RRSP

RRSP Tip # 1: Avoid Venture Capital Funds

January 25, 2006

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The RRSP season is in full swing and Canadians are being bombarded with advertising pitches for various investment products. The other day, I heard a radio commercial for investing in Venture Capital Funds. Labour Sponsored Investment Funds (LSIF), as these funds are called, invest in small private companies by providing start-up or mezzanine financing. Investing in LSIFs results in generous tax credits of up to 35% (on a maximum of $5,000), if held for 8 years.

I think these funds are a lousy choice for most people (especially inside a RRSP). It is true that these funds represent a separate asset class and generate significant tax credits. However, the average annual returns of LSIFs (according to Globefund.com) have been terrible: -1.8% over 3 years, -8.18% over 5 years, 0% over 10 years and -0.64% over 15 years. That really is a lousy record. The funds also charge very high fees (the median MER according to Globefund.com is 3.93%). If these funds were held in a taxable account, they would at least generate a capital loss. The elimination of foreign property rule for RRSPs has removed the last good reason to invest in LSIFs and it is best to avoid them.

Advantages of a RRSP

December 7, 2005

11 comments

Yesterday’s post Don’t Give up Free Money elicited this comment:

I’m not sure if a RRSP is the best option. If the tax agency is trying to give you a “deal” you should run away as fast as possible.

I have heard variations of this “the government always gets you” theme over the years. For the vast majority of Canadians who don’t have a defined pension plan at work, there are plenty of advantages to the RRSP.

  1. Contributions to the RRSP are tax-free. Since capital gains, income and dividends inside a RRSP are sheltered from tax, true compounding is possible.
  2. It is true that withdrawals from a RRSP are treated as income, whereas capital gains and Canadian dividends are taxed much more favourably. Phillips, Hager and North analyzed three different portfolios with different asset mixes and found that the after-tax estate values were higher in all three, when held inside a RRSP.
  3. Interest income and dividends from foreign stocks are taxed at the same rate as ordinary income in taxable accounts. The RRSP is a good location for these assets.

Note: Karen from Hamilton, Ontario is the winner of the One Year Anniversary Giveaway. She will shortly be receiving a hardcover copy of A Random Walk Down Wall Street. Congratulations and thanks to everyone who participated.

How to Open a RRSP Account?

November 22, 2005

8 comments

I received a query from a reader about how to open a no-fee (or low-cost) RRSP account that provides a good selection of mutual funds. I thought I would expand my answer into a blog post.

If you want the flexibility to trade stocks and bonds, a RRSP account can be opened with any of the discount brokerages (Check out an earlier post on Best Canadian Online Brokerages for some options). They typically charge an annual fee for smaller portfolios (for example: RBC Action Direct charges a $50 fee for accounts less than $25,000). Opening an online RRSP account is as simple as visiting the brokerage webpage and clicking on the Open an account link.

If you want to buy mutual funds from various fund companies, you might want to consider ING Direct Funds. Please note that actively managed funds charge high fees that would make administration fees seem very small by comparison. (Example: on a $10,000 account, a $50 administration fee translates into an annual expense of 0.5%. On the other hand, the average mutual fund in Canada charges a fee of 2.1% and the vast majority of them have also underperformed their benchmark indices).

You can also open a RRSP account at your local bank branch or with an independent mutual fund company like Investors Group. But, your options will usually be limited to the in-house mutual funds. Note, that these mutual funds also have a high MER and you might have to pay a fee to move the RRSP account to another institution.

In my opinion, the best choice for small portfolios is TD eFunds. The index funds offered have a MER ranging from just 0.31% to just 0.48%. You would be able to quickly create a fairly diversified portfolio like I described in an earlier post. Opening an account is a fairly easy process and can be done online.

Disclaimer: I am not a financial advisor. No post (including this one) should be construed as financial advice.