Borrowing to contribute to RRSP

Two and a half weeks left! Yikes. The RRSP needs feeding and the cupboards are bare. What to do? If you have good credit, equity in your home and\or reasonable non-mortgage debt compared to your income, an RRSP loan is a no-brainer. Maybe, maybe not.

My response to the value of RRSP loans is always the same; on paper they can make financial sense but in reality I rarely see any true benefits. In pursuit of avoiding income tax, people invariably fail to look at the full picture, i.e. what lurks beyond the refund.

If you can satisfy the following four ifs then I will grudgingly agree that an RRSP loan could put you ahead.

1. If you’re going to pay income tax. A surprisingly number of those with little or no taxable income, but equity in their home and good credit, borrow to contribute. No question, the higher your tax rate the more the strategy is appealing but don’t forget, unlike other investment loans, you can’t deduct the interest levied on the borrowed amount.

2. If you don’t have other non-mortgage debt. It makes little sense to take out an RRSP loan with loan balances outstanding, especially on bank or retail credit cards with interest between 8 and 30 per cent.

3. If you’re disciplined enough to take the whole tax refund and pay down or pay off the borrowed amount. Promises to yourself in February can evaporate remarkably quickly when the refund cheque arrives.

4. If you can invest the money wisely. This is the biggie. Even though you may be able to borrow at a low rate of interest and reduce your taxes payable, there is more pressure on borrowed money to perform than money you’ve saved. Aside from anything else, borrowed money often encourages us to make riskier investments in order to earn back the interest paid.

If you can say yes to the four ifs, take a look at the Credit Canada RRSP loan calculator at creditcanada.com/financialtools.asp to see how the strategy might work for you.