Welcome to Soundbites – weekly insights on market trends, and investment strategies, brought to you by Investment Executive, and powered by Canada Life. For today’s Soundbites, we get some RRSP clarity from John Yanchus, a tax and estate planning consultant with Canada Life. He spoke about the value of borrowing for contributions and how to help clients catch up when they’ve fallen behind. But we started by asking him about the four most common strategies for contributing to retirement.

John Yanchus (JY): The lump sum deposit strategy would be the most common way for people to contribute. The reinvestment strategy would be one level higher, and this would consider the refund generated by the contribution to also be contributed. The third strategy would be to borrow money to increase a contribution. And then the last strategy would be the gross-up strategy which calculates an amount to borrow where the refund will fully repay the loan directly.

The re-investment strategy.

JY: Many people view a tax refund as a windfall at tax time. Now, I don’t want to take away anyone’s shopping spree, but there may be a way to boost your retirement plan. The reinvestment strategy would be contributing the refund that you would create on the original RRSP contribution. If we’re looking at trying to accomplish certain goals or desires, this might be that additional component that may help you either reach that or get there more comfortably.

Borrowing money for RRSPs.

JY: I would classify an RRSP loan as good debt. It may provide the opportunity to utilize unused contribution room or catch up on contributions that may otherwise be missed. In human psychology, it may be easy not to make regular RRSP contributions, but it is not easy to miss a loan payment. So, this perception may allow the RRSP contribution to be made at the beginning of the year and paid over the remainder of the year. Usually, the loan is for a very short duration. In most cases, I would suggest it should not exceed a year. The additional refund generated by the increased contribution would also be well used if it was applied to the loan directly. This would also help minimize any interest paid in the short term.

And the gross-up strategy.

JY: This strategy involves a little bit more planning, precision, and it is deliberate. The formula for the gross-up amount to borrow is your RRSP contribution amount, times your marginal rate, all divided by 1 minus your marginal tax rate. Let me provide a quick example for you, for a person with a 40% marginal tax rate that’s going to make a contribution of $5,000. First, your expected tax refund is $2,000. That is your contribution of $5,000, times your 40% marginal tax rate. The amount to borrow is then calculated by dividing the $2,000 refund from the previous step by one minus your tax rate of 40% which equals $3,333. You then add the original contribution of 5,000 with the $3333 we just calculated, for a total contribution of $8,333. The refund generated by the contribution of $8,333 works out to the $3,333 borrowed. The loan really should only be outstanding for a couple of months. This strategy is fairly straightforward but pretty amazing when you can put that into place.

And finally, how to make clients more comfortable as they think about their retirement.

JY: In general, most people have a desire to make sure they will be OK in the future, once they do decide to retire. I think these conversations can be difficult because we’re talking about something that is a little uncertain. It becomes a little easier when we focus on goals and desires. The path begins to illuminate and makes it a little easier to plan how to get there. There may be obvious answers, but I think it also allows ideas, concepts and strategies to become part of the conversation, and eventually the plan in the long run.

Well, those are today’s Soundbites, brought you by Investment Executive and powered by Canada Life. Our thanks again to John Yanchus of Canada Life. Join us every Wednesday at investmentexecutive.com where you can sign up for our a.m. newsletter and never miss another Soundbite. Thanks for listening.


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