RRSP Contribution vs Pay Down Your Mortgage… Do the Math!

With the RRSP contribution deadline fast approaching, the age-old question comes up: should you contribute to your RRSP or pay down your mortgage? We all know what the big banks want you to do: contribute to your RRSP. I’m sure it has nothing to do with Barry the banker receiving commission from the bank’s high-fee mutual funds.

The banks do everything possible to steer you in that direction. Although some banks like TD Bank have gotten away from “banker’s hours,” many banks still are still open for business Monday to Friday, 9AM to 5PM. The one exception is the RRSP contribution deadline. The RRSP deadline is set to be at the end 60 days into the new year; if the RRSP deadline falls on a weekend, it’s moved to the first business day. Confused? You’re not alone.

The RRSP contribution deadline this year is March 1, 2018. For those that wait until the last minute to contribute to their RRSP, it’s a mad dash to the finish line. To make thing easier, the big banks are open extended hours on RRSP deadline day. While it may seem like they’re doing you a favour, it’s often more about encouraging you to buy their mutual funds (which are very rarely a good investment when you consider the options).

The current low interest rate environment has many people wondering whether it makes sense to contribute to their RRSP or pay down their mortgage. Here are three things to consider when making the decision:

Similar to investing, it’s important to consider the tax implications. Here’s a simple concept to wrap your mind around: whether you pay down your mortgage or contribute to your RRSP, you’re using after-tax dollars. Let’s say your marginal tax bracket is 30 percent. That means when you earn $1, you’re left with 70 cents after the taxman takes his cut.

What’s the big deal about RRSPs? When you contribute to your RRSP, you receive a tax refund (30 cents in the above example). That big fat juicy refund represents the taxes you’ve already paid to the taxman. The higher your marginal tax bracket, the more it makes sense to contribute to your RRSP.

Unless you win the lottery or your rich uncle passes away and leaves you his fortune, you’ll have to decide between contributing to your RRSP or paying down your mortgage. The old axiom, don’t put all your basket, holds true when it comes to real estate. Many homeowners find themselves house rich and cash poor. Although the housing market has been booming for over a decade, it has to slow down at some point. If the housing market goes into correction territory and falls by 30 percent as the Bank of Canada has suggested, many first-time homebuyers will find their mortgages underwater. With buyers taking on bigger mortgages than ever to buy their dream home, you might not pay off your mortgage until right before retirement. That’s why it’s a good idea to diversify and contribute to your RRSP. If you want the best of both worlds, consider using your tax refund as a lump sum payment on your mortgage and reach mortgage freedom even sooner.

Interest Rates
Even though your father may be a letter carrier or a welder, many adult children turn to their parents for financial advice. The old school mentally is to pay off your mortgage as quickly as possible.. Our parents still remember during the early 1980’s when prime rate reached a high of 22.75 per cent – that’s higher than most credit card interest rates, folks! Many homeowners walked away from their homes in tears.

If you think mortgage rates are going up, it makes sense to pay down your mortgage while rates are still low. The problem is the so-called experts have been saying rates are heading higher for years. 22 economists made a prediction about the overnight lending rate in January and not one predicted the Bank of Canada would cut its overnight lending rate to 0.75 percent. I’m not saying you should pay the minimum on your mortgage and take 30 years to pay it off, but what I am saying is that it’s important to sock away money for retirement. Most people don’t have a company-funded defined benefit pension plan waiting for them in their golden years.

If your investment expertise is strong and your tax bracket is then you may even want to increase your mortgage to catch up on all RRSP room, but I will cover that off another time! Until then – we remain committed to helping you achieve your financial goals!

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