Tax Time: Should You Take Out a Loan to Contribute to Your RRSPs?
There’s just one week left to make a contribution to your Registered Retirement Savings Plan (RRSP) for 2019, with March 2nd being the deadline for doing so. And if you don’t have the money set aside to make that contribution, many are left wondering whether or not it’s worth it to take on an RRSP loan in order to do so.
Well, we’ve broken down the pros and cons of securing an RRSP loan depending on your financial situation. So read on to see whether or not it makes sense for you to be securing a loan this year, or spending your money elsewhere.
READ: Tax Time: Should You Contribute to an RRSP or Pay Down Your Mortgage?
READ: Tax Time: Four Questions to Help You Decide Between RRSPs and TFSAs
READ: Tax Time: Breaking Down Capital Gains, Dividends and Interest-Bearing Investments
Growth and Taxes
“A dollar today is worth more than a dollar tomorrow,” says Christopher Dewdney, a certified financial planner and founder at Dewdney & Co., since your investment should grow over time. “A loan gives you the ability to put it into the market today.”
And since RRSPs reduce the amount you pay taxes on while you are in your potentially higher earning years, you should be out ahead when paying taxes on what you take out in your likely lower-income retirement years.
If you are in, say, a 40% tax bracket, and you make a $10,000 contribution, you will get $4,000 back as a refund, Dewdney says. You could use that to pay toward your loan, leaving you with $6,000 to repay.
However, says Jason Heath, a fee-only financial planner at Objective Financial Partners Inc., consider taking that $6,000 and contributing that amount to a retirement savings plan instead.
Sudden High Income
“One of the reasons you might want to borrow is if in 2019 you had a particularly high-income year,” says Rona Birenbaum, CFP and founder, Caring for Clients financial planners. This could include getting a big bonus or selling in investment property, which would put you in a high tax bracket. If you used the excess cash for something like paying off high-interest debt, leaving you without the money for your RRSP, taking out a loan might mean you could get half back in a tax refund. You could then pay down the debt on the loan, but she cautions this should be a one-time strategy, and you should “get serious about budgeting and debt repayment.”
Close to Retirement with Lower Income
Another scenario that might make sense is, “If someone is very close to retirement and their income will drop significantly and it’s their last kick at the can, especially if they are downsizing,” says Heath.
Defer Deduction to Later Higher Income Years
If you want to invest now but you expect to be earning more in later years, you can still get a loan, put it into an RRSP now and defer your tax deduction to a higher-earning year, Dewdney says. But know that you wouldn’t get a deduction to help pay off your loan this year.
Pay it Off Within a Year
Make sure you can pay off the loan within a year, Birenbaum says. The tax benefit is only this year, and if you are still repaying after that, you are now saddled with debt and you still don’t have the money to make RRSP contributions the next year and onward.
If You Have Existing Debt
“You’re trying to decide whether you would earn more on an RRSP contribution and tax refund than through paying down your debt,” says Heath, “in a lot of cases, 30 years from now, whether you contribute to an RRSP or pay down debt … a lot of people will end up in the same place,” so taking out a loan to get the tax refund will not necessarily make a difference. And consider, he adds, that if you can’t make the RRSP loan repayments on top of your existing debt payments (such as student loans, car payments or credit card debt), it can impact your credit rating.
Make Monthly Contributions
“In a perfect world, instead of making monthly loan contributions, you would make monthly RRSP contributions,” Birenbaum says. “If your budget is tight, don’t borrow, especially if you are under 40 and you’ve got lots of time to save.”
“If February rolls around and you didn’t save for an RRSP [contribution], look at the bigger picture,” says Heath. Ask yourself: Why didn’t I contribute last year? What do I need to do moving forward?
“It’s ok if one year you don’t make an RRSP contribution,” Birenbaum says. “But then get serious about making a plan.”