Author Topic: Using RRSPs to pay down consumer debt  (Read 2153 times)

blue mutant

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Using RRSPs to pay down consumer debt
« on: June 15, 2014, 01:22:04 AM »
My wife and I have the following debts:
-$12,500 installment loan at 6% (Monthly payment $760) principal being paid down at about $710/ month
-$1,000 CC debt at 12% (to be paid off within next month)
-$8,500 CC debt at 6% (monthly minimum at $150)

We also have about $12,000 in RRSP (Canadian IRA equivalent) that increase through matched contributions of $1,000 per month.

Big question is: Should we withdraw RRSPs to speed up debt paydown?
My thought process is no, in part because this forces higher savings rate rather than freeing up cash flow which would likely go at least partially to increased spending rather than substituted saving.
Sheltered investments lead to tax deferral=tax savings. If my current marginal tax rate is 36% and anticipated withdrawal tax rate (many years down the road) is 25%, do I need to be paying higher than the 10% spread on my loan interest to make it worthwhile? Is the deferral effect even bigger? Smaller? Any referrals to links that explore this question in detail?

Complicating factor is that my wife's perspective on this question is much more emotionally grounded; ie. We can start fresh.
One other thing: My wife would like to move to a bigger home within our neighbourhood (something that I have seen referred to as being the worst possible type of move) despite our home being 1050 sq. ft / 2000 livable sq.ft. I have repeatedly said that I will not consider that type of move until our debt is paid and the push to pay down debt with RRSPs is related to the desired move. 

Would love to hear any thoughts and gladly answer any questions in relation to further information.
« Last Edit: June 15, 2014, 01:31:47 AM by blue mutant »

sleepyguy

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Re: Using RRSPs to pay down consumer debt
« Reply #1 on: June 15, 2014, 06:00:22 AM »
Careful, if you pull out in company matches plans they usually have a few month penalty (won't match).  I assume the match is at least 50% which beats any of the interest rates on the CC debts.

Unless you are really hurting and one of you are unemployed, I would so no.  Just tighten your belts and pay down the highest interest first.  Also apply for the MNBA 0-1% cards that are frequently offered.   You can consolidate your loans and hit principal hard during that time.  If that fails, talk to your bank of they could combine all debts and stuff it into a LOC which would have lower rates than CC.

Obviously the tough question is why are you carrying all this CC debt?  Paying it off won't correct bad habits as the cycle could start again.
« Last Edit: June 15, 2014, 06:04:16 AM by sleepyguy »

plainjane

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Re: Using RRSPs to pay down consumer debt
« Reply #2 on: June 15, 2014, 09:32:05 AM »
In a month you'll have your highest rate debt paid off.  If you then snowball that $1k to your $8500 card, that will speed it up greatly.

My understanding is that if you take money out of your rrsp you will take the tax hit at your highest income bracket.  So taking out $12000 rrsps will only give you $7650 (and the bank might hold back more just in case this money took you to an even higher bracket).

If you were working with higher numbers, I might suggest pulling back on the rrsp contribution if you were putting in more than your match, but you have so little in there, I would't risk it.  Instead, you need to focus on the other parts of your budget so you can snowflake that debt down. 

You can't afford a higher mortgage at this time - first prove that you can live on the revised budget for a year (putting aside the extra $ that would be going to the higher mortgage into your tfsas and live a year without carrying debt first).  Taking the money out of your rrsps to pay old debt and "start fresh" is worrying thinking.  It isn't starting fresh, it's stealing from your future selves.

daverobev

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Re: Using RRSPs to pay down consumer debt
« Reply #3 on: June 15, 2014, 02:16:54 PM »
RRSP withdrawals count as income, and will at tax time be taxed at your marginal rate. So unless you've earned little to nothing, no don't do it.

6% isn't bad (I mean, compared to historical rates!), just pay it off ASAP.

Prairie Stash

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Re: Using RRSPs to pay down consumer debt
« Reply #4 on: June 16, 2014, 09:27:54 AM »
No. Short term it sounds great, long term you will be punished. Once you withdraw the contribution room is gone forever. 

Plus you'll pay tax on the RRSP withdrawal, apparently your marginal rate is 36%. So you'll get $7,680, pay 4,320 in taxes, lose all your contribution room and still owe money. Essentially a lot of work to end up worse off.

Stick with the current plan.  By Dec. 31 you should be:
Installment loan $12,500 down to $8,200
CC $1000 to $0
CC#2 $8,500 to $2,500 assuming the money from paying off CC#1 is then spent on CC#2.

In 1 years time (12 months) you should be debt free and the RRSP should be $24,000 ($1k/month for 12 months, neglecting growth). Play with the math and please correct for mistakes.