Have you made your RRSP contribution yet? This year’s deadline is February 29th, so don’t wait too long. Contributing to a Registered Retirement Savings Plan (RRSP) can have a major impact on your financial situation, saving you hundreds on your annual tax statement. And that’s just the beginning! Budget-savvy individuals will also enjoy the long-term growth of their investment.
Unfortunately, finding the money to invest in an RRSP isn’t always easy. According to a recent report from the Investor’s Group, it’s estimated that nearly 58% of Canadian’s won’t invest in their RRSP this year because there simply isn’t enough money left after paying for basic living expenses.
If you’re struggling to make ends meet, now’s the time to consider a cash back mortgage or an RRSP loan. Both will help you free up extra capital to cover expenses, but in very different ways. Here’s what you need to know in order to make a well-educated decision.
1) The Benefits
Cash Back Mortgages
- Cash back mortgages offer relatively low monthly payments. This is because the amortization period of the mortgage is usually quite long.
- Most cash back mortgages compound on a semi-annual bases, whereas RRSP loans often compound monthly, which can be slightly more expensive.
RRSP Loans
- You can often borrow more from an RRSP loan, depending on the lender.
- If you break an RRSP loan, there’s no clawback of cash to worry about.
2) The Big Difference – Interest Rates
Rates on RRSP loans can be quite high: between 3 to 7% depending on your lender, loan size, qualifications and term. That’s roughly $200 to $550 per year for every $10,000 you borrow.
Cash back mortgages, on the other hand, feature rates that are usually 0.40 to 2.0% higher than posted fixed mortgage rates. The actual rate will depend again, on the lender, the term, and the requested amount of cash.
Note: Despite a higher-than-normal mortgage rate, cash back mortgages actually offer a very low effective rate. This is because the lender is providing you with the cash upfront (this effectively reduces your overall borrowing costs).
Things to Remember
When considering financing options, remember that RRSP loans are intended as short-term fixes. Otherwise, the cost of borrowing from your investments will eat up any gains. RRSP loans also require strict discipline. Most terms will require that you pay back the borrowed amount, plus interest, within 1 to 3 years, depending on the rate, RRSP return and various other contributing factors.
If you’re trying to figure out if borrowing from your RRSP is worth, remember:
- Always compare the interest cost to your potential gain. This gain should include both the RRSP tax deduction and your projected investment growth.
You also need to think strategically when it comes to using this borrowed money. Financial advisors recommend using an RRSP loan to:
- Tackle high-interest debt.
- Borrow to contribute: either repaying your RRSP loan (this will help lower your interest expense) or using it to make an RRSP contribution for the current year.