Monday, January 25, 2010

CAUTION! Chevreau uses calculator! CAUTION!

Jonathan Chevreau has a piece in today’s Financial Post entitled “Beware 696-year TFSA investments” which is intended as a Jim Flaherty instructional video on how Jim Flaherty intended his new fangled and ill conceived TFSA to be used to achieve its absurd policy goals, policy goals that are premised on the same patently false beliefs that underlie Jim Falhery’s tax leakage nonsense, which is that deferred (ie future) taxes count for nothing to the government. Only that kind of lame brain thinking could justify the creation of the absurd (from the government’s perspective) TFSA. It;s only intent, as I observed the moment it was announced was to dissuade people from contributing to their RRSP, in the belief that making contributions to an RRSP actually costs the government money.

Now that Jonathan Chevreau has learned to use a calculator to determine that it would take 696 years at today’s absurdly low interest rates to accumulate any type of reasonable retirement nest egg, why doesn’t he use his calculator to do a present value analysis of just how much foregone tax revenue these TFSA’a are costing the government and all taxpayers, relative to the modest cost to the government of RRSP contributions. If Jonathan knew anything about Finance he would be able to tell you, without even requiring a calculator that RRSP contributions cost the government NOTHING, as they are merely the deferral of taxes on monies that grow at rates higher than the government’s cost of capital, such that a dollar deferred to tomorrow is actually worth as much and more than if that dollar were paid today. With his new found love for calculators, Jonathan Chevreau could also tell you that Harper’s tax leakage argument does not hold water (pun intended).

What Johnathan is actually telling his reader in this article of today is that TFSA are a bad deal for the government and that investment returns from traditional asset classes like bonds GIC and even stocks are so abysmal that he implicitly wishes that he hadn’t been so rash in jumping on the bandwagon to kill income trusts which are a hybrid profit sharing investment vehicle ideally suited to Canadians saving for retirement. Jonathan is also implicitly and perhaps explicitly telling you that the TFSA is deficient and requires something new to achieve the goal of having adequate investment capital and investment income to retire on/

This is where the Marshall Plan comes in, as it restores profit sharing income trusts as an essential investment vehicle for Canadians in their retirement savings and the Marshall Plan achieves that admirable end by creating a new savings plan, the MSP. That is the best of all worlds for the government in terms of tax collection. For income trusts investors to be willing to pay tax on their income trusts within a MSP is a big “give” that they should not be expected to forego to accommodate the government’s patent lies about tax leakage, but as Jonathan implicitly points out, profit sharing income trusts are so essential and so dramatic in terms of achieving the investment needs of the 75% of Canadians without pensions that we are prepared to do it. However the time to do it is NOW, and in Budget 2010. Implementing the Marshall Plan will protect all Canadian taxpayers from further dramatic erosion of Canada’s tax base from the continued onslaught of takeovers of trusts that will occur in the absence of the Marshall Plan, and the silly notion that some people hold dear that financial pandemics of this sort are best left to fester and multiply while we wait for some ellusive and far away election and possible change of government to achieve.

Just whose interest does that serve? Certainly not the taxpayers who are paying these very people’s salaries. That much is for sure. So too is the need for the Marshall Savings Plan in Budget 2010, Just ask Jonathan Chrvreau or better yet, read this and weep:

Beware 696-year TFSA investments
Without equities, that's how long a payoff may take

Jonathan Chevreau,
Financial Post
January 23, 2010

While the new tax-free savings accounts are proving to be popular, many Canadians are choosing only interest-bearing TFSA plans that pay so little that the accompanying tax savings are equally negligible.

Negligible is an understatement. Consider that in 2009, the median one-year yield for Canadian money-market mutual funds was 0.3%, according to Morningstar Canada. That would mean you'd double your money in 232 years, says Morningstar investment funds editor Rudy Luukko. Or, if you calculate it based on the 0.1% six-month yield, you'd double your investment in 696 years.

This is not quite as bad as in the United States, where the top 100 money-market funds have an average yield of 0.05%, which would take 1,000 years to double.

Three-month federal paper yields 0.20% in Canada, versus 0.05% in the United States, says Dan Hallett, a director with HighView Asset Management Inc. "It would only take just south of 350 years to double your money invested at 0.2% annually, but I'd guess yields would creep up a few years before that time frame is up."

Now consider the tax savings on these paltry yields. We'll be generous and juice the yield up to the 0.4% paid by Canada Savings bonds. A $5,000 TFSA investment in a CSB pays a grand total of $20 in interest after a year. Meanwhile, more adventuresome investors who put their TFSA contribution last March in stocks, equity funds or exchange-traded funds could easily be up 50% or more on the year.

Perhaps because the "S" in TFSA stands for "savings," many TFSA newcomers don't realize they can also serve as supercharged tax-free investment accounts. A study by BMO Financial in 2009 found a whopping 94% of TFSA accounts are in savings accounts or term deposits. Even by mid-January 2010, TFSAs are still 90% in such accounts, says director of retirement strategies Tina Di Vito.

People seem unaware they can invest their TFSA contributions in stocks, bonds and other financial assets, as well as in shortterm deposits and GICs.

In this respect, average investors are repeating the mistake made when they first opened up registered retirement savings plans through bank-offered GIC RRSPs that severely limited their investment options. In either case, it makes more sense to choose self-directed RRSPs or TFSAs that let you invest in stocks, bonds, mutual funds and ETFs, as well as interest-bearing securities.

As of Jan. 1, Canadians could put a second $5,000 contribution into their TFSAs, assuming they put in their first $5,000 in 2009. If they did and later withdrew funds -- perhaps to pay for a project to generate the soon-to-expire Home Renovation Tax Credit -- they can repay that withdrawal back into their TFSA now that we're in the new year.

So, for example, if you put in $5,000 early in 2009, then withdrew $3,000 in August, now that it is a new calendar year you can contribute $8,000: $3,000 to replace what you withdrew and $5,000 more in a "new contribution."

The question remains how to invest it. Most financial advisors make emergency funds a priority, so it's logical that families with few financial resources might keep at least some of their TFSA in shortterm, liquid, interest-bearing vehicles, such as high-interest savings accounts, money-market funds or GICs.

The problem is the gap between short-term and long-term interest rates -- the yield curve -- has seldom been greater. So, if you want to be paid a decent rate of interest, you must commit the funds for a longer period.

Cashable one-year GICs are one possibility. You lose some yield for the privilege of being able to cash out. A similar dynamic exists between cashable CSBs and locked-in Canada premium bonds. Other alternatives include strip bonds and bond ETFs, which may pay more, but can be cashed out if necessary, possibly sustaining a loss.

The threat of an imminent rise in interest rates is why some investors are buying high-yielding dividend paying stocks, income trusts or preferred shares. These can be sold when you want but, as with bond ETFs, there's no guarantee you won't experience a short-term loss.

Since TFSAs are extremely versatile, so should the investments you want to hold in them. Limiting them to interest-bearing investments when rates are so low is unwise. So switch to a self-directed TFSA: It can still own interest-bearing vehicles, but you'll have the best of all worlds.

Unless, of course, you're content to double your money every few centuries.


Dr Mike said...

TFSA , where one dollar of income is exactly one dollar that contributes to true "tax" leakage as this tax money is non-recoverable by governments , period.

RRSPs & One dollar of distribution income is still one dollar that will be taxed eventually , no ifs , ands , or buts.

Which is the better deal for the gov`t.

Ask Jim & he will tell you the TFSA.

It is obvious that if you don`t understand the problem , you will never know the solution.

Dr Mike Popovich

Anonymous said...

Note to Chevy:

Really, Jon, such advice. First, you blame investors for their income trusts' losses. Then, you adminish them for not taking enough risks. All the while, you never mention intervention by the CONS and collusion by the NDP. Jon, I know how much you hate boo-hoos but you really deserve one. BOO HOO!

P.S.: LASIK does wonders for myopic vision.