As a newly minted "banker" the first loan I ever wrote back in 2005 was an RRSP loan. I was just a telephone banker at a major bank’s call center and it happened to be "RRSP Season" just as I finished my training, so after being briefed on what an RRSP is, I learned there’s this magical way of making RRSP sales appear out of thin air by doing an RRSP loan.
At the call center our sales were recorded by quantity, so having one customer do an RRSP loan, open a new RRSP, and purchase a couple of GICs within the RRSP was enough to take care of a half day’s quota.
What I’m getting at with my slight against the banks and their omnipresent sales culture is that for the most part RRSP loans are nothing more than sales tools. A sales catalyst, so to say, to help make "money in" sales just like car loans help dealerships sell their inventory.
RRSP loan rates also tend to be very low, to the point where banks make very little money on them. But should you really borrow money to fund your RRSP?
What is an RRSP loan?
Generally, the big banks offer two types of RRSP loans. For one year terms you can borrow up to the statutory annual RRSP limit ($26,500 for the 2019 tax year), typically at prime rate, and you’re approved on the spot simply by having a pulse and a credit score above 650 (that cut-off might vary, but that’s what it was in my time and place).
The banks usually give a three-month or so payment holiday before you need to start making payments, but then it’s usually expected you make a large repayment with your tax refund and pay off the rest over the following 9 or so months.
If you’re looking to catch up on previous year RRSP contribution space with a larger contribution and/or want to pay the amount back over a multi-year period, a more standard multi-year loan at a slightly higher interest rate can be applied for, but these involve a full credit application.
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Is an RRSP loan worth it?
RRSP loans are a great tool to help drive RRSP sales and when you really need them, they’re there. Since I became an actual accredited financial planner though and started giving real advice, I’ve found the use of RRSP loans to be pretty rare in my practice.
Good planning has you putting money into your RRSP on a regular basis through a monthly preauthorized contribution (PAC), or if cash flow restricts you from making RRSP contributions with your own money, prioritizing your spending/saving/debt repayment goals in the most prudent manner.
In most cases, if a client can’t afford to top up their RRSP, usually they’re in a lower income tax bracket and don’t benefit that much from the contribution anyway (or can wait till future years to get more aggressive about their RRSP).
Maybe they really should just devote more money toward their mortgage to free up cash flow in the future, or maybe the TFSA should be their priority anyway. (As far as I know, there are no TFSA loans.)
When an RRSP loan makes sense
In the past decade, I can count on one hand the number of RRSP loan applications I’ve done for clients, and it’s always a case of a high income earning client, who really benefits from the RRSP contribution as they’re in one of the highest tax brackets, needing to contribute but otherwise being cash strapped due to ongoing debt repayment.
An example might be a newly practicing physician, whose high income goes largely toward paying off student loans, leaving not much else to maximizing RRSP contributions. Or business owners with high taxable incomes but limited personal cash on hand.
Those are literally the clients I’ve done RRSP loans for in the past decade, and usually just for one year, after which we set up PACs to take care of their contributions in the future. Basically, RRSP loans aren’t useful for most people.
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The difference between financial planning and what they do at the bank, I guess, is that a financial planner will assess your overall situation and determine if an RRSP loan is truly in your best interest in the long run, whereas at the bank it’s "sure, we’ll lend to you at 4% so that you can put some money into a GIC at 2% for the purpose of reducing the amount of tax you pay at the 25% marginal tax rate. Whatever makes us money.”
In my previous post on RRSP mistakes, I mention that one major mistake that people make is making RRSP contributions in the first place. The banks, especially through their RRSP loan programs, do more to engender unnecessary RRSP contributions, simply for short term tax gain, than to dissuade them and cause people instead to think of the big picture.
Is an RRSP loan worth it? The answer to the question is no. Most of the time you shouldn’t borrow money to fund your RRSP. Take a look at your cash flow first, and try to free up some room in it to make regular contributions to your RRSP through a PAC. That is, after you first determined whether an RRSP is beneficial at all over the long term, which it usually isn’t if your tax rate might be higher in retirement than it is now.
Markus Muhs, CFP®, CIM® is a portfolio manager at Canaccord Genuity Wealth Management, located in Edmonton, Alberta. He provides comprehensive financial planning and wealth management to families with assets over $300,000 across Alberta, British Columbia, and Ontario. Markus alternatively provides fee-for-service (fee-only) financial planning to non asset-based clients.
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