There are a lot of factors to consider when deciding whether or not you should focus on paying off your debt before contributing to your RRSPs, or invest more in RRSPs rather than aggressively trying to pay off your debt first. It’s a difficult decision to make – you want to make sure you have enough money saved up for when you retire, but you also don’t want to be paying huge interest rates on your debt for more years than you have to. So, which one is the right choice for you?
Is Paying off My Debt Always the Best Option?
The quick and easy answer you’ll often hear is to pay off your debt first. But is this always the right answer? Not necessarily. You’ll want to weigh the pros and cons of both. Whether or not you want to invest in RRSPs or pay of your debts will depend on the type of loan you have, your loan’s interest rates, the RRSP interest rates and many other factors. Sometimes it will make more sense to pay off your debt first and sometimes it is wiser to invest in your RRSPs.
When Is it a Good Idea to Pay off My Debts First?
If you plan to pay off your debts first and then use the money that you have freed up towards investing in your RRSPs, then go for it. You will get your debts paid off completely and save money on loan interest, with plenty of time to invest in your RRSPs. Many people, however, have a difficult time with investing all of that freed up cash flow; they may end up spending it instead. It is important to really know what kind of spending and investing habits you have and plan accordingly.
Sometimes paying off your debt can be the best option simply because you are experiencing a lot of worry and stress due to your debt. In this case, paying off your debt should be your focus. Once you have a plan in place you will feel better, and once your debt is actually paid off, you’ll feel even better. You can then change your focus to investing, without carrying around the burden of debt.
When trying to make this decision, you should also take your interest rates into consideration. If your interest rate on your debt is higher than your annual return on RRSPs, you should pay off your debt first. You might have to spend a bit of time with a calculator if you are dealing with a low-interest loan; however, if you are dealing with credit card debt, paying off your debt first will always be the right answer, given that credit card interest rates tend to be very high. You will also want to consider the state of the stock market and whether or not you will have to borrow in order to invest in RRSPs. If you have to borrow, then you should pay off your debts first. If the stock market is shaky and you are not comfortable with investing yet, pay off your debt.
When Should I Focus on Investing in RRSPs?
If you have a low-interest mortgage or line of credit, your return on your RRSPs is often much greater than what you are paying in interest. To put it simply, dollar for dollar you will get more out of your RRSP investments that you will lose with loan interest, and you will end up ahead in the long run. RRSPs are also tax deductible, so if you are investing a fair amount per year, you can put that tax refund toward paying down your debt.
If you have credit card debt or other high interest-rate debt, then it is probably a good idea to forget about your RRSP contributions for now. Otherwise, put a bit more thought into the decision and get your numbers straight before you decide. If need be, enlist the help of a trusted financial advisor who can give you the facts and some expert advice on where your financial focus should be. Once you have all the information, you will know what decision is best for you. With a bit of planning, you can secure your financial future for decades to come.