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Turning Savers to Investors: Source of the Shift

How tax-deferred investments could be the key to a cultural conversion

Scott Burns


As I mentioned in previous posts, a recent conversation with a Morningstar European Fund Manager of the Year winner led me on a pursuit to explore how cultures can shift from savers to investors.

I got varied responses from folks in the industry. But I believe the source is a very subtle one—and something that investing cultures around the world share: tax-deferred investment options.

Free Money (With Conditions)  

The purest source of the shift that I have managed to find lies in a sweet little bit of the U.S. tax code around 401(k) plans. The key element of this rule to focus on is the part that allows your gains and income to accumulate tax-free as long as the money stays in the plan—and not the part that allows money to be put into the plan on a tax-free basis (though that’s certainly a plus).

The company match isn’t the “free money” that I’m referring to. That match money is unconditional; you get it regardless of how you invest.

The free money that I’m talking are the dollars that you get from the tax deferral of your compounded returns. 

Unintentionally, the 401(k) law mimics what casinos do when they want to turn risk-averse people into risk-seeking gamers. Casinos will give those people free chips. The chips have a dollar value, but the only way to turn that “free money” into something more is to take some risk. In other words, there’s a return with a condition. 

The tax-deferral aspect of 401(k) plans works in a similar fashion in that the only way to truly capitalize on the free money that the U.S. government has given you is to generate returns—equity returns at that.

Education Goes a Long Way

I don’t think it’s hard for people to understand a chart that shows returns on tax-deferred investments compounding for years. It’s about as simple and compelling of a story as one could ask.  

And in investing cultures around the world—mainly the U.S., Canada, U.K., and Australia—we see this conditional free-money effect in some shape or form. But in the countries where people are still savers, we do not.  

The Past Holds the Key 

So if you buy into my theory about free money with conditions, then you can see that such a scheme must be present for any culture to eventually make the switch. That is why I’m so excited about the prospects of countries like Japan and South Korea, and I’m less excited about markets like Germany and France.

In Japan and South Korea, we are seeing the aggressive creation of tax-deferred investment schemes and an effort to move people out of defined-benefit plans and into defined-contribution-type plans.  

It’s a little trickier for markets like Hong Kong and Singapore. Because when you don’t really pay taxes, it is hard to hand people free money with conditions. They would need to find some other route to get savers to become investors. Though, I’m not advocating levying an income tax by any means!  

A Reminder to Current Investor Cultures 

I hear constant lament in the U.S., U.K., and Australia that people are scared and still in bonds and the banks—as opposed to equities. And a common refrain is that if only we had more education, different rates, or more 401(k)-type savings, then the situation would right itself.

However, the situation is much more simply resolved. Maybe, we need to stop taking for granted that everyone knows about the value of this free money that they get from investing inside these schemes, and focus on reminding them of the very basics that turned an entire culture of savers into investors in the first place. Maybe then we could get somewhere with getting people back into stocks.

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