When to Pay Back the Home Buyer’s Plan
The TFSA Changed the Game…
With the creation of the Tax Free Savings Account, and the tax free gains you receive from your after tax income, weighing the options between contributing to your tax free savings account or to your home buyer’s plan became a bit more difficult.
With the home buyer’s plan, you can borrow up to $25,000 from your RRSP’s without having to pay tax on the withdrawal. Technically, you are withdrawing your pre-tax income.
The year after your withdrawal, you are expected to pay at least 1/15 of the money you borrowed back into your RRSP. This is expected of you for 15 years. You do this by filling out Schedule 7 when you file your taxes (or your accountant files your taxes) and listing how much of your RRSP contribution you are going to use to pay back your Home Buyer’s Plan.
If you don’t pay 1/15 of the money you borrowed from your RRSP, that 1/15 amount will be taxed at your marginal rate for that year.
Sometimes, if you have a low-income year (for example, if you are a student that year or if you were unemployed or on maternity or paternity leave) this may work out advantageously because you will be at a lower marginal rate than when you were working.
In this case, what would be the best options for your home buyers plan payback?
Let’s take a look at a few scenarios:
Scenario A: Allow for 1/15 of the home buyers plan to be declared as income because you are in a lower marginal tax rate.
This is considering the alternatives that you could use for that money- including filling up your tax free savings account or paying off your mortgage faster. The RRSP helps you delay taxes, the TFSA allows for gains that are not taxed at all when you withdraw.
Scenario B: Pay the HBP plan off during your low income year.
When you pay off the HBP plan off in your low income year, you will free up contribution room in the future higher income years. In addition to this you will free up potential cash flow in the future to pay off your mortgage.
This can be accomplished, for example, by either moving non-registered stocks with a neutral or small capital gain, or better yet, by transferring funds or shares in kind from your Tax Free Savings Account to your Registered Retirement Savings Plan account. Of course, another feasible option is to pay off the home buyers plan with savings if you have it available.
Paying back the home buyers plan allows for more possibility of tax sheltered growth in your registered account (time is on your side), in addition to allowing for future tax refunds from bigger RRSP contributions in the future at a higher marginal rate.
I see a benefit to this as it helps you get out of debt to yourself, and out of the annual obligation of 1/15 of the borrowed amount. It helps free up your cash flow, in a sense.
Scenario C: Pay the minimum payment 1/15 annual repayment to the HBP and focus on saving the rest of your annual retirement savings in the Tax Free Savings Account instead.
The TFSA is the clear winner in comparison to the RRSP due to numerous reasons as pointed out in this RRSP vs TFSA article. This scenario is dependent on how much you think you might be earning in retirement, though pretty much any way you slice, it contributing to your max out your TFSA may be a better idea than your RRSP if you can’t do both.
For example, I borrowed roughly $15,000 from my RRSPs for my down payment on our first home. This is the first year that I’m expected to pay back 1/15 of what I borrowed. This is also a year in which I am at a much lower tax bracket than I usually am. I’m debating between scenario’s A, B, and C, and am leaning towards either scenario A or B. I still have one year where my income will be low. Therefore, I do have one more year to decide whether I want to go all in and do scenario B.