I have available savings of $10,000 which I can
contribute to my RRSP. Should I paydown the mortgage on my principle residence
or contribute to the RRSP?
Contributing to your RRSP results in an immediate saving in
the amount of your current income tax, while paying down your mortgage does not
result any immediate cash benefit.
However, in order to compare the above alternatives over a longer term we
need to know more about the return on your investments, marginal personal tax
rates and your mortgage.(for more information on RRSP see our RRSP newsletter)
What do mean by, ”compare the alternatives over a longer
term”?
The comparison can effectively be made any time in the
future. However, you should not select
a date in the future beyond 31st December of the year you turn (69)
sixty nine. The reason is you have to
collapse your RRSP by that date or transfer
it into a RRIF.
Why do you need to know about the return on my
investments?
In order to determine how much your savings or available
funds grow over the longer term, namely to the date you wish the comparison be
made, you should know the estimates annual return on your investments. To give you an example if your investments
grows at a compound rate of 6% per annum it will –approximately - double in 12
years.
What is my marginal tax rate?
Your marginal tax rate for each calendar year is the rate of
tax that applies to any additional income that you earn. The marginal tax rate depends on your annual
income for the year in question and, also, on the amount of the additional
income.
How does my marginal tax rate affect the comparison.
The greater your marginal tax rate the greater your tax
savings on your RRSP
contribution. Your marginal tax rate affects the comparison
at three different times.
When you make a contribution to your RRSP, during the period
of saving and your marginal tax rate at the time you have to collapse your
RRSP.
Why would information about my mortgage be pertinent?
It is obvious that paying down the mortgage when mortgage
interest rates are higher is better than when they are lower. For example if the period at the end of
which you wish to make this comparison your mortgage interest rate is a lot higher
the rate of return on your investments
inside your RRSP compared to another scenario when the mortgage interest rate
is lower, the same or a bit higher then it will make a big difference in your
decision to paydown the mortgage. It is
more likely that you would benefit when mortgage rates are a lot higher.
Doest the comparison date make
a difference?
Generally speaking longer periods
to your comparison date benefits savings inside the
RRSP as your investments
accumulate tax free inside the RRSP, therefore you benefit more from the
deferral of taxes. The taxes on the
earnings of your investments inside the RRSP effective work for you and
generate additional income, which otherwise would have been zero.
Is there a rule of thumb that
would help me make this decision?
No. As the factors you should consider are quite
a few there is no rule of thumb.
Because, most advisors cannot tell with some degree of accuracy which
alternative is better – contribute to your RRSP or pay-down your mortgage- they usually suggest that
Is there a program that will compare my RRSP to Mortgage?
Yes! There is an online utility available to compare if contributing to your RRSP or paydown your mortgage is better.
Click here RRSP vs Mortgage paydown
You may also purchase a full downloadable version from www.calcuware.com
