The Canadian Capitalist has been running some very interesting discussions about whether it is better to pay down debt or put money away in your RRSPs. I am on the fence on that argument, I think personally I should be paying down debt, but it also does feel good having some money put away for your retirement, or for a rainy day. I think you need to maybe start with what your hierarchy of debt is and figure out from there:
Bottom Rung
- Credit Card debt, Debt to Family members and debt to non-bank loan companies. I would pay off debt here before even thinking of an RRSP plan. You are saving so much in interest charges it is a no-brainer, and it will help you sleep better at night. The family and friends are important too, pay them back FIRST.
Step up
- Car Financing, Low Interest Credit Card Debt, and the like it depends on the rate of interest you are paying I guess. If your interest rate is below 8% then maybe think about RRSPs? Pay the debt off mind you, only look at RRSPs with found money?
Main Street
- Mortgage , Secured Line of Credit here you are getting as low a rate of interest so maybe if you are locked in at a very low rate, think more about RRSPs, but again you have to do the math and figure out how much money you make putting $1000 on your Mortgage and $1000 on your RRSP and then decide.
Yes, kind of vague (as usual), but hopefully it causes you to think about things a little more
If you are high income bracket, you might want to think about getting both goals down. Do your taxes as they are now and find out how much you are paying
Next, find out how much you stand to gain in refunds from putting more money into your RSPs. Apply the refunds to your debt.
Admittedly, for most middle income people, this step produces marginal results.
If you’re not the type that can or will max out on your contribution room from year to year, then you might take the extra step of doing the contribution for 2006 tax year, and withdrawing it back as income for 2007. In essence, you’re eating up your contribution room, but you’ve just deferred taxable income from 2006 to 2007, albeit that you’re subject to 10% witholding up to $5000 withdrawal
How would you tie your ladder of debt to my situation: I have a defined plan at work. From the day I started with that particular employer, I made contributions to their plan, and occasionally to RSPs as a tax shelter in years that I received lump sum settlements. The contributions to various employer-sponsored benefit plans makes a considerable dent in my gross income. From your discussion’s prespectve, I would, therefore, not have the ability to forgo retirement (or other benefit plan) payments in order to reduce debt.
Of course, my defined benefit plan provides me with great certainty of my income at retirement, and allows me to plan and accumulate any excess income I will need to fund my expected lifestyle, so this forced savings plan has definitely been useful. However, it has meant I need live within a different budget. When I first looked at buying a house, for instance, the optimistic amounts the bank would loan us would have consumed well over half my net salary in monthly payments; we purchased a less expensive home. Same with the car dealer, etc. Most of these businesses will entice you to spend as much as THEY think you can afford.
Where I guess I’m trying to go with this is to once again suggest folks “Pay Themselves First” and not adopt unnecessary debt in the first place. However, that said, I agree with your first rung. Get rid of Credit Card and high rate debt first; preferably by paying it out, or by consolidation into a lower interest rate product. Determine how you will avoid adopting similar debt in the future, so you do not find yourself in that situation again. Un-structured family debt should be paid ASAP, and structured debt according to the plan you have designed.
From there, learn to live on less than you earn, and develop that mindset, or find ways to earn more. I now think in terms of my annual NET salary instead of my gross salary when budgeting. It’s pretty easy. Simply divide my paycheque by two, then multiply by 50; the extra two weeks is simply ‘mad money’ that gets spent on treats like vacation extras.
Then use the excess income to create your financially secure future.