Ransack. Plunder. Pillage. It might sound dramatic, but these are the verbs people use to warn young savers off the idea of using retirement savings (RRSPs) to help buy a home.
This don’t-raid-the-cupboards mentality has been bolstered by a pair of unrelated but complementary events. One, the 2009 introduction of the supremely flexible Tax-Free Savings Account and, two, a decade of surging Canadian housing prices. As such, many planners and savers feel that the TFSA is a better investment vehicle than an RRSP when saving up for a down payment. In an uncertain housing market, it provides an easy saving option that isn’t depleted by the tax man. But I just don’t buy it. In almost every situation, raiding your RRSP consistently ends up being the better tool when saving for a down payment on a home. I’ll tell you why. But first bear in mind that I’m focussing on younger savers, who are just beginning their careers. This is the demographic that wrestles most with the TFSA vs. RRSP debate, but the arguments for using the RRSP apply to just about anyone saving for a home.
Focus on the big picture
In order to use your retirement savings for a home purchase you need to apply for an interest-free loan under the federal government’s Home Buyers’ Plan. Introduced in 1992, it allows first-time home buyers to withdraw up to $25,000 from their RRSPs to purchase or build a home, without having to pay tax on that withdrawal.
The argument against using the HBP is that you’re essentially robbing your future self of better investment returns (through the power of long-term compounding) to buy a speculative investment today. The assumption is the saver will need that money more in 30 years than today, when housing prices seem stretched beyond economic fundamentals. “Every money choice needs to consider the overall impact on both your current and future net worth,” says Ayana Forward, an Ottawa-based CFP with Ryan Lamontagne Inc. By taking a holistic approach to your finances you begin to see that raiding one cupboard won’t deplete all your resources. For instance, employers’ matching contributions to group RRSPs and a company pension can have a big impact on your future financial health, says Forward. The key is to consider all sources of income at retirement. “You may not need that initial $25,000 of savings when you turn 60, if your company has a pension plan,” explains Forward. But store that money in an RRSP (versus a TFSA) and you’ll get a tax refund, which is a great way to boost your down payment funds now.
Current finances are your priority
For young savers just starting their careers, the focus should be on short- and mid-term goals. “Things can change so quickly at this stage of your life,” explains Jason Heath, CFP at Toronto-based Objective Financial Partners. He suggests those in their 20s who have remaining tax rebates (such as tuition or student loan repayment credits) should start saving using their TFSA, to shelter their investment earnings from tax. Once they’ve built up contribution room they should withdraw this money, put it in their RRSP and take advantage of the extra money they get from the tax rebate. (Keep the money in your RRSP for at least 90 days before making a HBP withdrawal or you’ll be hit with taxes.) “Anyone earning more than $44,000 will really benefit from the savings boost that an RRSP tax rebate gives,” says Forward.
For example, if you invested $24,000 into an RRSP in 2014 , you would get nearly $7,400 back from the tax man. That’s money you could add to your RRSP for next year to get another rebate of $2,300. You would then have enough for a $27,000 down payment on a home (the HBP loan plus your second-year tax rebate) and more than $6,400 left in your RRSP, not including any investment gains that may have accrued.
Preach common sense, not tax avoidance.
Despite concrete reasons to borrow from your RRSP, there are still HBP detractors who believe the TFSA’s flexibility and tax-free withdrawals make it the better tool. The problem is, you can’t actually grow your money fast enough inside of a TFSA. “If you want the money in the short term, you need to invest it in a risk-free way,” says Forward, and this often means low investment returns. An example: Assume you put $25,000 into a high-interest TFSA. In the second year you could withdraw $26,010 (assuming a 2% annual return) without having to pay tax on the gains (saving you about $250). Not only do you end up with less money for a down payment than if you had stuffed it in an RRSP, you’d have nothing leftover in your retirement account.
What about opportunity cost? Planners use this term to emphasize what spending the money now will cost your future self. It’s all a bit speculative. “It’s not like you’re taking the money and spending it on a boat,” says Forward. “You’re buying a house—building equity, just in a different way.”
Ideally, you’ll use all the tools available—TFSA, RRSP, HBP—to maximize your down payment. But for a good portion of home buyers, the RRSP remains hands-down the single best way to do that.