Is it worth going into debt for your RRSP?

There are cases where getting into - or out of - debt with your savings makes sense

Ruth Saldanha 19 February, 2019 | 6:00PM

 

 


Ruth Saldanha: It's RRSP season and with everyone rushing to make contributions before the 1st of March deadline, we thought we should discuss RRSPs and debt. Should you get into debt or invest? Or should you get out of debt and invest? With us to discuss this is Certified Financial Planner, Jason Heath.

Jason, thank you so much for joining us here today.

Jason Heath: Thanks, Ruth. Good to be here.

Saldanha: So, RRSPs are generally considered great investments for retirement, but should you get into debt or get out of debt and invest in RRSPs?

Heath: I think it sort of depends on the type of debt, depends on a few other factors. But if you have high interest rate debt like credit card debt, for example, paying 15% on your credit card and trying to invest in an RRSP and earn a better rate of return is difficult and I think can be a little bit counterintuitive. If your interest rate or your debt rather is low interest rate debt like a mortgage, for example, I think particularly if you are in a high tax bracket, for one; for two, if you are an aggressive investor or at least an investor that's not ultra-conservative; and I think if you have any sort of company match like a group RRSP or a defined contribution pension plan where your company gives you free money to contribute, those are all situations that would really tilt me towards contributing to some sort of a retirement plan over debt repayment. It doesn't need to be all or nothing and I think it's a matter of finding the right balance for the individual.

Saldanha: What are some of the debts apart from credit card that are high interest that should get priority over investment?

Heath: Yeah. Definitely, any sort of unsecured loan, student loans, often car loans, even secured line of credit debt can be at a higher interest rate than a mortgage these days. So, I think, in a lot of cases, you need to be looking at the type of debt you have. How much you have is even important. Even if all of your debt is mortgage debt, but you've got very little equity in your home and you've borrowed to the max, making RRSP contributions instead of paying down your mortgage can be a less than optimal choice. Sometimes having a balance sheet and having equity in your home can be comforting and important as well.

Saldanha: Another aspect of the debt and RRSP situation is, should you get into debt or borrow in order to invest in the RRSP.

Heath: Generally speaking, I would say, no. This time of the year, February, somebody gets an RRSP loan, they contribute to their RRSP and then they make RRSP loan payments over the balance of the year. My own bias would be towards just making RRSP contributions over the course of the year, the same way you otherwise would have made loan payments. There may be exceptions. For example, a situation where somebody is nearing retirement; they are in a high tax bracket and they have accumulated RRSP room, maybe they are expecting to downsize their home or sell a business or receive an inheritance, for example, and they borrow to make a big RRSP contribution and get a big tax deduction right towards the end of retirement. There's other situations and I think people need to look at it on a case by case basis. But more often than not, I would say I would not borrow to invest in an RRSP.

Saldanha: Finally, an RRSP is a great vehicle to actually reduce debt in certain cases. Could you run us through some of those?

Heath: Yeah. There's situations where you can avoid debt using the Home Buyers' Plan to buy a home or the Lifelong Learning Plan to pay for education. And particularly, if you were otherwise going to have to incur high interest rate debt or really have to scramble in order to make that home down payment or pay for education, taking money from your RRSP using the Home Buyers' Plan or Lifelong Learning Plan may make sense. The reason I say may is because if you're that strapped that the only source you have is your RRSP, you need to consider should I be buying this home, or should I be paying for this education. I think the other consideration is, a lot of times the Home Buyers' Plan and Lifelong Learning Plan are referred to as an interest-free way to borrow from your RRSP. Well, it maybe sort of true. You are not paying interest to borrow from the bank. But by not having that money in your RRSP invested, growing, earning a rate of return, you are kind of paying interest. You are not earning that rate of return. It's the opportunity cost of not having that money invested. So, there is a cost to using those plans and that should be considered.

Saldanha: Thank you so much for joining us with your perspectives, Jason.

Heath: Thanks, Ruth. Good to be here.

Saldanha: For Morningstar, I'm Ruth Saldanha.

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Ruth Saldanha

Ruth Saldanha  Ruth Saldanha is Senior Editor at Morningstar.ca