Back in the early 1900s, Grandpa Jack (my brother-in-law's grandfather) decided to move to Ethiopia as a missionary. There were no dentists in that country at the time, so his dentist advised him to have all his teeth removed before leaving. So, at the age of 21, Grandpa Jack proceeded to have all his teeth pulled, to make room for dentures. The story is funny enough right there. But the best part is that, just a couple of weeks after having his teeth removed, Grandpa Jack decided not to go overseas after all. Oops. I know that he lived with regret every time he got indigestion as a result of not being able to properly chew some foods.
When it comes to your retirement savings, don't live with regret later. Take steps today to ensure you have sufficient savings to make ends meet in retirement. For those who don't have a pension plan at work, your registered retirement savings plan (RRSP) should form a key component of your retirement savings. Your RRSP will also allow you to defer tax – one of the pillars of tax planning that I've been writing about recently. The deadline for making 2017 RRSP contributions is March 1, 2018. If you don't have the cash to make contributions, consider borrowing. Today, let me share some pointers around borrowing for this purpose.
Pay the loan off quicker
It can make a lot of sense to borrow to boost your RRSP savings. Yet, it also makes sense to minimize your interest costs when borrowing (interest on loans to invest in an RRSP is not deductible). How? By paying off your loan quicker. You can do this by using your tax savings (which often comes back as a tax refund) from your RRSP deduction to pay down the loan. If you're also contributing some of your own money, in addition to borrowed funds, consider the following example to determine the amount to borrow to pay off the loan in full with your tax savings:
Susan will contribute $5,000 of her own money to her RRSP. She wants to increase her contributions by borrowing as well, and wants to pay off her loan in full with the tax savings from her RRSP contributions this year. So, Susan will borrow $3,900 and contribute that amount to her RRSP along with her own $5,000, for total deductible contributions of $8,900 before the RRSP deadline. Assuming she has sufficient RRSP contribution room, this will save her $3,863 in taxes in 2017, expected to come back as a tax refund this spring, which will be enough to pay off her loan almost entirely.
How did Susan figure out the amount to borrow to create tax savings to pay off the loan? She used this ugly formula: 1/MTR - 1 (where MTR is her marginal tax rate). Susan's MTR is 43.41 per cent (I used Ernst & Young's 2017 online tax calculator to figure this out), so the ugly formula provides the following result: 1 divided by 0.4341 is 2.304, subtract 1 equals 1.304. Susan contributed $5,000 of her own money to her RRSP, so take $5,000 and divide it by 1.304, and the answer is $3,834 – the amount Susan will borrow (she's rounded it up to $3,900). Her refund this spring will help her to pay off this loan almost entirely.
Make your interest deductible
If you have investments outside your RRSP, you might consider contributing some of those securities to your RRSP as a contribution in-kind. Then, consider borrowing to replace the investments outside your RRSP. This way, the interest on your loan will be deductible (since you'll be using the borrowed money to earn income in a taxable account). You'll be entitled to a deduction for the market value of the assets contributed to your RRSP, assuming you have sufficient RRSP contribution room.
Some things to keep in mind here: First, you'll be deemed to have sold those investments you transfer to your RRSP, so you might trigger taxable capital gains if they've appreciated in value. Having said this, your RRSP deduction will more than offset the taxable amount in this case. And if the investments have declined in value, your loss will be denied when you transfer the assets to your RRSP, so you'd be better to sell those assets first, then contribute the cash to your RRSP, which will allow you to claim the capital loss. If you do sell your assets at a loss, be careful not to reacquire those same securities inside or outside your RRSP within 30 days of your sale, otherwise the superficial-loss rules will kick in to deny the loss.
Tim Cestnick, FCPA, FCA, CPA(IL), CFP, TEP, is an author, and co-founder and CEO of Our Family Office Inc. He can be reached at firstname.lastname@example.org.