prices higher because everyone can afford to take on more debt. When rates increase however, the opposite is true and house prices fall to match the demand of the buyers ability to finance them. For example Vancouver is well known for our million dollar bungalows (one story houses.) That’s because on a $800,000 mortgage amortized for 25 years at today’s low rate of just 3% the monthly mortgage payment is about $3,800. Seems kind of expensive, but I bet there are thousands of couples in the greater Vancouver area who can easily afford that. It’s basically $1,900 per person, so not ridiculously unaffordable yet. But if the mortgage rate was at 7%, like in the US before the housing bubble deflated, then the monthly payment would be $7000 a month on a $800,000 mortgage. Since there are less people in the market of paying $7000 a month on housing the market automatically adjusts and prices drop overall :0)

 

Dec 262012
 
durum wheat farm farmland investing

Earlier this year I blogged about why I was interested about farmland investing. And earlier this month I posted about how I was really close to buying my first farm. Well drum roll please because earlier this week I officially became a farm owner 😉 That doesn’t mean I’m a farmer though. I still live in the city, but I’m the landlord of a farm in eastern Saskatchewan. With farmland prices growing at double digit rates in the United States, Australia, United Kingdom, and pretty much all over the world, Canada is certainly no exception to the global trend :0)  Buying farmland as a long term investment is not for everyone, but if you’re interested to learn more about the business, please read on (*^_^*)

 About my Farm

Saskatchewan is divided up into small squares called rural municipalities (RMs) Each RM has a number and a name. My farm is in the RM of Sliding Hills (RM #273) Below is a map of Saskatchewan.

lots of farms in saskatchewan

And here’s a close up shot of the RM

farm squares

My farm is used for agricultural purposes to grow grains (wheat, barley, canola, etc) There are no buildings on the land. It’s in the black soil territory of Saskatchewan, the best kind 🙂 Total area of the land I bought is 160 acres, or 1 quarter section. That’s about 7 million square feet. 135 acres is cultivated, and the remaining 25 are bush or slough.

my new farm in saskatchewan

 

Buying Procedure

Buying farmland is similar to buying a house. I get emails from my realtor periodically about new listings. I also went to the mls.ca website and filtered for “Agriculture” and searched for listings based on my price range. Super easy to do. Eventually I came across the following listing. Except it wasn’t sold at that time yet.

farm listing details

The seller wanted $167,000. I offered $145,000, to which he counter offered with $150,000. And that’s the final price we agreed on. I think it was a pretty good deal (works out to $937.50 per acre) because when my bank did their own assessment of the land they valued it at $154,500 so according to my bank, technically I’ve made $4,500 on my investment already :0) The crop insurance rating of my farm is an “F” meaning it’s Fantastic 😀 Haha. Just kidding. All farmland has a letter grade based on it’s soil quality, ability to hold water, etc. The better the land the better the grade. F is pretty high up there 😀 You might see a C or E but they are super rare and go for a much higher premium 🙂

farm offer

After I removed my subjects on the purchase agreement I found a lawyer in Saskatchewan for all the legal stuff, and went to my bank to get financing. TD requires a 25% down payment and lent me 75% at 3.89% fixed rate for a 1 year term. Took a Prt Scr of my account details below. Total lawyer and bank fees: about $2,500.

farm loan

 Rental Income

Luckily there was already someone renting the land from the seller when I bought it. I talked with this farmer and he said he is interested to continue farming there. So we signed a 2 year agreement where he pays me $37.50 per cultivated acre of land every year. Right now there is 135 cultivated acres so I will be paid $5062.50 per year. That represents about 3.4% return on the value of the land with no operational risk to me 😉 Payment is to be made twice a year, half of it when he seeds in spring and the remaining half is paid when he harvests in the fall. Pretty typical rental agreement. Anyone can download these lease templates from the government of Saskatchewan website.

leasing out the farm land to a farmer

Behind the Numbers

Now to tackle the ultimate question. Does this investment make sense from a financial point of view? Let’s go through the numbers.

First, breaking down the cost of $150,000. As mentioned earlier, I needed to come up with a 25% down payment, or $37,500. Notice how I haven’t been blogging about the stock market much lately? That’s because I didn’t buy any new stocks since July. I started researching about farmland back in the summer and decided to start saving as much as possible. I had saved $10,000 in my bank account by the time I bought this farm.  I had also mentioned I sold about $10,000 worth of stocks in September. So that’s $20,000. The remaining $17,500 I borrowed from my line of credit.

Downpayment

  • $10,000 Savings
  • $10,000 Procedes from selling stocks
  • $17,500 Line of Credit at 5.25% floating
  • Total = $37,500

Farm Loan

  • $112,500 loan amortized over 25 years, currently at 3.89%
  • Total = $112,500

Total purchase price = ($37,500 + $112,500) = $150,000

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Next, let’s compare the income vs cost of owning. This will tell us whether I’m making money or losing money.

Revenues:

  • Rent = $37.5 x 135 acres = $5062.50
  • Total Revenues = $5062.50 / yr

Expenses:

  • TD Farm Loan: $112,500 at 3.89% interest rate = $4376.25
  • Line of Credit: $17,500 at 5.25% interest rate = $918.75
  • Property Tax: $475
  • Total Expenses: $5770 / yr

Net Income/Loss:

  • Net Loss = $707.50 

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Not sure if that’s the proper way to do a balance sheet. Lol, I’m obviously not an accountant 😛 But basically I’m paying more than $700 out of my own pocket every year. I’m not surprised though. If you think about it, I’m really only putting down $20,000 of my own hard earned money which is about 13% of the land’s entire value.  The remaining balance is financed one way or another, we’re talking about serious leverage here. This is what’s known in the mortgage industry as a high ratio loan, lol. Some readers might think I must be high on paint thinner. What kind of loony investor would put $20,000 of his own money into something that clearly will give him a negative return! He would be better off putting that money under his bed. He should at least save enough for a proper down payment like 20% or higher, and not rely on his credit line.

I agree that the conventional way of analyzing cashflow would label my farm purchase as a bad decision. However many of my investment ideas are anything but conventional, and this is yet another example 😛 Despite losing $707.50 a year, I still think this is a good investment. I have 4 reasons for this.

1)  The bigger picture
In Chess we sometimes have to sacrifice pawns in order to win the game. In the game of investing, a short term loss is sometimes a necessary part of the longer term strategy. A lot of businesses are not solvent at first but over time they can grow to become very profitable. Farmland is such that investors need to have a long term view of the situation. You cannot buy and flip farms for a profit like you can with houses. I may be losing money now, but the entire loan is amortized over 25 years. And in the second year I will have paid off a portion of my principle, which means I’ll be paying less interest than today. I will probably break even some time in 2014. So for the majority of the amortization period I WILL be making a profit, just not right now.

2)Rent/Income to grow over time
This one is pretty self explanatory.

3) Capital Appreciation
Because farmland tends to hold its value over time we can assume with relative certainty that my farmland will grow in value over the next decade or so if we continue to have inflation. In fact, historically farmland prices have pretty much consistently beat inflation because the global farmland supply is shrinking, at the same time demand is growing.  Just to be on the conservative side, let’s assume farmland prices in Canada will increase by only 1% to 2% on average over the next 10 years. Even so, that means by next year my farmland will be worth $1,500 to $3,000 more (1% to 2% of this year’s purchase price of $150,000) That is more than the $707.50 I lose in my first year of operations. Below are what returns will be given 3 likely scenarios of different appreciation amounts.

Initial Investment$20,000$20,000$20,000
Price of Farm$150,000$150,000$150,000
If Farm Appreciates by1.0%1.5%2.0%
Farm will be worth an additional$1,500$2,250$3,000
Net loss from operations$707.50$707.50$707.50
Total gain$792.50$1,542.50$2,292.50
Net Return on Investment4.0%7.7%11.5%

Those returns aren’t great, but they’re not that bad either I think.  A classic example of sacrificing income, for growth, which is good, because realized wealth (capital gain) is taxed less than realized income anyway 😀

4) Inflation Hedge
With all the money printed by the Fed, there are some people who think we might see inflation reaching 3% or higher in the future.  Remember in 2011 when everything from food to gas appeared to have gotten really expensive? That’s because the inflation rate in 2011 was 2.9%. During that same year, the average price of farmland in Canada increased by 14.3%! I missed out that time but there is NO WAY I’m going to miss out on another opportunity like that (>_<)

D:DCIM100DICAMDSCI0003.JPG

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farm land price increaseThose are my 4 reasons why I purchase the farm despite being cash flow negative 🙂  I choose to assume a modest 1 to 2 percent growth rate so even if prices fall next year my long term view should give me plenty of time to recover. But what if we used some actual numbers, some real data! To the right is a chart that shows how much farmland prices have appreciated over the last 5 years. Source: FCC

Holy macaroni (o_o) those numbers are much higher than the 1%-2% annual growth rate I’ve predicted. Longer term data show similar results with farmland increasing double digits per yer on average over the last 10 or 20 years. If I make 4% return on my investment when my land goes up just 1 percent in value, imagine what my ROI will be if my farmland continues to appreciate next year like it has been doing in the last 5?

farm price grow surprise

 

 

Final Thoughts

As with any investment, past performance is not an accurate indicator of future gains. The boom in global farmland prices will not last forever and there are many risks in the agricultural business. But I believe the potential for profit far outweighs those risks, especially if one has a long term investment view. According to a study by Enquirica Research, Canadian farmland has seen a 10.6% increase in returns over the past 10 years, compared with 3.8% for the Toronto Stock Exchange Index. I don’t believe farmland is a better investment than the stock market. The truth is nobody knows what the price of farmland will do next year. But I already have over $100,000 in stocks, so I’m just looking for ways to diversify my investments. Will my new farm be a good investment or did I just make a big mistake? We’ll just have to wait and find out (~_~)

 

farm land pun long post

Sorry for the long post 😛

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[Edit June 2013] All information above was posted in December 2012. Months later the farmland value report came out and Canada’s farmland increased 19% in 2012 😀 Wow, the reality of land value appreciation turned out to be much better than the 1% or 2% I was expecting. See my post about how this investment has been paying off so far. This makes me want to buy another piece of farmland!

I also wrote a FAQ for how to draft up lease agreements, rental rates, free lease templates, etc [/edit]

[Edit June 2014] Okay. In 2013 I purchased another farm for $172,500 with a $20,000 down payment. Now I have 2 farms, yay! According to FCC during 2013 Saskatchewan farmland values increased 28.5%. That means my first farm purchased in 2012 for $150,000 is now worth more than $200,000! OMG! 😀 [/edit]

Feb 142012
 

My bank’s checking account has a $3.95 monthly fee. However this fee is dropped if I have at least $1,500 in that account for the entire month. Typical right? Just about every bank does this. Keep a minimum balance in your account, and the account fee is waived! I used to maintain the minimum balance to avoid paying fees. But I wasn’t too happy about it because I was essentially lending the bank my money, interest free.

But recently I have removed the minimum balance out of my account and started to actually pay $3.95 every month. But why would I choose to pay more fees when I don’t have to?  Answer: *Opportunity Cost (^_^)
 .
It’s true that by keeping a minimum balance of $1,500, I save $47.40 a year on checking account fees. But if I can make more than $47.40 a year by investing $1,500 then I would be better off investing that money instead of keeping it tied up in the bank right? So that’s why I transferred the money from my checking account into my brokerage account, and used all that money to buy my bank’s own common shares.  In other words, I purchased $1,500 worth of TD Bank stocks. That’s because the stock’s dividend was more than enough to cover my checking account fees. Even today, according to google finance, TD Bank currently has a dividend yield of 3.46%. This means if you invest $1,500 into TD shares today, TD will pay you $51.90 every year in dividends. If you live in BC and make between $43K and $74K of income per year like me, then you will only have to pay a *few dollars of tax on that amount and pocket $48.38. Not too shabby (^o^)
 .
To review, I am now paying the bank $47.40 in fees every year. Meanwhile the bank pays me $48.38 (after tax) for being a shareholder. Basically this means I get to use the bank’s chequing account service for free, AND make a tiny profit to boot. But it gets better! TD has grown it’s dividends 11 times in the last 12 years ( ゚д゚)So this year I may receive $48.38 like we’ve calculated, but next year, I wouldn’t be surprised if TD pays me $50 or more because those dividends keep going up. But it gets even better! The *payout ratio for TD is under 50%!  This strategy also protects me from higher banking fees in the future because once I became a shareholder, every dollar of profit the bank makes from charging their customers higher fees will only add value to my stocks.

 

Of course not everyone banks with TD. But this strategy is transferable. Here’s some basic information on a few other banks below.

BMO Practical Plan Chq Acct: Fee = $4.00/month. Waived with $1,000. BMO’s stock dividend yields 4.80% 
CIBC Everday Chq Acct: Fee = $3.90/month. Waived with $1,000. CIBC yields 4.69%
Scotiabank Powerchequing Acct: Fee = $3.95/month. Waived with $1,000. Bank of Nova Scotia yields 3.96%

But I can see why this may not be a good idea for some people. This strategy does come with risks after all. You risk the banks cutting their dividends in the future, even though they all have a solid history of growing them. You also risk losing some of your initial investment if their share prices drop and never recover, even though banks are the oldest and largest companies in Canada and the backbone to our whole economy. For short term investors and those who want to play it safe, keep your balance in the bank to save yourself some money. But if you want to live on the edge like me, then don’t let your bank hold your money to only benefit their own interests. Buy a piece of your bank instead and profit with them, and by the time you retire maybe you’ll be a little wealthier than if you hadn’t. (^_~)

*Opportunity Cost – Losing the opportunity to profit from a choice, because another choice was taken. Go ask an economist for a better explanation (>_<)
*few dollars of taxThe dividend tax credit makes dividend income very tax friendly. Depending on your location and other income, you may not have to pay any taxes on dividends at all.
*payout ratioTo be explained in a future post.