The Nickel and Dime Bank: Navigating Bank Fees
It is a cliché that Canadians are loyal to their banks. While it is true that banks or credit unions are necessities of life, we do not need to stay loyal to one bank brand. In this blog post, I will discuss some ways in which the average Canadian can save money by considering alternatives to their current choices.
First, let’s consider the most basic of accounts, the chequing account. This account is the central hub of your finances. Money comes into this account and then is disbursed toward savings, routine expenses like utilities, debt payments, or investments.
In days of yore, a chequing account would pay you interest. These days, many banks pay no interest at all; instead, they charge you to hold your money. Below are the advertised fees for the three or four main chequing accounts offered by the five biggest banks in Canada.
The lower fee accounts tend to limit the number of transactions available to you or they begin charging you for exceeding the transaction limit. There may also be additional fees depending on the service used. Some banks offer to waive the fee if you maintain a minimum balance or reduce/waive the fee on another product such as on a credit card or a US Dollar account.
There are online bank accounts that do not charge monthly account fees or transaction fees. Consider Simplii or Tangerine, for example, two online bank accounts which are divisions of two of the major banks, CIBC and Scotiabank. You might feel you need one of the low-fee accounts at a physical bank, but why pay a fee for services that you can obtain for free elsewhere?
How much of a difference will this make? Let’s assume you want the flexibility of unlimited transactions. That suggests you would use one of the $16.95/month accounts. Over a year, you will have saved $203.40.
Savings accounts at the big banks also have fees and limits of which you need to be aware. For example, most savings accounts limit you to one, and sometimes no fee-free withdrawals. In other words, a savings account is meant for accumulating cash, not paying bills. Typically, however, you can avoid the charge for a withdrawal by doing online transfers from your savings account to your chequing account and withdrawing from there. Bill payments directly from a savings account, however, are almost always a no-no.
When we think of a savings account, we assume we are going to earn interest on the money deposited. Yes, that’s true, but it is often extraordinarily little. Some accounts pay as little as 0.005% interest on the first $5,000. That works out to about 25 cents per year in simple interest ($5,000 x .00005). If you have larger sums the interest rate you receive may be higher in the 1.30 – 1.60% range, currently, but unless you plan to accumulate a relatively large sum of money that will be used within a few months or a year, it is not the most efficient place to set aside those funds.
Again, online banks come to our rescue. Two that quickly come to mind are EQ Bank, which offers 2.50% on its savings account, and Oaken Financial, which currently pays 3.40% interest on savings held there. In addition, they allow unlimited transactions, bills can be paid from there, and you can connect these online savings accounts to the chequing account at your main bank to make transactions flow over smoothly.
How much more interest could you receive in a year from these better more flexible rates? Let’s assume that at the big bank you begin the year with a balance of $10,000, never exceed the limits for withdrawals, and receive a rate of 0.75%. Let’s compare one year’s returns against EQ and Oaken.
EQ Bank generates additional interest of $177.63 while Oaken pays $270.09 more interest than an average big bank savings account each year. And to top it off, these online banks have the same CIDC insurance coverage as a big bank.
Credit cards are a bit of a confusing landscape, in my view. Regardless of the issuer, you are likely to pay a high interest rate on balances that you carry into the next month. A regular credit card will typically charge 19.99% (let’s call in 20%) interest. If you tend to carry a balance, you may wish to apply for a low-interest rate credit card, which may charge in the range of 12.99%, but will probably charge an annual fee, whereas a standard credit card will charge a higher rate but will not add an annual fee on top of the interest.
As a matter of good financial management, do not carry a balance on your credit card. No investment will reasonably generate a 20% return. If you are trying to get out of credit card debt but cannot do so immediately, consider a personal line of credit as a source of funds to pay off the credit card. And then you should get rid of that card and any others until the line of credit debt is gone.
Line of Credit
As noted above, lines of credit are usually a less expensive source of revolving credit than a credit card. The banks typically charge based on a “prime rate” plus a certain premium above that. For example, I recently received an email from one of the major banks informing me that I was pre-approved for a personal line of credit of the prime rate + 1.5%. The prime rate is 5.95% so that works out to 7.45% currently.
A line of credit can be a useful tool. If you don’t have any cash set aside in a savings account, it can serve as an emergency source of cash that is less onerous than allowing a balance on your credit card to continue. You can also use a line of credit as a source of investment funds. Having said that, using “leverage” – effectively multiplying the cash that you have by borrowing additional money to invest – is a risky proposition, as investments can and do lose money. And if you want to invest in something more conservative, like purchasing a GIC, you cannot make money on a 5% GIC when you are borrowing at 7.45%.
If you think of the line of credit as an alternative to a credit card, consider the savings in interest charges. Assuming no payments are made against the debt, and the interest is compounded monthly, what will happen to a $10,000 balance on a credit card versus a line of credit after one year?
The difference in interest charges over the year is $1,421.74. This does not mean that I am endorsing leaving either your credit card or your line of credit unpaid. Both products will have their minimum payments. However, I would encourage anyone to make the minimum payment equal to the full balance owed, especially on the credit card.
The only comment I wish to make here is that you do not need to go to your local bank branch “around the corner” to get a mortgage. Mortgage brokers are always an option to consider as they are not limited to one issuer alone.
Guaranteed Investment Certificate (GIC)
GICs are the conservative investor’s answer to the unwillingness to take the risk of losing money. Even saying that they are without risk is not entirely true as there is not a single GIC available in Canada today that exceeds the current inflation rate. However, if interest rates are on a downward trend, locking in a GIC for a 5-year term now may mean that you will be exceeding inflation in a year or two.
GICs have their place in that they provide a useful place to pay for something that you know will be coming due in a certain number of years. They can also be useful as a short-term component of a long-term investment portfolio. A retiree who is withdrawing money every year will find those guaranteed sums helpful, and so will the parents who have set up a Registered Education Savings Plan for their children and have arrived at the last few years before the plan will begin to be used up.
GIC rates at the major banks have gone up with inflation and the Bank of Canada interest rates, but they tend to be lower than you can find elsewhere.
Rates vary quite a bit and although it is typical for rates to go up as the term to maturity lengthens, we can see that TD and BMO offer rates that are at their lowest in the 3-year and 4-year terms, respectively. This suggests that these banks are forecasting lower interest rates in general and/or they don’t need to raise funds at these terms.
The discount or online broker comes to the rescue. Surprisingly, this is where the bank-owned brokerages do quite well. With one brokerage account, you can access over 20 different issuers. Since each will have separate CDIC coverage against default, you could theoretically spread $2,000,000 in assets across the various financial institutions and know that every dollar is insured. Of course, they will not necessarily provide the same rates, but they will generally do better than what you can get at the bank.
To compare the banks’ GICs against the online brokerages’ GICs, I have averaged the rates in the table above to arrive at a figure of 3.69%. The average of 1 through 5 years is 3 years, so we are effectively comparing 3-year GICs. Going to the online brokerage and averaging the rates available there for 1 through 5 years, the figure is 5.12%. Let’s assume that $25,000 is invested in each of these averaged GICs over three years. What would the results be, assuming annual compounding?
Again, the result of making an online choice yields a substantial difference, $1,169 when compounded over three years.
Mutual funds are distributed via a variety of channels with a corresponding variety of classes. The channel under discussion for this blog post is the retail bank. Typically, funds are sold by a representative in a local branch who holds a mutual funds licence. The process involves collecting a basic risk profile of the customer which the representative enters into a computer. The computer then spits out a recommendation.
There are some problems with this approach. First, the representative may have little experience or knowledge of mutual funds. Second, the risk profile questionnaire is not often well-founded and is better suited as a marketing tool than an analysis of what the customer needs. Third, the only funds that the representative can offer are those offered by the financial institution in which the customer is sitting at that moment. Fourth, there is a higher fee charged for these funds as they are sold with “advice.” That the advice offered is little more than, “Buy these funds,” does not, to my mind, justify the extra fee.
If you are more comfortable with mutual funds than exchange-traded funds (ETFs), then one approach is to go to a discount or online brokerage and buy a mutual fund there. Recently, regulations changed, requiring such brokerages to cease offering mutual funds that provide trailing commissions to the broker, often identified as an A Series fund, since those commissions are intended as compensation for ongoing advice. Discount brokers are “Order Entry Only” and, therefore, do not offer advice. As a consequence, some of these brokerage firms have started to charge commissions directly on the order to buy or sell mutual funds. However, if you can buy these new lower-fee funds without commissions, typically identified with a D or an F, you can save a substantial amount. Note that the average MER of the five A series funds is 1.87%, while the MER of the D or F series equivalents of the same funds is 0.90%, an annual savings of 0.97%.
Let’s assume that in January of 2023 you buy the A series fund at your local bank branch and put it in a Tax-Free Savings Account (TFSA). Your sister, however, went out on her own and opened an account at a discount brokerage and bought the F series fund of the same type. Let’s further assume that the A series fund you bought returns 5% per year over 10 years, while your sister, who is saving 0.97% per year but is otherwise invested in exactly the same fund receives an annual return of 5.97%. We will assume steady returns even though the investment markets don’t work that way, as 2022 demonstrated.
Because both you and your sister had received an inheritance and had never had a TFSA before, you invest the full amount allowed to you in 2023, which is $88,000 after the government-announced increase of $6,500 to the TFSA for the new year. Neither you nor your sister make any new purchases.
You think that 0.97% is no big deal. You appreciate that your bank branch representative set up the account for you. Your sister knows better, however. After 10 years, your sister is ahead of you by $13,806.
I don’t want to downplay the role of investment advice. But investment advice is more than just saying, “Invest in this mutual fund.” It takes some effort to know one’s client, to know the most suitable investment for the client, and to offer behavioural support when the markets don’t move in a straight line (which they never do!). Investment advisors also need to have an awareness of their clients’ investment needs in the context of the overall financial situation and act in their clients’ best interests. If your bank advisor doesn’t show that kind of diligence, then maybe it’s time to move on.
Not all of these products or services are necessary for each individual. However, to the extent you are willing to use some of the available online services, and you know where to look, you can save hundreds and perhaps thousands of dollars a year, in reduced interest charges and/or greater returns on your savings and investments. Just because you have a longstanding relationship with your bank does not mean you have to stay with them. They operate a business to make a profit. Managing your money in a business-like manner by choosing better financial service providers for your needs can be profitable for you, too.
This is the 173rd blog post for Russ Writes, first published on 2022-11-21.
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Disclaimer: This blog post is intended for general information and discussion purposes only. It should not be relied upon for investment, insurance, tax, or legal decisions.
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