Making sense of financial compromise

Financial compromise is a term I often use to emphasize that money doesn't grow on trees and most of us have limited amounts to budget with.

This summer we did some landscaping in our back yard. I want very little maintenance, which is another term for no grass to mow. My wife wants a yard for the kids to play in safely. My son loves swings, slides and swimming pools. We had to make some compromises in terms of what we want for everyday enjoyment and how much we want to spend on grass, trees, sand, rocks, bricks and the deck. Landscaping can be expensive and the challenge was to spend an amount that still allowed us to do all the things we need to do financially — like invest in RRSPs and RESPs and pay down debts — and still have enough money for enjoyment.

Take all the things you want to do or buy with your money and create a wish list. When you total everything up, does the total often exceed the money you have and the money you make? Financially, we compromise every day. If we spend too much on the landscaping in our back yard, we have to compromise in other areas like delaying the next major holiday or investing in RESPs.

Budgeting is the solution

How do you make the most with what you have? Most people don't do any planning and therefore don't have a clear idea of what financial compromise means. Do you know how much money you spend day to day or year to year? If you don't, you need to know. It is a basic principle of financial planning.

Not enough people budget. Canadians are going into too much debt and not saving enough. A recent study by CIBC found that Canadians have a negative savings rate, the lowest since the 1920s.

Studies have shown that successful people know where their money is going and budget regularly. They can tell you how much of their money is going towards their financial assets versus personal spending.

Budgeting has some negative connotations because it often means that you have to restrict your spending. But budgeting helps us to know: where we spend our money, where we might be able to alter our spending habits and how to develop a spending and savings plan for the future.

Retirement compromise

Retirement compromise is about balancing living for today versus living for tomorrow. Typically, if you want to prepare properly for retirement, you will need to force yourself to follow a disciplined long-term savings plan. Government benefits today will only give you about $15,000 per year at most. For younger Canadians, these figures are likely to get smaller. The compromise is that to save for tomorrow we may have to forgo some of the luxuries we would like to experience today.

Those that do not have any savings will find they may have to do a lot more compromising in the future to maintain their current lifestyle.

Investment compromise

If you have put forth some longer-term savings and have an investment portfolio, you will then face another type of compromise.

We all want the highest return possible with the least amount of risk, but this relationship is pretty rare. Risk and reward tend to go together — if you want higher returns, you will have to take on more risk. The risk-return relationship is the investment compromise.

No perfect solution

Each of us has different values and finding the right balance between extremes can be a challenge. The first step to overcoming this challenge is to be aware of financial compromise every time you make an investment, retirement or financial decision.

This column first appeared on Sept. 20, 2005