by GNANI
Often you hear the advice to contribute to your RRSP and then apply the tax refund it generates towards a prepayment on your mortgage or pay down other debts. Is it a good strategy?
Many people prefer to pay down mortgage or other debts, without analysing anything else. Does it make financial sense?
Yes, in my opinion, it does make financial sense.
Simply compare the interests or return that you are receiving from your RRSP investments with your mortgage or other credit card or loan interest rates. For example, if you receive a return or interest of, say 3% on your RRSP and you pay on your mortgage and other credit products over 3%, certainly paying off the debts as priority is advisable. Of course, in this example tax refund is ignored. In any case, it is not going to be significant, when you have high cost credit. Moreover, if you are forced to withdraw your RRSP at a later date to meet your credit commitments or otherwise, you will end up not only paying With Holding Tax but also other charges to the financial institution. It is not going to be beneficial to you. RRSP is always subject to tax calculation as income on withdrawal. You are not sure of this factor now.
Let us look at the situation in a different way. If the rate of return on your RRSP is consistently higher than the mortgage interest rate, you would have more money by paying the lower amount on your mortgage, and investing the difference in an RRSP. Is there any guarantee that RRSP return will consistently be higher than your mortgage and other debts interest rates? Basic principle of investment says that higher return means higher risks. In that case, are you prepared to take higher risks?
. If you compare in terms of after-tax return, to compensate4.2 per cent interest on your mortgage with your marginal tax rate of30 per cent, you have to earn more than 6 per cent a year on your investments every year.
Will you have better peace of mind, if you pay off your mortgage at a relatively younger age? Then consider that factor also in your decision making process.
Finally, it is recommended to seek a professional advice for your personal circumstances.
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Aritcles like these put the consumer in the driver seat-very important.
And to think I was going to talk to somenoe in person about this.
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