2021 Financial Clean-up and 2022 Tune-up

In prior years, my last post of the year was typically about undertaking a "financial clean-up" as a vital component to maintain your financial health. This year, I am combining a 2021 clean-up with a 2022 financial tune-up.

For each financial topic or issue below, I will discuss what you should do to clean-up for 2021 and get ready for 2022 so your finances and taxes will be in order. 

 

Yearly Spending Summary  

 

2021 Clean-up

I use Quicken to reconcile my bank and track my spending. A couple weeks ago I printed out a summary of my 2021 spending by category for the year. This exercise usually provides some eye opening and sometimes depressing data. However, the information is invaluable. It provides the basis for yearly budgeting, income tax information (see below), and among other uses, it provides a starting point for determining your cash requirements in retirement. As someone who retired at the end of 2021, I reviewed this data to determine what expenses could be reduced or cut-out in retirement and what my ongoing costs would approximate. Unfortunately, it appears many of my costs will likely remain constant in my early retirement years other than some disability insurance I decided not to renew.

 

2022 Tune-up

 

During my career, I often discussed financial, retirement and estate planning with my clients. One of the questions I typically asked for these planning exercises (especially for those whose spending was excessive), was what was the breakdown of their monthly costs? I would say in at least 60% of the cases, people had little idea of their actual spending and when they undertook the exercise they were surprised at the quantum of their actual spending. If you are one of those people, I strongly suggest you buy a software program that lets you download your bank data (so it limits your time tracking your spending) or create a detailed excel spreadsheet with expense categories down the vertical axis and the month across the horizontal axis. Then fill in the spreadsheet at each month end. 

 

By undertaking this expense tracking for 2022, you will be able to budget, plan short-term and project your retirement spending if you are nearing retirement.   

Portfolio Review

2021 Clean-up

 
January is a great time to review your investment portfolio and annual rate of return (also your 3, 5 and 10 year returns if applicable). The million-dollar question is how your portfolio and/or advisor/investment manager did in comparison to your investment policy and appropriate benchmarks such as the S&P 500, TSX Composite, an international index and a bond index. This exercise is not necessarily easy (although many advisors and almost all investment managers provide benchmarks, they measure their returns against). The Internet has many model portfolio's you can use to create your own benchmark if you are a do-it-yourself investor.

While 2021 was another strong year in the markets, I would not skip reviewing your investment portfolio because your returns were strong. I say this for the following two reasons:

1. Your returns should still be measured against the appropriate benchmark based on your risk tolerance and intended asset allocation for 2021 and on a multi-year basis. Even if you had strong investment returns in 2021, it is still quite possible you may have under-performed your benchmark last year or over a three, five or ten year comparative basis. This information is important when reviewing your advisor's performance.

2. We are usually concerned with ensuring our returns are not worse than a benchmark. However, what if your 2021 returns were way higher than the benchmark? This could mean that your manager is over-reaching their mandate. I would ask them to explain why they so outperformed. Make sure that the out performance was within their mandate and that they did not take on more risk then within your investment policy. If they did, that is an issue in itself and could also lead to outsized losses in 2022.

 

2022 Tune-up

 

In combination with your 2021 clean-up, you should consider if any circumstances have changed in your life such that you need to review your asset allocation and/or risk tolerance with your advisor.

 

In 2021 the market seemed to be constantly rotating amongst different sectors and thus, your asset allocation may be out of sync in say resources or technology. This should be reviewed with your advisor or reviewed by yourself if you are a DYI investor. 

 

While your risk tolerance should in theory typically remain relatively stable year to year, if you lost your job due to COVID or are retiring in the near future then maybe your risk tolerance may need to be adjusted downwards which could affect your asset allocation. Alternatively, if you work in one of the areas of the economy that boomed during COVID and have received a large pay raise and/or large bonus you may now have a bit more risk tolerance. In any event, this and your asset allocation should be revisited with your advisor or considered if you are a DIY investor.

You may also want to review the additional services your advisor has available and ensure you are taking advantage of these services. Many are now providing financial and wealth planning services.

 

Income Tax Items

2021 Clean-up

 
As noted above, I use my yearly Quicken report for tax purposes. I print out the details of donations and medical receipts (acts as checklist of the receipts I should have or will receive) and summaries of expenses that may be deductible for tax purposes, such as auto expenses. If you use your home office for business or employment purposes (remember, you need a T2200 from your employer), you should print out a summary of your home-related expenses.

Where you claim auto expenses (even if significantly less due to COVID restricted driving) you should get in the habit of checking your odometer reading on the first day of January each year. This allows you to quantify how many kilometers you drive in any given year, which is often helpful in determining the percentage of employment or business use of your car (since, if you are like most people, you probably do not keep the detailed daily mileage log the CRA requires). Keep in mind if audited, you will need to go back and complete a log; using an estimated percentage of business use based on your odometer reading will likely not cut-it with a CRA auditor.

 

As I have a health insurance plan, in January I start to assemble the receipts for my final insurance claim for the 2021 calendar year. I find if I don’t deal with this early in the year, I tend to get busy and forget about it.

To facilitate the claim, I ask certain health providers to issue yearly payment summaries. This ensures I have not missed any receipts and assists in claiming my medical expenses on my income tax return. You can do this for among others: physiotherapists, massage therapists, chiropractors, and orthodontists—even some drug stores provide yearly prescription summaries. This also condenses a file of 50 receipts into four or five summary receipts. 

 

2022 Tune-up

 

January or February is the perfect time to sit back and consider your income tax situation. 

 

On a personal basis, if you are married or common-law, review your 2021 income to see if there is a significant discrepancy in taxable income and marginal tax rates between you and your spouse/partner. If yes and the higher earning spouse has significant savings, consider a prescribed loan (the rate is still 1% for the first quarter of 2022, but many feel it will be raised in the second quarter of 2022).

 

If one spouse has lost their job and is helping the other while looking for another job, review whether a salary can be paid. A reasonable salary based on actual work undertaken will typically be deductible where the working spouse is self-employed or has a corporation. However, if the working spouse is an employee, this can be problematic unless an assistant is required by their employer and their T2200 reflects such. Claiming a spouse's salary when you are an employee is far more complex than that of a self-employed person. If you are considering it, you should review this with your accountant.

 

Another thing to consider where a spouse has lost their job or has reduced earnings due to COVID is whether they should draw down on their RRSP at a low marginal tax rate in 2022. This may make sense where they expect to be back at a much higher marginal rate in the near future (2023 or later).

 

Where your spouse has a spousal RRSP, you have to navigate certain rules (if a spousal contribution was made in the last two years, the withdrawal will be taxed in the higher income spouse's income so it is likely a non-starter). Also keep in mind the statutory tax withheld on the RRSP withdrawal may be lower than the actual tax your spouse may owe on their tax return.   

If you own a corporation, you should touch base with your accountant to discuss if your corporation has a tax-free capital dividend account available, if the company has refundable tax on hand, is your company going to be potentially subject to the small business claw-back etc. or if there are any tax reorganizations or planning that can be undertaken to minimize current or future corporate and personal taxes.

Year-end financial clean-ups are not much fun and are somewhat time consuming. But they ensure you get all the money owing back to you from your insurer and that you pay the least amount of taxes to the CRA. In addition, a critical review of your portfolio or investment advisor could be the most important thing you do financially in 2022.

This site provides general information on various tax issues and other matters. The information is not intended to constitute professional advice and may not be appropriate for a specific individual or fact situation. It is written by the author solely in their personal capacity and cannot be attributed to the accounting firm with which they are affiliated. It is not intended to constitute professional advice, and neither the author nor the firm with which the author is associated shall accept any liability in respect of any reliance on the information contained herein. Readers should always consult with their professional advisors in respect of their particular situation. Please note the blog post is time sensitive and subject to changes in legislation or law.