Silly season has arrived! By silly season, I mean RRSP season!
Ads are everywhere, financial institutions preying on people’s ignorance to sell them products that may or may not be good for them. The culture out there, nurtured by the industry, would have you believe that not investing in RRSP’s is irresponsible.
Now, don’t get me wrong. RRSP’s are not necessarily a bad thing. They encourage people to save for retirement, and provide the incentive by giving a tax break now. Many need such incentives in order to save.
Eventually, of course, those taxes need to be paid. And if we think we will be making less, and hence be in a lower tax bracket when we withdraw those funds, or if we think the tax rate will not go up between now and then, there is good incentive to invest in them.
So, RRSP’s may be good for those who:
- need an incentive to save;
- believe the tax rates won’t increase;
- plan to make less after they retire, enough less to put them into a lower bracket; and,
- think the gains made in the meantime more than offset RRSP costs and inflationary devaluation.
Many financially savvy don’t buy into all, or even some, of those criteria. Do you subscribe to all of them? If not, you may want to re-think whether they are good for you.
Then, there’s the matter of where to put the hard-earned dollars. Mutual funds make up the vast majority of the $1.325 trillion (2016—I can’t find a current total) Canadians have stashed into RRSP’s. These were created to reduce risk by multiplying the variety of investments within one basket. But the reduced risk also means reduced reward. And the fees, both seen and unseen, often eat up much of any gains that may be made.
There are over 100,000 mutual funds in Canada, I’m told. A few years ago, a friend of mine analyzed the top performing mutual funds and found that, after all hidden fees were taken into account, the top 10 funds all returned between 6.0 and 6.35%. 99.9% fell below that, with many actually losing money.
Is investing in mutual funds risky? You might not lose, but you’re sure not going to gain much, either. If the average gain is even half of the 6%, that 3% represents barely more than inflation, and is still subject to taxation at the end.
It is well known that the greatest beneficiaries of the mutual fund industry are the mutual fund companies and the brokers who sell their funds. In many cases, those who advise you on the investments are the same ones who profit from them. Talk about the fox guarding the hen house! It’s the ads that promote this relationship that really grate me because they are simply preying on the financially uneducated. And in that, they reinforce people’s financial ignorance.
Financially savvy investors avoid mutual funds, and many even avoid RRSP’s entirely for their retirement funding. Why? Because they don’t subscribe to the above four assumptions. They plan to make more, not less, when they retire. They don’t need to pay someone else half their returns to manage their funds for them. They develop the skills to save without government incentives and financial industry bullying.
There are much better alternatives than the packaged programs offered by those who are in it mostly to make money off their clients. So, what do the financial savvy do?
- They educate themselves. They read books, watch webinars and attend seminars. There are many out there to help anyone educate themselves, and many are absolutely free. They also follow investment trends: the stock market, real estate, commodities, local developments. And they interact with others who are doing the same and thus they’re expanding, not contracting, their horizons.
- They manage their own investments instead of paying someone else to do so. Many people don’t even know that you can self-manage your RRSP’s, that it does not require a financial advisor or fund manager. (If you weren’t aware of that, then you’ve already begun your financial education.) With even a little education, anyone can manage their own investments. Create your own basket of funds from the stock market—call it “my very own personal mutual fund” if you like, and avoid paying all those upfront and hidden fees to someone else.
Or, better yet, in the opinion of many, invest your RRSP’s in something like second mortgages. They are very safe investments and typically generate returns of 8% or more. Compare that with the best mutual funds at 6% (if you’re lucky enough to have had one of the top 0.1% performing funds). The few RRSP’s I have are in a second mortgage at a fixed 8% annual return, with almost no fees.
- They invest with discipline so that they will have a higher, not lower, income stream in the future. They invest in such a way as to see their funds’ growth accelerate, similar to the principle of compound interest (which Einstein is attributed to have declared as “the strongest force in the universe.”)
- They spend their money on assets, not liabilities. An asset is something that puts money into your pocket; a liability is something that takes money out of your pocket. If you buy a boat to have fun with at the lake all summer long, you may have fun, but it is a liability. By contrast, buying something that you can rent out, as I do with my houseboat, puts money into your pocket.
- They avoid “dead equity.” Equity is that part of an investment that you actually own. For example, if you “own” a home valued at $300,000 and you have a $200,000 mortgage on it, then you have $100,000 equity in the home. That equity is a valuable asset because it can be used to put money into your pocket. But it is “dead equity” if you do nothing with it. You could, for example, get a home equity line of credit (HELOC) on that home of $40,000, bringing your total indebtedness to $240,000 (80% of $300,000, the maximum allowed.) The interest on that loan would typically be between 3.2 and 4%. Then you could take that $40,000, place it into a self-managed RRSP account as a second mortgage on someone else’s property (there are clear rules about this) at, say 8% interest. Essentially, you have just printed money for yourself, legally, of $1600, or more, per year (8% – 4% = 4%; 4% x $40,000 = $1600).
But, the bottom line is point #1 above. You need to educate yourself, at least a little, to avoid getting into trouble. Read, listen to audio and video presentations, attend seminars!
As the saying goes, “Who cares more about your money–you, or your investment advisor?”
At least, that’s how I see it . . .
(Note, this is an edited version of blog posts I wrote three years ago, but felt it important to reiterate—and maybe should reprint every year at this time.)