Investing can seem scary and intimidating, but it doesn’t need to be. There are many ways to get started in your investing journey, and depending on your risk level, you have many options to choose from. Even more, there are investment options for teenagers who may have limited access to cash but would like to get their financial ball rolling. The earlier you begin, the easier it becomes.
In this article, let’s go over easy-to-understand investment options for teenagers, the benefits of investing, and what accounts are available to get you started.
When Can Teenagers Start Investing?
Teenagers can begin investing the moment they reach the provincial age of majority, 18 or 19, depending on where they live. The reason for this is that the government does not trust that minors can make their own informed investment decisions. Fair enough. Investing does take a certain amount of knowledge.
There is a loophole, however. Parents, grandparents, or legal caretakers can set up an investment trust account for their minor child. The legal authority on the account is the only person who can make investment decisions and deposit money. However, the minor child can be authorized as a user with restricted access.
Why Teens Should Start Investing As Early As Possible
In short, it’s always better to start early because it offers the potential for greater returns. Additionally, the investor will have more time to acquire more knowledge. Getting the best bang for your buck essentially comes down to acquiring financial knowledge and a certain level of financial literacy.
Potential For Greater Returns
You want to begin investing as early as possible because it allows you to take advantage of compound interest. Simply put, this is the interest applied to the initial principal amount, plus all the previously accumulated interest.
To illustrate what this means, let’s go over a basic example. Suppose you set up an investment trust account for your 10-year-old child and set up a recurring monthly payment of $200 with a 5% annual return. By the time your child is 65 years old and ready to retire, they will have access to $701,679.45. The total interest earned in this example is $569,479.45. Not bad when you look at this as free money.
Now suppose your child waits until 25 years old to start investing. There’s no shame in starting late in the game, but you will notice there is a substantial disparity between the two results. With all else equal, by the time your child is 65 years old, they will have access to $306,675.71. The total interest earned in this example is $210,475.71.
As is displayed, the earlier you start, the greater the benefit. Also, keep in mind you don’t need to wait until 60 years old to withdraw funds. It can be used at any age.
Financial literacy does not come easy, and as such, it often requires research coupled with practical experience. The older we get, it becomes much more challenging to navigate our finances, particularly if we are already struggling with debt and expenses vs. income. The younger we start, the journey becomes more manageable because of habit, and the passive knowledge acquired will sharpen our level of financial literacy. As the old adage goes, practice makes perfect.
Investing Options for Teens
I will not be going over Cryptocurrency investment options in this section. It is considered one of the riskier investment choices, according to industry experts.
High-Interest Savings Account
What is a high-interest savings account (HISA)? A HISA is a traditional savings account that typically requires no monthly minimum deposit. They pay anywhere between 1.05% at most major Canadian banks to upwards of 2.0% at most online banks and credit unions.
The critical distinction between a HISA and a traditional savings account is the amount of interest applied. Traditional savings accounts are set up with a much lower rate of return. Over time, the account holder will earn much less in accumulated interest in a traditional savings account vs. an account holder of a HISA.
The most attractive aspect of starting with a HISA is its inherent low-risk level. All banks insure your funds up to a specific amount, mitigating nearly all risks. If you are a relatively risk-averse investor, a HISA is an excellent starting point.
An index fund is a type of mutual fund or Exchange Traded Fund (ETF) with a portfolio aimed to match the performance of the investment market. They are designed to provide long-term growth and are often used as a retirement savings tool.
Mutual Funds and ETF’s both represent professionally managed collections of individual stocks and bonds. The purpose of these types of investment tools is to pool your money into many different companies vs. investing into one company at a time as you would as a stock investor. It prevents you from keeping your eggs in one basket.
With regard to risk level, it depends on the portfolio allocation but generally speaking; they are both medium risk. They are usually not classified as high risk because your funds are allocated into a diversified basket of companies, and of course, all companies perform differently. When some perform poorly, the others hold the weight and vice-versa. Keep in mind, though, in the event of a global market crash or decline from situations like natural disasters or pandemics the Covid-19 pandemic, most companies will be negatively hit. This will result in your portfolio experiencing a loss. Index funds are prone to regular value fluctuations so this is to be expected.
Stocks, or equities, are your investment security that represents your ownership in a publicly-traded company. Companies go from private to public to raise capital with the intent of expanding. It raises capital (money) by allowing investors to pool their money into the company with the expectation of earning dividends. When you invest your money into the company, you become a shareholder and part-owner, along with every other investor.
You would want to invest in stocks because you, as a shareholder, will be paid out dividends and capital gains when the value of the stock increases.
The risk level associated with investing in stocks is generally medium to high, depending on the company and industry. Mature and lucrative companies are naturally associated with less risk, but their shares are expensive to purchase. A startup company with no established credibility does come with higher risk, however, shares are much lower in price.
As briefly stated above, the drawback to investing in a mature company is that they have a higher stock price, making it costly. Since the risk is greater with a startup and future projections are mirky, the stock prices are much more affordable.
Bonds are issued by the federal government, municipal governments, and companies to raise funds. The investor will buy the bond and hold it for a fixed period (the term) in exchange for regular interest payments. The time frame to hold onto a bond is anywhere between 1-30 years.
The interest rate applied to the bond, also known as a coupon, is fixed. Simply put, as the investor, you are lending money to the issuer in the form of a bond, with a fixed interest rate in which you will receive interest payments at specified intervals until the due date (mature date). At this point, the issuer will pay back the face value of the bond in full.
The best part about investing in government bonds is that the risk level is low. Federal bonds are the safest, followed by municipal bonds, then corporate bonds. This is an excellent option for risk-averse teens interested in getting their feet in the investing pool.
How To Choose an Investment Tool
Deciding which account to invest in is challenging in and of itself. You are presented with what seems like limitless options. But don’t be discouraged because making the right choice is easier than you might think. Let’s review the more popular options.
You may have heard of this as it is a Canadian favorite. A Tax-Free Savings Account (TFSA) is an investment account available to Canadian’s over the age of 18 and is designed to offer tax benefits for savings. All investment income you earn through your TFSA (capital gains & dividends) is non-taxable in most cases when it is earned and withdrawn.
There are three types of TFSAs, including a deposit, an annuity contract, and an agreement in trust. A deposit is the most common of investments, particularly for risk-averse, passive investors.
You can open a TFSA account through your bank, credit union, insurance company, and trust companies. To get started, if you’re new to investing, contact your local bank and set up an appointment with a personal banker to get a comprehensive understanding of how it works. You will learn that it is relatively straightforward, and once your account is set up, all it requires is deposits on your end. They can be automated or manual, and they generally don’t need a minimum amount.
Remember that TFSAs are subject to an annual maximum contribution, which changes year by year. The annual TFSA dollar limit for the years 2019 to 2022 is $6,000. When there is a yearly increase, it will reflect the national inflation rate. Check with the government of Canada website for the current rate.
A Registered Retirement Savings Plan (RRSP) is a saving plan registered with the Canadian federal government. It was designed as a tool for Canadian investors to invest their money for retirement. A benefit to opening up an RRSP account is that the funds you invest are tax-advantaged. This means that every dollar you contribute is exempt from paying taxes on your annual income tax report. Often Canadians invest in RRSPs as a way to receive a “tax break” since reducing these funds from your net income will reduce the total amount you pay taxes on. It’s a win-win situation.
For example, suppose your net income for 2021 was $55,000, and you contributed $10,000 into an RRSP account. Instead of paying taxes on your $55,000 net income, you receive a tax break on the $10,000. As a result, you will pay income tax on $45,000.
When you decide to withdraw any funds from your RRSP account, keep in mind that the total amount you withdraw will be subject to taxes as it will be added to your annual income report.
Just like a TFSA account, you can open an RRSP account through your bank, credit union, insurance company, and trust companies.
If you’re interested in managing your own portfolio online, here is a list of reputable online brokers you may find helpful.
We all know the benefits of investing, but many of us are hindered by the fear of the unknown. Despite the initial fear, the earlier you start investing, the better your financial outcome. Lastly, one of the best ways to become financially literate is through hands-on experience, trial and error, and real-life examples. Even if you start with a low-risk portfolio, you are bound to learn the basics to prepare you for financial success.