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TEMPORARY Line of Credit Withdrawal for RRSP Contribution to Maximize Tax Refund

2K views 8 replies 7 participants last post by  cardhu 
#1 ·
Hi there. Sincere apologies as I KNOW this can't be a particularly novel idea, but in poking around I couldn't seem to find a good related discussion. Apologies (again) if I missed it on this site somewhere.

I have lots of carried forward RRSP contribution room. We have no debts and own our home. We have an existing non-secured line of credit. The current goal is to build up RRSP as I have no company pension and thus my income - and therefore my taxes owed - will definitely be a lot lower after retirement (whenever that comes to be).

Wouldn't it make sense for me to TEMPORARILY borrow from my LOC as much as would be required and contribute said funds to an RRSP to, if possible, get back all of the taxes that I paid for the year, IF I knew that my resulting refund would be sufficient to IMMEDIATELY and COMPLETELY pay back the LOC?

Sure seems to make a lot of sense, but then I'm left wondering what I may not be understanding? Which is why I'm here asking :)

Thanks in advance!
 
#2 ·
It would be great if it worked that way, and everyone would be doing it every year to build savings instead of paying taxes.

But.......the way it works is that you get a tax refund for the "tax reduction" that paying into the RRSP would create.

To put it into numbers........say you are in a 30% tax rate and contribute $1000 to an RRSP.

That would generate a $300 refund and you would still owe $700 plus interest on the line of credit.

Since you would have to repay the line of credit plus interest, and still have to pay taxes when you cashed in the RRSP (even at a lower rate), you would have to generate superior returns on the investment to make it worthwhile.
 
#6 ·
And... there you go. There's what I wasn't understanding. Makes total sense and also explains why everyone doesn't do this :)

Thanks a lot for answering what in retrospect seems like a pretty silly question.
It's not a silly question ... unless you knew in advance that the potential tax refund is a percentage of the contribution amount - requiring other sources of income to pay off the loan. ;)

The few times I have done this were:
a) when the RRSP loan interest could be deducted from income, which has since been gotten rid of.
b) a maturing GIC, soon to be paid bonus or looming overtime meant I'd likely have the funds to pay off most or all of the loan in short order.


Cheers
 
#4 · (Edited)
It can still make a lot of sense to do, depending on current and future tax rate projections.

If you contribute just enough to move down one marginal tax bracket, that savings will be realized across your entire taxable income so your refund would be more than the tax rate multiplied by the contribution. This assumes you had the correct amount of tax deducted at the source.

There is also some concern about building up an RRSP too much but it does not sound like you are anywhere close to this optimal limit.

Don't be so sure you will retire in the lowest tax bracket. Years and market forces have placed a lot of people in a higher retirement bracket than expected. It's a good problem to have but it can reduce or negate the advantages of the RRSP program.

You mention having no pension. If you are a contractor, you are unlikely to gain much benefit from an RRSP contribution and more likely to gain best advantage working on a TFSA. This will vary with your personal situation but it is a broad generalization you may wish to investigate.

Lastly, as sags pointed out, your ability to grow the contribution will have a lot to do with the value of the contribution. If you cannot keep up with inflation and you have many more years before retirement, much of the future value of the contribution will be eroded. In these cases, the best use of cash is often debt reduction over savings.
 
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#5 ·
Essentially you are talking about an RRSP Loan of sorts, correct?

I dont think its a bad idea, if you put your refund down against the LOC and pay down this loan aggressively (and dont incur more interest expenses than need be)

Perhaps you can reduce your interest expense by switching to a secured line of credit vs non secured and make this even more advantageous for you.
 
#8 ·
drb68 … although your initial understanding of how the tax refund is calculated was flawed, there could still be some merit to borrowing to fund the RRSP. Your plan to start building up the RRSP is spot-on, as the RRSP will almost certainly be the most tax-efficient product you’ll ever see in your lifetime.

You don’t mention your age, but you own your home outright, and have lots of carried forward RRSP contribution room, so I’ll go out on a limb and guess that you’re not under 25. I’m guessing that with the house fully paid for, you now have some amount of free cash flow that you could direct toward retirement savings … some folks would argue that you’d be better off just doing that, forego the RRSP loan and just start making monthly contributions instead … I am not usually one of those folks … mathematically, it is often better to borrow and front load the RRSP, especially if you are in a position to deduct the entire amount of your front-loading … BUT … and this is a big caveat ... it hinges on what you invest in, and the rates of return those investments produce going forward … we’ve just come through an extraordinary bull market … so now may not be the right time to make a massive lump sum bet.

But on the other hand, you don’t want to continue to delay RRSP contributions any longer … you’ll only get further and further behind the 8-ball as your backlog of carried forward RRSP contribution room continues to balloon … so if I were in your shoes (based on the admittedly scant information you’ve provided), here’s what I would do … figure out how much it makes sense to contribute in the next 10 days, so that it’ll be deductible against your 2021 income … then, if you have an existing TFSA with that much, you can choose to either draw from TFSA to make that RRSP contribution, or borrow to make the contribution … this isn’t the best time of year to make a large TFSA withdrawal, because you have to wait a full 10+ months to recontribute that amount, but it is an option.

As far as the source of a loan goes, Gumball is correct that a HELOC would offer a better interest rate for borrowing, than an unsecured LOC, but timing-wise, it might not be possible to arrange a HELOC in time to make a contribution by March 1, for the 2021 tax year. Another alternative may be an “RRSP Loan” from a lender associated with whatever brokerage you use. These used to be available at prime rate … not sure what they’re offering now. Either way, just make sure that (1) you use your refund to pay down the loan, and (2) you can handle the payments out of your regular cash flow.

I wouldn't attempt to reduce your total tax for the year to ZERO ... that's not usually an effective use of deductions ... but without knowing more about your situation, its hard to suggest a reasonable amount to contribute ... if you're comfortable sharing a bit of info (province, your income, spouse's income), we can provide some feedback on that ... you'll get some divergence of input, but at least you'll have a bit more info which which to move forward.

If one of you has a higher income than the other, it might be beneficial to use a spousal RRSP. There are past threads on the subject of spousal RRSPs, if you're not sure what that is.

Lastly, you’ll occasionally hear about RRSPs getting “too big” … that’s mostly mythology, it’s very rare for that to happen in the real world … so no need to worry about that.
 
#9 ·
TomB16 said:
If you contribute just enough to move down one marginal tax bracket, that savings will be realized across your entire taxable income so your refund would be more than the tax rate multiplied by the contribution.
Uh, that’s a hard no … that’s not how income tax works … the tax break is calculated exactly as sags has presented it, with the addition that if the deduction happens to cross bracket boundaries, the calculation would be pro-rated across multiple marginal rates … but the tax break is NEVER more than that amount and never applies to one’s entire taxable income.

TomB16 said:
Don't be so sure you will retire in the lowest tax bracket.
The OP said “lower”, not “lowest” … but in any event, there’s nothing magical about retiring in the lowest bracket … the RRSP can be massively advantageous even when one retires one, two or three brackets above the lowest bracket.

TomB16 said:
Years and market forces have placed a lot of people in a higher retirement bracket than expected. It's a good problem to have but it can reduce or negate the advantages of the RRSP program.
It is extremely rare for the advantage of an RRSP to be “negated” … not quite as rare as a unicorn, mermaid or centaur, perhaps … more along the lines of a saola or pangolin … a handful may exist in the real world, but most people will never lay eyes on one, as long as they live.

As for “reduction” of advantage, I’m not sure why that would be framed as if it were a problem … the magnitude of advantage that an RRSP produces is not only different for every person, but even for a specific individual it varies with every action they take throughout their life … in other words, it is a continuum ... RRSP doesn't need to deliver the highest conceivable advantage … it only has to be better than the alternative … like an encounter with a bear, you don’t have to be the fastest human being on the planet, you only have to be faster than the guy next to you.



Eclectic21 said:
The few times I have done this were:
a) when the RRSP loan interest could be deducted from income, which has since been gotten rid of.
I think you’re mis-remembering … I don’t believe that has ever been true.
 
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