Have you ever wondered whether it makes more sense to pay off your mortgage or to contribute to a registered retirement savings plan (RRSP)? Perhaps you’re expecting to receive some extra money from an inheritance or an employment bonus, and you’re not sure which route to take.
The truth is, there is no easy answer. There are many variables that must be taken into account. Concentrating on paying down a mortgage may be the best route for one person, while focusing on an RRSP may benefit another. Here are some factors to consider:
YOUR AGE – When you’re young, it may be wise to make your RRSP a priority. The sooner you get money into a sheltered retirement plan, the longer it will grow on a tax-deferred basis. But don’t overlook the need to build home equity. It can give you a head start on the expenses of moving to a larger home as your family grows. Extra payments on your mortgage can also lead to significant savings on interest costs over the long term.
YOUR INCOME. – The more you earn, the higher the rate of tax you’ll pay. That means you must earn more in before-tax dollars to make mortgage payments. If you’re a high income earner you may want to quickly reduce this expensive debt. This being said, higher tax rates also mean bigger tax savings from your RRSP contribution.
INVESTMENT RETURNS. – Pay attention to the rate of returns you could reasonably expect to earn on your investments when you contribute to an RRSP. Astute investors could be further ahead by investing their money than paying down the mortgage. The benefits of investing are magnified by an RRSP, with tax-deferred growth within the plan and tax deductions on contributions.
YOUR MORTGAGE RATE – If your mortgage rate is higher than your expected investment return on your RRSP, then paying down your mortgage may be prudent – especially if you expect borrowing costs to rise in the future. But if your mortgage rate is low, it may make more sense to contribute to an RRSP.
ARE YOU BEHIND ON YOUR RRSP? – If you have made less than your maximum annual RRSP contribution in the past, a lump sum contribution could allow you to catch up. You’re allowed to make up for unused contribution room that you’ve accumulated from past years– which can also generate a significant tax refund.
YOUR PENSION PLAN. – Those with generous workplace pension plans that provide for a secure retirement may be able to concentrate on a mortgage without giving up financial security in retirement. Of course, you can focus on both your RRSP and mortgage. For example, contribute to your RRSP and then apply the tax refund it generates towards a prepayment on your mortgage.
If you have any questions about whether to pay down your mortgage or contribute to an RRSP, please call me, I would be happy to help you.
Chuck Palmer CFP
Financial Consultant
Investors Group Financial Services Inc.
Tel: (250) 727-9191 Chuck.Palmer@investorsgroup.com
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