I’ve been reading How Much Is Enough? and was quite enjoying it until I reached a passage in the RRSP section. I was surprised and then indignant about what I read. I disagreed so strongly I wanted to share another point of view in an article. Here’s why I think some people should save for their house down payment in their RRSP—and some shouldn’t.
Newly Employed, Young People Shouldn’t Use a RRSP to Save for Their First Home–or Should They?
In How Much is Enough? Diane McCurdy makes a case that new graduates in their first jobs who are saving for their first home should not use a RRSP to save for the down payment. She is quite vehement about this which is probably why I found it so upsetting.
Why is she is so anti-RRSP for this use? She writes:
(Some) people beginning their careers will start at a low wage but will soon be earning higher wages. Ms. McCurdy says they should not contribute when they are in the corresponding low tax bracket but should wait until they are in higher tax brackets in the future.
If people miss re-paying the annual amount of their Home Buyers’ Plan they will have to add that missed payment to their taxable income for that year. The tax rate on that taxable income may be higher if they have moved up in pay since they made their initial RRSP contribution.
(Some) people will be overwhelmed by paying their mortgage and if they make their HBP repayments they may not have any money to make a new contribution to their RRSP.
Diane McCurdy wrote: “These folks have left themselves with no wiggle room, especially if they’re buying at the outer limit of what they can afford. They’re house poor. If an unexpected baby comes along, or a serious illness or a downturn in the economy, they have no resources to fall back on.”
Whoa! That’s a lot of worst case scenarios landing on the poor home buyer just because they used the Home Buyers’ Plan.
Here are my counter-arguments.
You do not have to claim your RRSP deduction the same year you make your contribution. If you reasonably expect to be in a higher tax bracket in a few years you should report your contributions on your annual tax return and carry forward the deduction to claim in the future. When you eventually use the deduction, your tax refund will be larger. In the meantime, your RRSP contribution will be earning tax-free income which should be compounding inside the RRSP.
The annual repayments to the Home Buyers Plan are small. They are usually 1/15 of the amount borrowed. The maximum you can borrow (per person) is $25,000. So the maximum annual repayment required is $1667 per person.
Ok, so say one year this young homeowner is struggling and can’t pay back the annual Home Buyers’ Plan amount. It’s unlikely, but they might be in the 46.5% Ontario tax bracket. No, worse, the 50% Nova Scotia tax bracket. Then they would have to pay an additional $834 in tax. Is that unpleasant? Yes. Is it financial suicide? Mmmm.
Or even if this is a huge worry, why not contribute the $25,000 to the RRSP prior to taking it out for the HBP but do not claim the deduction for any of those contributions? Then, if you can’t make a repayment, you can always claim the deduction for that $1667 worth of contribution and it will cancel out with the extra income you have to claim and you will not have to pay any additional taxes.
People may end up unable to make new contributions to their RRSP regardless of whether they used the HBP to finance their home or not. I don’t understand why she thinks those items are related.
The direct quote from the book shows what Ms. McCurdy is really upset about. As a financial planner, I suspect she must have met people who bought houses they could not afford. They ended up with a house they couldn’t maintain with no emergency fund of savings built up and without a plan to save for retirement.
Undoubtedly there are people who make that type of mistake. I don’t think, however, that the Home Buyers Plan is a major factor. I’d be more worried about what type of person sold them a mortgage or a home without talking to them about the risks of over-extending.
Who Should Use the Home Buyers’ Plan to Help Purchase a Home?
My husband and I used the Home Buyers’ Plan to buy our first home. It worked well for us which makes me biased in favour of it.
When we bought our first home we were newlyweds but not particularly young. We had both been working for several years after graduating. Both of us were engineers. From the day we started work, we both started saving in RRSPs. We used the tax refunds to help buy the next year’s RRSPs. (There were no TFSAs available back then.)
Our tax bracket was high and was not really expected to get much higher for a long time. If it had been going to get higher, though, we would have just contributed annually but waited and claimed the tax deduction later. (We did use that strategy later when having kids and getting bonuses, etc.)
We bought a house we could afford to keep on one salary. We kept back a 6-month reserve fund for emergencies and didn’t use all of our money for our down payment. We, like many others, bought a house expecting to start a family. We had disability and life insurance through our jobs. We were basically the antithesis of what Ms. McCurdy feared.
We used the $50,000 to improve our down payment. Every year we contributed the max to our RRSPs. That wasn’t hard as our work PAs made our RRSP maximums quite small. We paid back the HBP repayment of $1667 x 2 each year. In fact, a few times we paid back more to get our money back in there earning tax-free income.
We saved quite a bit on interest on our mortgage by having a larger down payment. (We bought in the days when mortgages were 7%+) We restored our tax-free loan to our RRSPs in fewer than 10 years. Overall it was a good decision for us.
Should You Use the Home Buyers Plan to Purchase Your First Home?
Only you (or possibly you and your financial planner) can answer that. Here are some of the factors to consider:
- Will you have a 2-6 month emergency fund available after you buy the house? That calculation should include the amount you’d have to pay for the mortgage, property taxes, home insurance, heat, water, and electricity for each month plus your regular living costs like food, gasoline, car insurance, telephone and work expenses.
- Will you have enough money to save about $200 a month for on-going, often unexpected, home repairs and replacements? From the day you buy, you have to be saving towards a new roof, new furnace, new appliances, new windows and doors, new bathroom fixtures you name it. Houses eat money.
- If you are a couple buying together, can you carry the home on only one salary?
- If you cannot pay back the $1667 per person one year, will you have the $834 to pay the additional tax?
- Will buying this house leave you unable to make regular annual contributions to your TFSA and/or RRSP for your retirement fund?
- Will creditors be a problem? Creditors can seize your house to re-pay debts. They can’t seize your RRSP. Taking the money out via the HBP puts it at risk if you are in debt.
- Will you have the self-discipline to force yourself to put that money back into your RRSPs and to keep adding to it? Or to put it into a TFSA. Or to save *somewhere* for your retirement. People like saving to buy a home. It’s quick and tangible and very satisfying. But when you’re in your sixties you’re going to be very unhappy if you didn’t also save for your retirement. Don’t pull the money out of your RRSP if you have any doubt about whether you’ll pay it back
- Have you considered whether it’s better to claim the deduction for your RRSP contributions as you make them or whether it’s better to wait and claim them in a few years’ time? (Note: You MUST report the contributions on your annual tax return each year: you only defer claiming the deduction, using Schedule 7, you do not delay reporting your put money into your RRSP!)
- Do you have disability and life insurance?
As usual, my answer is a wishy-washy one. For some people, it’s a great idea to use the Home Buyers Plan for their first home. For others, it may not be. I hope this article will start you thinking about which case applies to you.
Did you use the HBP to purchase your first home? Do you regret it? If you’re still saving up for that first big buy, do you plan to use the HBP? Please share your thoughts with a comment.