We all want to save money. However, after paying the mortgage or rent, buying groceries and covering childcare and car insurance each month, you may be finding it really hard to stay on track with savings. If you lost your job in 2020 because of COVID-19, you may have had to tighten your belt even more.
While it is good to cut costs where you can, skipping your Registered Retirement Savings Plan (RRSP) contributions isn't the answer. If you're lacking the funds to max out your RRSP contributions this year, consider an RRSP loan. An RRSP loan is money you borrow from the bank that you funnel directly into your RRSP. This money will not be taxed until you take it out of your RRSP, which will hopefully be when you retire and in a lower tax bracket.
It seems like a strange proposition, but if you do the math, it actually makes a whole lot of sense. Take a look at this hypothetical example —while keeping in mind that actual amounts in question will depend on current interest and tax rates.
Let’s say you live in British Columbia and earn an annual salary of $90,000. Assuming you make no deductions, you’ll pay $13,295 in federal income tax and $5,373 in provincial income tax. But if you maxed out your RRSP contribution limit at 18 per cent of your income, you’d only be taxed on $73,800, which would lower your federal tax bill to $9,975 and your provincial sales tax bill to $3,885. This would leave you with a tax refund of $4,808, which you can put directly towards the loan.
If you borrowed your maximum contribution amount on a $90,000 salary ($16,200), your $4,808 refund would be 29 per cent of the loan paid off in one shot. So then you’d have just $11,392 in principal to pay back.
The beauty of an RRSP loan is that it commits you to putting money away for your future every month — you have to make the monthly payments on the loan or face penalties. But the upside is that you’ll have already reaped the benefits because the lump sum is already in your RRSP and getting bigger every year. For those of us who have a hard time committing to putting money away regularly, an RRSP loan can be a great solution.
The challenge of saving money is that we often end up splurging on something with our potential savings and then pledge to save more next month. This is a tricky pattern to get out of.
An RRSP loan can help you get in the habit of putting the money away. One of the easiest ways to do this is by setting up automatic deductions that go straight to your loan. You can easily set up an automatic savings plan so as soon as your paycheque is deposited, your loan payment is automatically deducted so you don’t even have to think about saving.
We all have goals but starting can be the hardest part. Contact our Member Advice Centre or email us to speak to an advisor to find out if it is the right fit for you — it could be that head start on savings you’ve been looking for!
Using borrowed money to finance the purchase of securities involves greater risk than purchasing using cash resources only. If you borrow money to purchase securities, your responsibility to repay the loan and pay interest as required by its terms remains the same even if the value of the securities purchased declines.