This week, a letter from Marielle and her spouse, Luc. “I am 62 years old and my spouse is 63 years old. I plan to retire within two years while my spouse would like to work until he is 70 years old. His annual income is $185,000 per year. We currently have $80,000 in cash on hand and we are [demandons] whether it is more appropriate to use this amount to contribute to our RRSPs (registered retirement savings plan), and even pay off our RAP balance (home buyers’ plan) on an accelerated basis, or to apply a portion amount to our mortgage. »
In theory, it is better to maintain your savings, despite the rising cost of living. Consequently, if you are tight, the ideal is to reduce your discretionary expenses in order to be able to save while repaying your debts, such as the mortgage. Marielle and Luc’s question requires some additional thought, as they used the RAP program later than average in their working lives. They tell me that they have a cost of living of $9,000 per month, plus a monthly mortgage payment of $1,500 with a variable rate of 5.85%. Their risk tolerance profile is high, their portfolio being 80% invested in growth stocks.
Is reimbursing the accelerated RAP more profitable?
Using the Home Buyers’ Plan (HBP) to buy a home affects the capital available at retirement in two ways. On the one hand, it decreases the capital generating tax-sheltered returns. On the other hand, HBP repayment also limits the cash available to make new RRSP contributions, which are more tax efficient. In fact, reimbursements under the HBP are not considered an annual contribution and do not give rise to a tax deduction.
This is the reason why, for the majority of users of this program having little liquidity, it does not make sense to accelerate the repayment of the obligatory annual balance. Remember that the majority of taxpayers do not contribute enough to their RRSP. An exception to this basic rule could be the case of new buyers who are certain that their taxable income will increase in future years. Receiving an inheritance also represents an opportunity to accelerate this repayment.
Short term and long term, two dimensions to consider
Excellent reflex from Marielle, therefore, to want to use the short-term inheritance to repay the HBP. Their plan would be to pay off the HBP balance owed on an expedited basis, approximately $19,000 each. Then, with the remaining amount, to catch up on their RRSP rights — $10,000 for Marielle and $30,000 for Luc — or to reduce their mortgage balance.
Sometimes a winning strategy in the short term is not so in the long term. Indeed, it is true that by reimbursing their HBP immediately, they increase the capital generating non-taxable returns. However, the most important question is first of all whether they will have the funds available to contribute to the maximum of Luc’s RRSP rights by the time he retires. With a salary of $185,000 taxed at a marginal rate above 50%, it is probably more strategic to maximize RRSPs than to pay off the HBP on an accelerated basis.
And, depending on the cost of living mentioned and the income available for Marielle’s retirement, getting there each year may require a lot of discipline or new budgetary choices. A budget review exercise adapted to their new reality seems to me to be an essential step in establishing priorities.
Assuming that Marielle and Luc do not repay the HBP more quickly, what to do with the amount available after catching up on the RRSPs? The 2023 RRSP contribution could already be made and the rest of the money be temporarily invested in the TFSA (tax-free savings account) for future contributions. It is obvious that, if the budget revision for retirement makes it possible to maximize Mr.’s RRSPs each year, the balance of $40,000 should be used to reduce the mortgage balance in anticipation of retirement.
Beware of Madame’s legacy
As nothing is ever simple, all these questions stem from the fact that Marielle received a family inheritance. Whether a couple is married or living in a common-law relationship, the inheritance always belongs in theory to the person who received it. But in practice, the way it will be used for joint finances can complicate the situation if the couple breaks up.
It is obvious that if the couple chooses to allocate the sum received, certain precautions are necessary. For example, in the case of a married couple, since RRSPs are part of the family patrimony, the use of the capital received as an inheritance poses fewer problems, since RRSPs are already divisible. If Marielle and Luc live in a common-law relationship instead, they could benefit from tax efficiency by using a joint RRSP in Madame’s name to achieve their goal while protecting her.
Assigning an inheritance to the mortgage balance or the reduction of a line of credit could require more complex calculations in the event of a relationship breakdown. Do not hesitate to consult a legal adviser – and take advantage of it, as a result, to adopt a cohabitation agreement – and, at the very least, to keep records of these decisions and financial transactions between spouses.