It has been reported that the savings rate in the United States is negative. I’ve heard arguments saying it isn’t really negative but I think it’s fair to say that the savings rate is very low. Everybody wants to encourage people to save, which is great. We already have a hodgepodge of tax favored programs. In this election year, politicians are coming up with even more tax incentive proposals of different stripes. I think they are missing the point entirely.
Right now we already have these programs:
- 401k/403b/457, Traditional IRA, SEP IRA, SARSEP IRA, SIMPLE IRA: If you save for your retirement, you can defer taxes.
- Roth IRA: If you save for your retirement, you can avoid tax on your gains.
- 529 plan, Coverdell ESA: If you save for a child’s education, you can avoid tax on your gains.
- FSA, HSA: If you save for medical expenses, you can avoid some tax.
Can anybody say with any confidence that they know all the eligibility, phase-out and qualified distribution rules on all of these programs? You wonder why the average consumer is confused? When they have a number of choices which they don’t know much about, they either (a) don’t do anything for fear of doing something wrong; or (b) give up and hand themselves to a financial service “professional” who happily charge them a neat fee.
You think a 529 plan is simple enough? Find an aged-based portfolio, dollar cost average, and you are done? No. Every state has a different plan. Some states have more than one plans. You need a big web site just to keep it straight. Is it any surprise that nearly 80% of the 529 plan sales went through a financial advisor?
We don’t need more programs. We need simpler rules. When people are not worried about doing something wrong, they will save. The Canadians are smarter in this regard. They trust their people. The Canadian government recently legislated a new program called Tax Free Savings Account (TFSA). I think it serves as a good example for how a simple program really creates the incentive to save.
Simply put, in a TFSA,
- Everybody over 18 can save 5,000 Canadian dollars a year. No income qualification. No phase-outs.
- If you don’t have money to contribute now, the contribution room carries forward, forever. That way when you have more money later, you can catch up. Most U.S. programs are use-it-or-lose-it.
- Contributions are not tax deductible but earnings grow tax free (like a Roth).
- Money can be withdrawn at any time, for whatever purpose, tax free. No 59-1/2, no expense qualification, no questions asked.
- If you had to withdraw from your TFSA for whatever reason, you can make up for the withdrawal later without reducing your contribution room. In a US tax favored plan there’s no way to put money back once it’s withdrawn (except for limited 60-day rollovers).
If we have a program like Canada’s TFSA, what excuse can anybody have for not using it? You save whenever you want, for whatever you want. Whatever you buy, the earnings are tax free. We are so into limiting people on the way in and locking the money up once they are in. That’s the wrong approach. If you want to encourage people to save, let them save without so many restrictions. Obama, Clinton, McCain, are you listening?
Refinance Your Mortgage
Mortgage rates hit new lows. I saw rates as low as 3.25% for 30-year fixed, 2.625% for 15-year fixed, with no points and low closing cost. Check mortgage rates in your state.