One question that confronts all homeowners in the pursuit of financial security is whether to invest more or pay off mortgage debt faster. While not having to make monthly payments for the next 25 years is every homeowners’ dream, it’s critical to also consider the rate of return from RRSPs or TFSAs, your personal financial goals, and your saving discipline to make the decision that works for you.
RRSPs can be a win-win option instead of paying off your mortgage, because RRSPs provides a tax break that is returned as a refund. You can then use this tax refund to pay down your mortgage. But it’s important to compare your RRSP rate of return to the mortgage interest rate.
If your mortgage rate is higher than your current RRSP rate of return, it makes more sense to pay off the mortgage first. You can always review this decision if your mortgage interest rate and expected return on your RRSP changes.
However, if you’re not a disciplined saver, paying off the mortgage first will force you to save and ensure returns that your RRSP will not get. It’s wise to settle any credit card debt and other high interest debts before paying off your mortgage. With RRSPs, you pay taxes when withdrawing funds. Conversely, TFSAs gives more flexibility because you can take out the money anytime without worrying about tax implications.
When deciding between RRSPs and TFSAs, it’s a better choice to contribute to your RRSP if your Marginal Tax Rate (MTR) is higher now than when you retire. This allows you more tax savings now than what you would pay later when you withdraw from your RRSP. TFSAs should be the go-to option if your current MTR is low. Although you waive a tax cut now, TFSAs will save you more with tax-free withdrawal during retirement. TFSAs are a sound investment decision if your rate of return is higher than your mortgage interest rate.
When choosing between paying off your mortgage, or investing in RRSPs or TFSAs, you can make a smart decision by considering your appetite for risk, discipline for saving and your financial know-how.