Short-Term Investing for Predictable Cash Flow
The short-term portion of your financial plan provides predictable cash flow for the next 2 years. Review the account at least annually, and no more than quarterly. After each review, bring the cash up to 24 times the amount of money you need monthly based on your budget.
Consider putting more than 24 months into the account whenever the regular press starts discussing the possibility of a recession. Do not worry that there are always people who predict that the market will go down. That prediction is how they sell their courses and advice! Ignore them.
There should be no reason to put more than 36 months cashflow into this part of your total plan!
What Investments are Suitable for this Plan?
The key to this account is that it provides for predictable cashflow. Which investments provide this predictability? Guaranteed investments paying interest only.
In our article
What is Risk, we show that relying ONLY on interest bearing investments actually creates lifestyle risk long-term, as the money invested this way loses purchasing power over the years! Inflation and taxes create that risk. In the short-term, those risks are smaller than other risks.
The investments to consider include:
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Guaranteed Investment Certificates (GICs) for up to 18 months, available at most banks and credit unions.
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Government of Canada Treasury Bills (T-Bills), which come in durations of multiples of 91 days.
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Money market mutual funds available at your bank or from an independent advisor.
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Short-term bonds (maturing within 1 year) available from a full service investment dealer.
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Mutual funds that invest in these short-term bonds, available from a mutual fund dealer.
Laddering
If you are using money market mutual funds, then the only requirement is to set up an automated transfer from the fund to your bank account every month. Replenish the account once a year. I recommend this option, as it is less work! The fund manager will handle all the laddering for you, so the rest of this section does not apply.
Some people prefer more direct control of their money. All other investment options other than money market mutual funds come with a time duration. During this time the money invested is "locked in". You cannot access the money until the time period expires. Laddering the expiration times frames to have investments which mature every 3 months keeps the cash flowing!
Here's an example. Suppose you want to provide monthly cashflow of $5000. The short-term fund should have a total investment of $120,000 at the start of each year. Typically, this sum should be invested in 3 month chunks ($15,000) as cash, in a 91 day security, in a 182 day security, and in a 273 day security. The remaining twelve months ($60,000) will be invested in a 1 year security
Every year, repeat this laddering. Instruct the company handling this investment to turn off automatic renewal for all of these, or the money may get locked in for an additional period!
Tax Considerations
This portion of your plan will have the lowest returns in an average year. That means that the tax liability from these funds will usually be lower that for the mid-term or long-term funds. If your advisor is recommending that you take more money out of a registered plan, then putting that money into your short-term investment may be a tax efficient option.
Even if you keep the short-term plan within a registered plan, the monthly cash withdrawals will be classed as income for tax purposes. Monthly plan withdrawals from an RRSP or RIF are subject to withholding. I suggest to my clients that they do their annual mid-term to short-term transfers in December, especially if the short-term fund is unregistered. This shortens the time that the government withholds your money, should you be entitled to a tax return each year!
Please see
Mid-Term Investments and
Long-Term Investments for our recommendations on those portions of your overall portfolio.
