Should you put your CSBs into RRSPs?
The Advocate, Wednesday January 10, 1996
The government of Canada has recently been advertising the fact that Canada Savings Bonds are now eligible for your RRSP. But should you put them into your RRSP? Do they really belong in your RRSP?
First, you should understand the real function of RRSPs before you can intelligently answer that question. They began back in the late 1950s to help Canadians save for their retirement by giving them a tax deduction for their contributions and allowing the deposits to grow tax free. The government realized that many people aged 65 and over become dependent on government supplements to live. They become tax dependent. Ottawa felt that if they encouraged Canadians to save for themselves through RRSPs, they would become tax payers instead of tax collectors.
To be able to pay supplements to an aging population the tax paid on RRSP payouts would broaden the tax base. To summarize, RRSPs are long-term vehicles intended primarily for retirement.
What are considered short-term investments and what are considered long-term investments? Short-term investments are usually associated with interest bearing vehicles such as savings bank accounts, certificates of deposit (CDs), guaranteed investment certificates (GICs), T-Bills and Canada Savings Bonds (CSBs).Canada Savings Bonds are not the same as Government of Canada Bonds. Government of Canada Bonds have a capital gains element to them that Canada Savings Bonds do not. Long-term investments include stocks, bonds (not CSBs), real estate, mortgages and equity mutual funds.
We all have short-term needs and long-term needs and appropriate saving vehicles to meet those needs. So let me ask you another question: why would you use an investment considered short term, such as CSBs, to achieve your long term needs (goals)? You need to see past the immediate attractive appeal that putting CSBs in an RRSP seem to have. Compare the long term results of stocks, bonds, T-Bills and mortgages. *An investor who entered the stock market in 1926 and stayed through 1985 would have earned an average real return of 9 per cent annually in stocks, compared with 2 per cent on government bonds, 0.9 percent on T-Bills and 3.4 per cent on mortgages. The relationship holds true for most periods of ten years or more. From 1926 to 1936 stocks had an average annual return of 11.5 per cent compared with 8.6 per cent for government bonds and 5 per cent for T-Bills. The mortgage series did not begin until 1935. (*Market Insights by Seymour Freidland, Financial Times, August 4, 1986).
To be sure, the supremacy of stock yields does not always hold true for shorter periods. But the point is made. The point being that the long-term investor who holds a reasonably well diversified portfolio (equity mutual funds) will always do better in stocks than in the other standard investments. (See my article "Long-Term Investing," March, 1994) or contact me for a copy. The argument is supported by economic theory and, perhaps more importantly, by the facts.
While economists have very little to say to speculators, they have a powerful message to give to those who want to make money over long periods of time. Like most great messages, it is simple: "Large returns go to those with patience and a diversified stock portfolio." With an understanding of this, why would you put short-term savings (CSBs) into a long-term savings vehicle such as an RRSP? I realize that interest is sheltered from tax inside an RRSP. But should that be your only concern? Isn't total overall return far more important?
For example, $1000 invested at the beginning of every year for 20 years at 7 per cent would be $47,734.86 and in 30 years it would be $108,685.30. At 12 per cent in 20 years it would be $80,413 and 30 years, $290,788. That represents $182,103 more after 30 years. Clearly, making 5 per cent more is what is the most important. This can be achieved by equity mutual funds inside your RRSP, not CSBs. As long-term investments, Canada Savings Bonds just don't measure up.
But don't get me wrong. I think that Canada Savings Bonds have their place, but it's not inside your RRSP.
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