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RRSP or Debt, where should your money go?

25 January 2013

At this time of the year there is a lot of discussion whether you should put money into RRSP or should it be used to pay off your debt. As always you will see a lot of Banks advertising their RRSP products because huge portion of their profit is made during this season. What is sad is that you will not hear about ballooning household debt, but RRSP loans will be promoted quite effectively. 

Borrowing to top up the RRSP is advised only if the tax refund is less then the amount borrowed and you have the discipline to use the refund to pay down the loan.

RRSP is effectively temporary tax shelter, when the money is withdrawn you will have to pay the tax then. All Banks try to tell us that the taxes will go down by the time we are ready to withdraw our RRSP savings but can anyone can see the taxes going down when the public debt is getting larger by the second?

Some of your credit cards may have interest rate as high as 30%. If you owe $5000 at this interest rate you would pay $1500 in interest plus any compound interestover the course of a year. $5000 paid into RRSP will yield $1300 temporary tax rebate if you are in 26% tax bracket.

This argument also applies to homeowners torn between contributing to RRSP or increasing their monthly payments. Every dollar used to pay down your mortgage is guaranteed investment appreciating at the interest rate of your mortgage plus any compound interest it would accumulate since overages in your regular payments are applied directly to your principal. In addition to lowering your mortgage, that dollar also becomes equity in your property. And if your property appreciates in value that dollar is also appreciating in value free of tax if the property in question is your principal residence.

Increasing mortgage payments makes even more sense for young home owners who can carry their RRSP allowance forward when they are going to be in higher tax bracket and the savings will be greater.

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Walter Pawlowski Ontario Mortgage Agent M11002486