There are some lotteries that allow the choice of $1000 per week for life, or $1,000,000 up front. Let’s look at the math behind it. Now in Canada, prize money is not taxable, so either way there is no tax on the principal amount (once you start earning money on the principal, that money is taxable). One person recently in the news was 20 years old, so well take “life” to mean 60 years on top of that. So is there a better option?
The first option is to take $1M up front. $1M is not really enough to retire on at age 20, so let’s look at some options (you would still need a job, with either option).
If someone were buying a large item, like a house this may be an ideal option. It might leave you with next to no mortgage, which is nice, in fact it might actually save money over the lifespan of the mortgage. For arguments sake, if a house costs $1M, and you need a 20% down-payment regardless, then the mortgage would be for $800,000. At 4% over 25 years, the interest would be around $462K. Not a trivial savings if you pay cash for the house − it’s basically saving $4,208 per month in payments. (Note this is a very simplistic calculation, just to prove a point. Because a fixed rate of 4% for 25 years is unrealistic in any situation, and fixed-rate terms are typically 5 years in Canada).
The alternative of course is to invest the $1M. Now obviously there are a myriad of options here, from risky stock type investments, to more conservative term deposits. It’s hard to look at scenarios here because there are so many options, including whether someone wants a return every year, or just wants the investments to continue growing. Let’s just look at the scenario of a GIC (Guaranteed Investment Certificate), which is fairly low risk (but the money can’t be touched for the term of the investment). Of course any investment gains will be taxed… at what rate really depends on what other income a person has. Then there is also inflation. All investments are compounded annually (for simplicity). In addition it would be approximately $30K a year to add to income come tax time.
5 years at 3% = $1,159,274
10 years at 3% = $1,343,916
25 years at 3% = $2,093,777
50 years at 3% = $4,383,906
Of course it’s hard to leave an investment for 10 years without touching it, let alone 50. Of course if you left it for 25 years you would still be $630,000 ahead of the mortgage-free scenario (i.e. you paid the mortgage for 25 years and this is payback). If we factor in inflation of 2% for the 25-year scenario, then the effects of inflation on the principal and interest would mean the total future value is $1,276,222 (Bank of Canada calculator). See, making money from money is tricky. And you still have to pay the taxes on money earned.
Now it is possible to put some money in a TFSA, which is tax-free, but at 20 that’s probably a max of $20,500 if you turned 18 in 2023. Some will say “invest it in the stock market where you can earn 10% and live off the earnings”. Never listen to this sort of advise. The high returns of the stock market come with high risk, and higher taxes on earnings. 10% seems nice, but the wrong strategy can see $1M turn into $200K overnight. I could give a scenario here, but it’s not as simple as compound interest. Needless to say that there is no such thing as ‘fast money’.
The second option is to take $1000 per week for life. That’s $52,000 per year, which is about equivalent to a salary of $70,000 (in Ontario). Over 60 years that’s $3.12M. Like I said, you will likely still need a job, unless you are living off-grid somewhere. That’s tax free money. You could live off it, or pay the mortgage yearly (it just about covers the $800K mortgage), or use part of it and invest part. The good thing is that after 25 years the mortgage is paid, and the remaining 35 years (in a best case scenario) are all gravy. In all likelihood it would allow someone to retire early (because with the mortgage paid, any extra money someone earns can be invested). For example if we put the maximum (current) TFSA contribution $7000, and assume we already have $20,500 then after 35 years at 3% annual growth, the TFSA would be worth $493,615 − tax free.
But let’s not forget inflation. In 25 years the $1000 a week may only be worth $400-$600 in today’s dollars, i.e. you will still get $1000 per week, but it’s purchasing power will be greatly reduced. But if you are young, what $52,000 a year offers is a sense of freedom. This is also a scenario for a 20 year old. Winning the money as a 40 or 50 year old would of course change which option is chosen.
You see there are no easy choices to be made − there is no right or wrong answer, because no-one has a crystal ball to see what the future holds. Every scenario has its pros and cons. But needless to say, if you do win any sort of money, seek the help of a reputable financial advisor from a reputable institution.
The Craft of Coding 