February 29th is the deadline for contributing to an RRSP for the 2023 tax year. But is taking on debt to invest a good idea?
Steve: Every February, Canadians face tough choices in advance of the Registered Retirement Savings Plan deadline. This year, with the cost of living being what it is, many are likely wondering if they can or should contribute this year at all. Let’s get some advice from Anthony Gordon. He’s a certified financial planner and author of “The Art of Retirement: The Canadian Guide to Retirement and Beyond,” and he joins us now here in our studio. Thanks for coming in. We know, for a fact, that a lot of young people watch this program, and for them, this RRSP season may be the first time any of them ever get an RSP. Let’s start with the principles. Tell us what it is and what it does.
Anthony: An RRSP is an investment plan registered with the CRA and provides tax benefits
based on income tax act. With tax deductions when you contribute to an RRSP, you receive a tax deduction, so that’s one of the benefits. The other is, with an investment plan, it’s tax-deferred until you withdraw it. Those are the two general benefits that we seem to talk about when we talk about RSP.
Steve: The idea is to put money in for a long time so when you retire, you take that money out and pay at a lower tax level.
Anthony: When you contribute, you usually want to be in an income bracket at a higher income bracket and pull it out for retirement, hopefully when you are in a lower income bracket.
Steve: We are having this conversation here on almost deadline day, the end of this month is the deadline. Are there, in your experience, risks to waiting to contribute, being one of those folks who do it at the last minute?
Anthony: If you contribute at the last minute, the challenge is you might not have put aside the amount you want to contribute, which is a potential for RRSP loans. And the situation here is you may be at the deadline and at this point, figuring out what I should do, straining, scrambling, and trying to grab monies from different areas.
Anthony: It’s a bit late for that advice this year because we are where we are. Generally speaking, you like people to have their act together much earlier before the deadline is at the end of the month. Typically, what I do is recommend that people do a pre-authorized check-in, so you contribute monthly over time, over a year, and towards the end, you’ll see if there’s any shortfall and contribute from that point.
Steve: Is that your experience? Most people you deal with kind of scramble throughout the year, and the end of February comes, and they’re still looking around what to do?
Anthony: Overtime, with a lot of my clients, they become much better with monthly
contributions, but when I did start working with clients, that was their experience.
Steve: Okay, compared to the last decade, interest rates, relatively speaking, are the highest right now. I’m a little older than you; they are nothing like what it was when I was your age. I remember the ’70s when it was 20 percent, kind of nuts, but where we are is where we are right now. How should that level interpret today? How does that affect what we do when we contribute to RRSP?
Anthony: From an interest rate standpoint, you have to look at where you receive the funds from and have to look at your overall financial situation because one thing is you contribute to an RRSP, but you have debt, so it’s a financial plan looking at the overall situation to determine if it makes sense to contribute to an RRSP or if you have debt with high interest rates, or even a mortgage which you are paying more towards than in previous years, you might want to look at if it makes sense or if I should look at paying down debt.
Steve: That’s a good point. With interest rates where they are today, you know, generally
speaking, everybody’s different. Would it be more sensible to pay down debt as opposed to RRSP?
Anthony: It depends on each individual situation. You want to take advantage of it, but over that year, if you incurred a certain amount of debt because of your research and situation, your certain situation, you might want to look at paying that debt down, especially if it is credit card debt, which is significant.
Steve: What’s the numbers on that right now? Around 18, 20 percent?
Anthony: 18, 20 percent.
Steve: It’s top priority. You mentioned a few minutes ago that some people will be considering actually taking out a loan to borrow money to put into their RRSP.
Steve: Absolutely, everybody’s different, but when is it a good idea to do that?
Anthony: It’s usually a good idea, in my assessment, when it’s a short-term loan, and what you want to do is let’s look at the situation now and see if, first of all, it has to be feasible, with the contribution limit, and that’s helpful. The second thing is if you are in a marginal tax rate, contributing makes sense. If you pass those two thresholds, you’ll say, “Can I contribute? Can I take a loan?”
Steve: You have to have the space to begin with.
Anthony: It has to make financial sense to contribute based on your income. $50,000 is usually that threshold.
Steve: Making $50,000 a year, and if you are over that, then it might make sense to borrow, even with an 6 or 7 percent interest rate?
Anthony: Here, where we have to look at, is even if it makes sense. You need to borrow an
amount that you will receive in your tax refund so that the tax refund essentially pays off that loan.
Steve: Gotcha. In which case it’s not quite free money but sort of free money.
Anthony: Say you take the loan in February, as you get your tax refund in March. You’ll probably have the loan for two months. And if you have a deferral, which a lot of loans offer, you probably carry it for two months, and when you receive the refund, you have to realize it’s a refund that’s… I was about to say, it’s not a sign from the universe that you can go on a trip to Jamaica. It’s because you had a plan in place for you to take that refund and to pay off that loan. There’s a human behavior aspect to this, but if all things…
Steve: Anthony, I’m guessing you raised that because you know people who have actually done that.
Anthony: 100 percent. We had the plan in place, but when the refund is actually hitting the account, you know, different things happen and take priority.
Steve: Are you allowed to give your clients hockey tips and buy a TV and pay off the loan?
Anthony: I’m not allowed to, but I try to book a time and calendar where we can anticipate when they have that refund to say, just a reminder, this should be hitting your account soon, so these are the things that we agreed we are going to do.
Steve: This is not found money; be responsible, pay down debt. So, there are circumstances you described where it doesn’t make sense to borrow to top up an RRSP. On the other side of the coin, when is it not a good idea to go out and borrow to top up your RRSP?
Anthony: Here’s the thing. You borrow money for an RRSP, and you carry that interest rate over a year or two. You hope that it does well, of course, but past performance and future performance… Here’s the thing, if you borrow and have the loan for a long time, it’s not deductible. And for whatever reason, your RRSP is not performing well, and you have a loan that is, say, prime plus, which is 7.2 percent, which is extraordinarily high, and it’s not performing well, then what does it create? Anxieties. And quite frankly, the world as it is, a lot of people are dealing with financial anxieties is one additional pain. So, what you want to do is not be putting yourself in that situation where you have interest that’s being carried out for a large investment that might not perform. And I know the goal is to invest in the long term, but still, it doesn’t prevent financial anxieties. So, have you got plans to whom you have said, you know, under certain circumstances I like borrowing to top up my RRSP, but not you. You shouldn’t do it.
Anthony: So we look, there’s a formula, actually. Let’s see if it makes sense or not. And even then, because the way I look at RRSPs, we have these tax vehicles, these financial vehicles. They are all part of a plan. So you look at your financial strategy generally from the standpoint, and you look at what you do and see if that fits within the plan. There are certain instances where when from a numerical standpoint it makes sense, not carrying the long-term loan, where you sit with an individual, they will provide an anxiety that doesn’t make sense to actually use that strategy. Which is where I think it’s not just looking at these things individually but looking at it as a holistic standpoint. Anxiety is a huge part of financial planning. Anthony: It’s a huge part of being human and where financial concerns are involved.
Steve: First-time homebuyers, they can use their RRSP savings to finance a home down
payment. So, how helpful is this vehicle in the interest of doing that?
Anthony: Here’s the thing. It’s a great vehicle if used properly. You have $35,000, which has to be paid over 15 years. Here’s the thing, again, I always tell clients from a holistic standpoint, it doesn’t make sense because it might get you to the finishing line, to purchase the home, but do we have enough buffer, heaven forbid, if you lose your job? If you have expenses that are emergency expenses that come up? And a lot of times we say, hopefully, it doesn’t, but we know how it turns out. Things happen, and it always happens, so you want to know that even if you are using it, that you have some buffer in addition to that. You don’t want to use that as okay, I’m barely getting there, and then six months in, you lost your job, and you’re in a vulnerable situation. You want to be able to look and see if it makes sense, again, given your circumstances, but it’s very helpful in certain situations.
Steve: Let’s finish up on this: Are there any ways RRSPs can help you before you retire?
Anthony: Okay, so RRSPs before you retire, you also have, if you are… you want to get a
university degree or a program, you can take from an RRSP. It’s treated as ordinary income, generally, and the exception is for the Home Buyers’ Plan or to fund higher education.
Steve: So it’s not just for the after-65 crowd that the money could be useful to you, it could be useful before that.
Anthony: And there are years where you could strategically, from a holistic standpoint, or you have an income standpoint in a lower marginal tax rate, if you took time off or you have lost a job, you can pull from that RRSP in the lower income years and transition that money and put it in, for a TFSA for example. You might want to do that because you may have done extraordinarily well with RRSPs, and you said you know what, the benefit is I’m in a lower bracket, from a strategic standpoint, I’m thinking about retirement because when you pull from RRSPs in retirement or if you convert it to a RIF, you might have benefits that may be affected depending on how much RRSPs you have taken.
Steve: I want to sneak in one more question. How well are we doing on that as a society?
Anthony: I think in the last couple of years, people have become more aware of it, and there’s more information. I think, generally, we don’t do enough as a society. That I spoke to high school students, I actually teach financial planning at a college level, and the thing I realize is so many basic things are just not known. Just like how they calculate cash flow or net worth, basic budgeting. We need to do a lot more, and it cannot be a one-off. Meaning, it’s great that you go in and talk once a year, but it has to be something as a curriculum, or it’s constant. It takes a while, and hearing it just once is not enough. It has to be part of a program where it’s almost institutionalized where we learn this in general.
Steve: You are so right. Anthony, thank you for coming in tonight.
That is Anthony Gordon, certified financial planner, and you can learn more in his book, “The Art of Retirement: The Canadian Guide to Retirement and Beyond.” Thank you.
Summary
In this discussion, financial planner Anthony Gordon discusses the Registered Retirement Savings Plan (RRSP) and its benefits for Canadians. RRSPs are investment plans registered with the Canadian Revenue Agency (CRA) and provide tax benefits based on income.
Contributing to an RRSP offers tax deductions and tax-deferred growth until withdrawal. The strategy is to contribute during higher income years and withdraw during lower income years in retirement. Gordon advises against last-minute contributions and recommends monthly contributions to avoid end-of-year scrambling. He also discusses the current landscape of interest rates and their impact on whether to contribute to RRSPs or pay down debt. Borrowing to contribute to an RRSP can be beneficial if managed correctly, considering individual financial situations and the potential for tax refunds to offset loans.
Gordon highlights the importance of holistic financial planning and addressing the psychological aspects of financial decisions. The discussion also touches on using RRSPs for purchasing a first home or funding education and emphasizes the need for comprehensive financial education.
