I Have $500. Should I Buy XEQT or Pay Down Debt?

The framework

Compare the guaranteed return from paying down debt to the expected return from XEQT. When your debt's interest rate is higher than XEQT's expected return, pay the debt. When it is lower, invest in XEQT. When they are roughly equal, do both simultaneously.

This is a cleaner framework than it might seem. Most debt decisions become obvious once you compare interest rates directly. The genuinely difficult cases sit in a narrow band around 5 to 7%, where the math is close enough that psychological and tax factors tip the balance.

High-interest debt: clear answer

If you carry a credit card balance at 19.99%, a line of credit at 10%+, or any payday loan, pay those down before investing in XEQT. There is no ambiguity here.

Every dollar you apply to a credit card at 19.99% earns you a guaranteed, risk-free 19.99% return. XEQT's expected long-run return is approximately 7 to 10% annualized, and that return is not guaranteed. It comes with real volatility and real downside risk. A guaranteed 19.99% return is not in the same universe as an expected 8% return with a 30% downside scenario attached.

The psychological argument for investing while carrying high-interest debt ("I'll just make the minimum payment and my investments will compound faster") is wrong. The math does not work. A credit card at 20% will compound your debt faster than XEQT will compound your investments. The debt wins. Eliminate it first. Once you are clear of high-interest debt, paycheque investing into XEQT is the habit to build next.

Mortgage debt: it depends, but usually invest

A Canadian residential mortgage currently runs at approximately 4 to 6% depending on term and rate type. XEQT's expected long-run return is approximately 7 to 10%. The math generally favours investing in XEQT over making additional mortgage payments, particularly if:

Your mortgage rate is below 5%. At a 4.5% mortgage, every extra dollar toward the principal earns a guaranteed 4.5% return. XEQT is expected to return 7 to 10% annualized over long periods. The investment has the better expected return, even accounting for its uncertainty.

Additionally, investing in a TFSA builds an asset that you own regardless of what happens to your home. Extra mortgage payments build equity in an illiquid asset. Liquidity matters in financial planning. The TFSA balance is accessible to you in an emergency. The home equity is not, without refinancing or selling. For a full breakdown of which account to use for XEQT once you are investing, see the TFSA vs RRSP guide.

That said, if your mortgage rate is at 6% or above and you are risk-averse, the guaranteed 6% from mortgage prepayment is not obviously worse than the expected 7 to 10% from XEQT. In that range, personal preference and psychological factors are legitimate inputs to the decision.

Student loans: a common middle ground

Federal Canadian student loans have had interest rates in the 4 to 7% range historically, with government subsidies and interest-free periods during study. Provincial loans vary. If your student loan rate is below 5%, the investment case for XEQT is stronger. If it is above 6%, the debt paydown case is more competitive.

There is also a tax consideration: student loan interest is a federal tax credit. You can claim 15% of qualifying student loan interest paid as a non-refundable credit. This effectively reduces the after-tax cost of your student loan interest. Factor this into your rate comparison if applicable.

Guaranteed vs expected return

The debt paydown return is guaranteed and risk-free. Paying off a 5% debt earns exactly 5%. The XEQT return is expected but not guaranteed. XEQT might return 7% on average, but it might also return negative 20% this year. The guarantee has real value, especially for investors who would be financially or emotionally devastated by a significant XEQT decline.

For a young investor with a long time horizon, the expected return premium from XEQT over a 4 to 5% debt rate is worth accepting the uncertainty. For an investor closer to retirement or with limited financial buffer, the certainty of debt elimination may be worth sacrificing some expected return.

The crossover rate

The crossover rate is the debt interest rate above which paying down debt is clearly preferable to investing. Below it, investing is clearly preferable. Near it, the answer is genuinely ambiguous.

Can you do both simultaneously?

Often yes, and this is frequently the right answer in the 5 to 7% debt rate zone. If your mortgage is at 5.5% and you have $1,000 per month to allocate, putting $500 toward extra mortgage payments and $500 into XEQT through your TFSA is a perfectly reasonable approach. You get the psychological benefit of debt reduction alongside the long-run growth potential of equity investing.

The split approach also reduces regret. If XEQT has an exceptional year, you participated. If interest rates rise and you wish you had paid more toward your mortgage, you made some progress there too. Optimization is less important than finding an approach you will actually maintain for years.

The psychology matters too

Debt carries an emotional weight that pure rate comparisons do not capture. Many people sleep better with less debt, even when the math slightly favours investing. That psychological benefit is real and worth considering. An investor who sleeps well and stays invested long-term will outperform an investor who maximizes expected return on paper but feels anxious enough to sell XEQT during the first correction.

If eliminating your mortgage five years early would give you genuine peace of mind and freedom from financial anxiety, that outcome has value beyond the interest rate comparison. Factor it in honestly.

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