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RRSP Contributions vs. Mortgage Pre-Payments
With our heads swimming in financial duties and responsibilities, sometimes it can be hard to prioritize. The deadline to make contributions to your registered retirement savings plan (RRSP) for Canadians is March 3rd. The Globe and Mail puts forth the question, “Should you be contributing to a RRSP before you pay off your mortgage?”
The word “deadline” has a universal effect that has us swept up in the tailwinds of official protocol and ushers us to abide to a practice that is not mandatory. This leads us to forget our efficacy for choice, and dwindle our chances of weighing our options – thereby possibly not having your money well allocated. Financial experts say refrain from hastily making RRSP contributions, and instead pay off your mortgage – as quickly and comfortably as possible. Herein lies the path to a failsafe retirement plan.
Vice-president of research and standards for the Certified General Accountants Association of Canada, Rock Lefebvre, adhered to this strategy of eliminating consumer debt, followed by mortgage debt, before investing. His argument being, that unused RRSP contribution room is never lost, and can always be used in the future.
Mortgage or RRSP Contributions?
Of course, this option may be more suitable for some more so than others. For example, contributing to an RRSP is a better option for those who are currently in a high tax bracket, but anticipate being in a significantly lower one upon retirement. But in terms of tax advantage, an RRSP is just a tax deferral – paying the tax later instead of upfront. Paying of your mortgage early however, means the capital gains on your residence will be permanently tax-sheltered, says Cynthia Kett, a chartered professional accountant.
If the low interest rate on your mortgage is deterring you from being pro-active in making pre-payments, consider this: if you have a mortgage balance that will need to be renewed when it reaches maturity, you can expect that mortgage rate to climb up to 5 per cent in upcoming years. But, if you make extra mortgage payments, you not only reduce the principal amount of your next mortgage contract (saving you future interest), but also the tax you pay on that mortgage because it is calculated with after-tax dollars, and the rate is guaranteed. Compare this to the potential your RRSP could make in returns minus mutual fund charge fees, and in terms of returns, early mortgage payments could pay better.
In terms of financial flexibility, RRSPs are not very flexible. Once money is deposited, it is difficult to withdraw those funds before retirement. Paying of your mortgage on the other hand, reduces your monthly costs. With a homeowner’s line of credit, you can delve into your home’s equity to borrow at preferred rates, and once that debt is paid, you can borrow again.
In terms of risk assessment, everyone’s tolerance is different. For the affluent, maxing out your RRSP contributions makes more sense since they can afford the risk. For the young investor with dependents or unsure of their employment standing, even a little risk may be too much. In that case, it’s okay to be conservative and pay off your mortgage instead.
Whichever you decide, neither is truly a risk. Find solace in the fact that you are preparing for your retirement. Improving your financial security for the future is always money well-spent.
Source: The Glob And Mail
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