With RRSP season in full swing, some Canadians may be seeing promotions for specialized loans or lines of credit for catching up on unused contribution room in a bid to drive down their tax burden. But should you borrow to contribute?
“There are some people it makes sense for, but I would say proceed with caution,” said Shannon Lee Simmons, a certified financial planner and founder of the New School of Finance in Toronto. “It’s the exception, not the rule.”
RRSP loans are personal loan products that generally have more favourable fixed or variable interest rates than other loans, typically in the range of prime plus or minus 1 per cent. Repayment terms can range from one to 15 years. The loan is contingent on the borrower contributing to their RRSP, usually with the same financial institution.
RRSP lines of credit, meanwhile, operate in the same way as other revolving lines of credit, also usually with more favourable interest rates.
Both types of loan products are offered by banks and credit unions.
Ms. Simmons said that before she would recommend one for a client, she would want to see a very high income, which would translate to a higher rate of tax savings from an RRSP contribution and enough free cash flow to repay the loan.
She noted that people often erroneously believe their tax refund from higher contributions will pay off the entirety of the loan balance. But the tax impact of RRSP contributions is scaled to someone’s marginal tax rate: If someone were to contribute $10,000 to their RRSP and their marginal tax rate was 20 per cent, they would save $2,000 on their taxes; for someone at the highest marginal tax bracket, 53.53 per cent in Ontario, that contribution would translate to $5,353 in tax savings.
“Cool, you get a refund of $5,000, that’s awesome. But you have to repay the $5,000 left on the line of credit. And often, because interest rates are higher than they used to be, maybe that line of credit is sitting at 6 per cent to 9 per cent [interest],” she said. “How long are you paying interest on that?”
Aravind Sithamparapillai, an associate with Ironwood Wealth Management Group in Fonthill, Ont., said one question people should ask themselves before borrowing to contribute is why they didn’t or couldn’t make the contribution they’re trying to make up for. “For many people … if you couldn’t actually put that money away on a monthly basis, is adding a loan the best choice?”
Another consideration, Mr. Sithamparapillai said, is whether the expected return on their investments, net of fees, would justify the cost of borrowing – a hurdle that’s higher to clear with prime at 5.2 per cent. He also noted that it isn’t possible deduct the cost of interest when you borrow to invest in a registered account, unlike borrowing to invest in non-registered accounts.
Jason Heath, a certified financial planner and managing director of Objective Financial Partners in Markham, Ont., said that if someone has had a “one-time extraordinary” spike in their income, such as receiving a bonus, a severance payment or selling a rental property or business, the tax savings may make taking out an RRSP loan worthwhile.
Borrowing a small amount that can be quickly paid off is also one way for young people to build up their credit score, he added.
Suat Alaybeyoglu, director of unsecured lending at the Bank of Nova Scotia, disagrees that RRSP loans and lines of credit are exclusively useful for people in higher tax brackets. The bank has a line of credit that’s offered at a rate of prime plus one for new customers, with a slightly lower rate for existing customers.
“The main use case for the product is if you have contribution limit right now, you don’t have the cash flow to [contribute] but you want to do it because it’s advantageous for you and you’ll have the cash flow down the line to pay it down,” he said.
Scotiabank runs an annual RRSP line of credit preapproval campaign in the first 60 days of the year. The bank targets people with prime or above credit scores and “people who we think would benefit from the product.” Mr. Alaybeyoglu said the bank uses data from previous campaigns to optimize its targeting every year and sees a “good response rate.”
He said that while Scotiabank also has an RRSP loan, he thinks the line of credit is better given its payback flexibility and ability to borrow year after year without having to reapply.
“When we’re reaching out for this campaign, our balances go up a little bit, and Canadians are very responsible paying down their balances. People understand the purpose of the product, and most are using it appropriately,” he said.
CIBC has two RRSP loan products. Its express loan allows someone to borrow between $1,000 and $30,000, at a rate of prime minus 1 per cent for existing customers, with a one-year term. Its maximizer loan, for people who want to catch up on multiple years of contributions, allows people to borrow as much as $50,000, for either a variable rate of prime plus 1 per cent on a one-year term or as a fixed-rate term loan of 7 per cent for one year, 8 per cent for two or 10 per cent for any term of more than two years.
Jamie Golombek, managing director of tax and estate planning at CIBC Private Wealth, said the bank requires people to demonstrate adequate credit and income that’s high enough to pay back the loan.
“They’re really good, in my view, for short-term loans where someone wants to make that RRSP contribution by the deadline, they want to claim that on their 2024 tax return,” Mr. Golombek said. “You really want to try to pay back the rest of the loan as soon as possible.”
Still, he agreed that these are “niche” products – not ideal for everyone.
