What should we do with the financially illiterate?
The country is rife with people who don't know enough about money – that's why every November is declared Financial Literacy Month and why the country now has a federal financial literacy leader. But educating people to make smarter money decisions is slow work. In the meantime, there's the question of how much forbearance the financially illiterate deserve.
I've been writing about personal finance for more than 15 years and have learned not to judge people for what they don't know about money. There are so many ways to veer off-course, only some of them self-inflicted. That's why I'm glad to offer as much help as people need to stay on top of their finances.
Others take a different view on what to do with the financially uninformed. A reminder of this arrived in the form of e-mail responses to last week's column on why the federal government should lower the minimum amount people must withdraw from their registered retirement income funds each year . The gist of these e-mails: Do people not know about the financial planning strategies that make those annual RRIF withdrawals far less onerous?
No, many do not. Just like some still don't know the rules that apply when you recontribute money to a tax-free savings account that you previously withdrew. Or, that there are monster penalties when you break a mortgage in mid-term. Or, that making the minimum credit card payment every month will keep you in debt for an extended period of time.
In the case of the misunderstood TFSA recontribution rules, the Canada Revenue Agency has decided to waive penalties if people show they made an honest mistake in breaking the rules. On mortgage penalties and credit card payments, the federal government has required banks to provide improved disclosure to customers.
We could leave people alone to pay penalties, make costly mistakes and generally set themselves back financially, but that serves nobody's purpose. It's the same with the RRIF withdrawal rules, which seem excessively high at a time when lifespans are increasing and the interest-paying investments that seniors use extensively pay very little.
Many people believe the limits should be reduced to reduce the risk of people running out of money in retirement and thereby adding strain on government income programs for seniors. For example, the C.D. Howe Institute issued a report in June saying the government needs to revisit the rules on RRIF withdrawals to protect people from outliving their savings.
Several Globe readers rightly pointed out that there are strategies for people who believe the government is forcing them to take too much out of their RRIFs every month.
For one thing, money withdrawn from a RRIF does not have to be money spent. As much as $5,500 a year can go into a TFSA under current limits – that's an ideal parking spot for unneeded RRIF withdrawals.
From age 71 through your mid-90s, the required RRIF withdrawal rates gradually rise from 7.38 per cent to 20 per cent. Bond yields and rates on guaranteed investment certificates top out in the high 2-per-cent range, so a senior who invests conservatively would be pulling money out of a RRIF at a much faster rate than it's growing. Holding stocks, with their high single-digit growth rate over the long term, is one tack.
But seniors who own stocks in a RRIF run the risk of having to sell them in the middle of a market decline in order to free up cash to withdrawal. Selling stocks before they have a chance to rebound can have a big impact on future growth of a RRIF portfolio if done in the early years of retirement.
Lower RRIF withdrawal limits would help limit this kind of self-destructive selling. But a simple financial planning rule is even more effective. Keep three years' worth of RRIF withdrawals in cash-like vehicles and you'll never have to worry about dipping into hard-hit investments before they have time to rebound. You can also make an in-kind withdrawal from a RRIF, where you move a stock or fund into a non-registered account or TFSA without selling it (taxes apply, as they do on cash RRIF withdrawals).
If people don't know about strategies like this, we should teach them and support them with lower RRIF withdrawal requirements. Letting people blow up their finances because they didn't know any better makes us all poorer.
Rob Carrick