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Is it better to invest your money or use it to pay down your mortgage or other debt? It depends. Let’s look at different situations.
Your net worth is calculated by taking your assets and subtracting your liabilities. Both investing and repaying debt can boost your net worth as a result. The question is: which is better? In our guide about paying off debt versus investing, we cover the options from a number of different perspectives so you can decide what is best for you.
Making the right choice boils down to prioritizing and projecting. But here’s the thing: mortgage debt repayment is investing. Your return comes from interest savings that accrue by paying down the principal portion of your debt.
Sometimes, Canadians choose to invest in other assets instead of paying down debt. If you think you can earn a higher rate of return on your investments than the interest rate you’re going to pay on your debt, in theory, you might be better off investing. In practice, though, it depends.
There are practical considerations to help determine which investments are better than paying down your mortgage faster.
A quick way to think about debt repayment versus investing is to compare the interest rate of your debt to your expected rate of return of your investments. Say you have a $100 debt with a 5% interest rate. You’ll incur $5 of interest over the coming year.
If you had the opportunity to invest that $100, you’d only need to earn $5 or a 5% return to have increased your net worth and be better off, right?
Unfortunately, the math is a bit more difficult. If you earn $5 of income in a non-registered account, it’s taxable. If what you earn is in a tax-free savings account (TFSA), it’s tax-free. If you earn it in a registered retirement savings plan (RRSP), it’s tax-deferred, and you have to factor in the tax refund on the contribution and the eventual tax on the withdrawal.
So, find out when you could contribute to an RRSP instead of paying down your mortgage.
In some cases, you can have your cake an eat it too. A mortgage is a permitted RRSP investment, so an RRSP account holder can have their own mortgage held in their RRSP—at least in theory. In practice, this is becoming more difficult to do. The biggest challenge is finding a bank, credit union or trust company that will let you hold your mortgage in your RRSP.
That said, there are alternatives for an investor who really wants to have real estate investment exposure as part of their retirement savings. And holding your mortgage in your RRSP may not be as good as it sounds after all.
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And how to buy (and get a good deal on) a car in Canada.
Weddings can be expensive, but so can many of the things that come after a wedding—like a home purchase, starting a family and saving for retirement. And, so, money is an important relationship issue even before a couple ties the knot.
Arguably, young Canadians may be making their marriages more difficult by setting their wedding budgets too high. Are they trading in a home down payment for a half-day party with their friends and family?
We address this and other pre-wedding considerations beyond budgeting for a wedding that an engaged couple should be talking about with each other. Find out which is a better use of money: a wedding or a downpayment for a mortgage.
If you are wondering if you’re “paying down someone else’s mortgage” when you rent, you’re not alone in questioning the viability of long-term renting. The decision to buy or rent a home is a big one and the first step in making any big financial decision, including home ownership, is evaluating your own situation on its own merits—that is, based on the facts, rather than opinions and emotions.
We’ve got some input that can help you uncover the emotions that might lie underneath your thinking about renting versus buying, even if you’re not consciously aware of them. We also provide some perspective on the long-term financial implications of being a long-term renter and investing your savings, compared to taking on a mortgage and becoming a homeowner.
Here is a guide that can help you compare the long-term impacts on savings from renting versus owning a home.
Investing a down payment fund is difficult at the best of times. Canadian, U.S., and international stock markets have all had annual losses of 30% or more in the past, so going all-in on stocks with money you might need in a year or so could see your down payment fund reduced by one-third. Even a balanced fund or a bond fund can lose money in a given year.
If you have a three- to five-year time horizon, it is much less likely you would lose money in a balanced portfolio. With five or more years, a diversified stock portfolio is also unlikely to lose money, making stocks a great long-term investment despite the short-term volatility.
You should probably keep cash you intend to use as a down payment imminently in cash or near cash. If you invest the money and have exposure to stocks, just know that your down payment could be worth less when you need it, and you may need to decide between selling at a loss or taking on a larger mortgage. Your risk tolerance, comfort level with debt, and how much extra down payment you have compared to what you need to qualify for a mortgage are important factors in this decision.
Read for more advice on how to invest a home down payment.
There are different ways to borrow money to invest. Some common options include:
Opening a margin account. A simple option is a margin account at a brokerage. Depending on the existing investments in the account, a brokerage will lend up to a certain percentage of the value to an investor, at a specified interest rate.
Investment and RRSP loans. Investment loans with required monthly principal and interest payments are another option for borrowing to invest. RRSP loans are often at competitive interest rates as low as prime.
Using a mortgage or line of credit to invest. Lines of credit or mortgages on real estate can be used to invest, and the interest can be tax-deductible as well.
The interest rate, repayment terms, and tax implications differ depending how you borrow to invest. An important consideration before borrowing to invest is whether or not it is worth it in the first place.
For a deep dive, check out this column on borrowing money to invest.
To instantly compare rate types and terms, click on the filters icon beside the down payment percentage in the Ratehub mortgage rate finder below. Input your location, the price of the home you want to purchase and your down payment amount. You can also adjust the mortgage term and type. Then simply tap “inquire” to get more info.
In some circles in Canada, leveraging—or borrowing money and/or using credit to invest—is a taboo subject. There is much less controversy when people borrow to:
Borrowing to invest is not for everyone, but the break-even return on investments is lower than the borrowing cost when you consider tax deductions and tax deferral on investments.
Read this summary of the financial implications of using a home equity line of credit to invest—it may be not be as taboo as you think.
For parents of teens, many are trying to balance debt repayment, retirement planning and savings to fund their children’s post-secondary education.
Financial goal setting is often fluid, and the financial choices that may seem “best” from a very narrow spreadsheet perspective may not always be the best for your family—and they may not provide the greatest peace of mind. It may be important to set aside your motivation to pay down your mortgage and instead put this debt into context with other financial priorities in your household.
That said, you also have to be honest with yourself about your ability to help your kids financially without compromising yourself financially in the long run.
We want to help you assess the decision to pay off debt or save for post-secondary costs.
How to get the best rate.
Many people say that you should be debt-free before you retire. If you have investments before or after retiring, should you use them to pay off your debts more quickly?
If the investments in question are inside an RRSP or a similar tax-deferred account, you need to consider the tax implications of using these investments to pay off your mortgage. Taking a large, lump-sum withdrawal may result in significant tax payable and a much smaller after-tax amount that can be used to repay debt.
If the investments in question are in a TFSA, it may be that much more of a toss-up as to whether you should use the investments to pay off your mortgage. Paying off your mortgage results in a secured return, like buying a guaranteed investment certificate (GIC), compared to your TFSA, which may hold a riskier investments, like stocks and bonds.
If the investments in question are in a non-registered, taxable account, you should more strongly consider paying off your debt. The investments in this case would generate taxable investment income, and your required rate of return would need to be higher to account for taxes payable and justify staying invested over paying off your mortgage.
Ultimately, the more conservative of an investor you are, the more seriously you should consider using your investments to pay off your mortgage.
This may not be a good strategy—for several reasons.
For more details, read about how to withdraw from RRSPs to pay off a mortgage.
What if you have investments that are worth less than you paid for them? Should you use these investments to pay off debt?
Investors in Canada should be careful about using the original investment amount as the number to get back to before you consider selling. It can be detrimental to fixate on recouping a loss before you sell an investment.
If you have debt and you have non-registered investments, you may be able to sell the investments and borrow back to repurchase them to at least make the interest tax deductible, if it is not already.
If you sell your investments at a loss and repurchase the identical ETFs within 30 days, you cannot claim the capital loss on your tax return. Instead, it is a superficial loss as if you never sold the investment in the first place.
Read more about the implications of selling investments at a loss to pay off debt.
Tax-loss harvesting, or tax-loss selling, is a strategy for reducing tax in non-registered accounts. Investors sell money-losing investments, triggering capital losses they can use to offset capital gains incurred the same year. Tax losses can also be carried back three years or carried forward indefinitely.
Read more in the MoneySense Glossary: What is tax-loss harvesting?
Expert financial planning involves an investment strategy as well as a debt repayment strategy to put your cash flow to the best and most productive use. There are plenty of things to consider when trying to decide which is best for you.
We hope our guide has helped raise some of the considerations so you can try to apply the advice to your own financial situation on your financial goals what to do you with your money—invest or pay off your debt.
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