Catch-up loans make sense if you have RRSP room

By Jonathan Chevreau, Financial Post

 

It was front page news recently when BMO's five-year mortgage rates dipped below 3% for the first time in its 190-year history. other banks followed with similarly sweet deals: RBC offered a four-year special 2.99% fixed-rate mortgage and a 3.99% rate on a seven-year term.

When a week later the Bank of Canada held the line on interest rates, it should have been clear these historically good times for indebted homeowners may continue for some time.

But is it an equally auspicious time to borrow to maximize retirement savings plans?

RRSP "top-up loans" are available for up to $22,000 to maximize this year's contribution, for those who lack the cash. The idea is to repay a big chunk of it with the resulting tax refund come April, then pay off the rest over the next six months, in time to start the cycle again a year from now.

But there's a bigger opportunity if you're among the many Canadians with tens of thousands of dollars in unused RRSP contribution room built up over previous years. Consider "catching up" with RRSP catch-up loans.

Most banks will happily lend good customers $50,000 or even $100,000 for the noble purpose of padding retirement accounts.

Unlike borrowing for non-registered (taxable) portfolios, interest on rrSP loans is not tax deductible. But if you believe the combination of reasonable stock valuations and low interest rates is compelling, it's worth considering. Even if you contribute the whole amount you don't have to deduct it all this year: you may want to deduct some of the contribution in future years if you're in a higher tax bracket.

Apart from the large tax refund RRSP catch-up loans may generate, there is potential for this investment to grow over time. Uncertainty in financial markets has kept a lid on stock prices. Financial educator Talbot Stevens says data since 1956 shows that when the Canadian market is down at least 10% one year, as in 2011, it often rises more than that the next. Borrowing to invest is safer when markets are down. But if you borrow for your RRSP, avoid the temptation to spend the refund: pay off the loan and/or re-invest the refund into the following year's RRSP contribution.

Under certain circumstances, RRSP borrowers can get rates al-most as low as their mortgaged counterparts. John Turner, national director of specialized lending for BMO Financial Group, says customers can get RRSP loans with rates as low as its prime rate of 3% if they invest in BMo products. If investing in non-BMO products, it's prime plus half a per cent, or a total 3.5%.

note that these are variable-rate loans so it's not quite analogous to the 5-year fixed rates of 2.99% homeowners are enjoying. "Given this rate and refund environment, most customers are opting for the variable rate," Turner says. It's not a requirement but most pay off their rrSP loans right away, he adds. These loans are fully open, with no restriction on repayments: payments can be bumped up or lump sums can be applied to pay down some or all outstanding balances at any time.

But what if you choose a larger catch-up loan that requires several years to repay? It would be nice to pay only 3% on a variable-rate loan but what if you believe rates will start rising in two or three years? Can you lock in an RRSPloan at a low rate that can be repaid over five years, just like homeowners? Yes, but at BMO the rate is quite a bit higher if it's an unsecured loan: a whopping 9% unless the loan is backed by real estate or non-registered investments. In that case, investors could get the same 2.99% fixed-rate over five years as homeowners.

The problem with straight mortgages is they have less flexibility if reborrowing. An alternative is BMO's HELOC (Home Equity Line of Credit), which it calls Homeowner readiLine. This lets you borrow both variable and fixed in a single instrument, which Turner likens to "dollar cost averaging for mortgages."

For small loans of $10,000 or $15,000 to be repaid in two years, Turner says it makes sense to go with variable at prime or prime plus a half. For such a short term, the security of opting for a fixed rate isn't worth it. rates are a bargain currently and the market some-what depressed.

Scotiabank's catch-up loan lets you repay over 15 years and lets you defer three monthly payments. CIBC's RRSP Maximizer Loan lets you borrow over terms of one to five years. At TD Canada Trust, RRSP loans start at prime plus 1% to prime plus 1.5%, says associate vice-president personal lending Shahz Beig.

not everyone is keen on RRSP loans. Jeffrey Schwartz, executive director of Consolidated Credit Counseling Ser-vices of Canada, Inc., thinks Canadians are too responsive to marketing pitches based on ultra-low interest rates.

It's worth noting you may be able to catch up on your RRSP without borrowing, if you also have a non-registered portfolio. You can "transfer-in-kind" securities to an RRSP (or a TFSA), but may have to pay capital gains tax if you have a profit on what the taxman views as a "deemed disposition."

 

- Jonathan Chevreau is the author of Findependence Day, from findependenceday.com

 

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