Home ownership is still a cornerstone of the financial plan of most Canadians but with the average house price in Canada nearly $500,000, it’s not always easy to get a foothold in the real estate market.
One of the ways the Government of Canada has made home ownership more accessible is through the RRSP First-Time Homebuyer’s Plan. But how do you actually make use of this great tool to buy your first house?
What is an RRSP?
The Registered Retirement Savings Plan (RRSP) is a tax-advantaged saving or investment account for your retirement. Your individual contribution room is proportional to your taxable income and works out to be approximately 18% of your gross income earned.
Unlike the Tax-Free Savings Account (TFSA), money in your RRSP is simply tax-deferred, not tax-free. This means you won’t pay taxes on it the years you make your contributions, but your withdrawals from you RRSP in retirement will be subject to income tax then. Because the majority of people will have a lower income in retirement than in their working years, you can save a whack of income taxes by contributing to you RRSP now and make the withdrawals in the future when you stop earning an income. Want to learn more? Check out my video: The RRSP Explained in 3 Minutes
What is the RRSP First-Time Homebuyer’s Plan?
The RRSP First-Time Homebuyer’s Plan (HBP) lets you withdraw up to $25,000 from your RRSP without penalty for a down-payment on your first home. If you’re buying a home with your partner, they are also eligible to withdraw up to $25,000 from their RRSP under the HBP for the downpayment, giving you $50,000 altogether for a down-payment on your home.
The RRSP First Time Homebuyer’s Plan is an awesome way to unlock funds you have saved up in your retirement accounts without penalty. Normally, a withdrawal from your RRSP would be subject to income taxes. However, under the HBP, you’re withdrawing the money as a tax-free loan to yourself. You will be required to repay the amount beginning one year after you’ve purchased your house.
You will be required to repay the amount you withdrew from your RRSP under the First-Time Homebuyer’s Plan over 15 years, beginning one year after you’ve purchased your house. If you withdrew the full $25,000 under the HBP, your repayment amount will be $139 per month ($1,667 per year). You can — and should — continue to contribute more to your RRSP on top of your HBP repayments, and these will be counted as new RRSP contributions.
You have to have money in an RRSP to use the Homebuyer’s Plan
This is an obvious statement but I want to emphasize it anyway: you need to actually have $25,000 in your RRSP if you want to withdraw $25,000 for a downpayment on a house. To save this amount, you’d need to set aside approximately $400 per month for 5 years.
It’s easier to save money in your RRSP than you might think. Because this is a tax-advantaged account designed to let you contribute pre-tax income to your retirement savings, doing so can really give you a break when you file your income taxes. If your income is greater than $50,000, it can make sense to make contributions to your RRSP and claim these contributions when you file your taxes. This will usually result in an income tax refund, which you can further use to top up your RRSP.
To use the First-Time Homebuyer’s Plan, simply withdraw your money from the account
Most people know about the First-Time Homebuyer’s Plan and why it’s a great idea, but when it comes to actually withdrawing the funds to buy their first home, they worry they might be missing a step.
Utilizing the HBP is as simple as taking the money out of your RRSP, and moving it to your chequing account to pay your down-payment.
If your RRSP is in investments like mutual funds, ETFs or stocks, you will need to sell those first, then transfer the cash from your investment account to your chequing account.
There’s no special paperwork you need to fill out, you don’t even have to notify your bank or the CRA that you’re making the transfer. You don’t have to document the withdrawal in any way until you file your income taxes. When you file your income taxes, there is a checkbox that asks plainly if you made a withdrawal from your RRSP under the First-Time Homebuyer’s Plan. It’s important for you to select “yes”, as this is necessary to track and allocate your future RRSP contributions as HBP repayments going forward beginning the following year.
Most people are surprised by the ease of withdrawing funds from their RRSP under the First-Time Homebuyer’s Plan. Because withdrawals from your RRSP are typically subject to a tax penalty, taking money out without consequence gives you the weird feeling of getting away with something you’re not supposed to! But I assure you, it really is that simple.
A word of caution before you choose the HBP
The RRSP First-Time Homebuyer’s Plan is an awesome tool if you use it correctly, but most people don’t. Research shows that as many as one-half of Canadians don’t stick to the HBP repayment schedule, which means they’ve fallen behind on payments or stopped paying altogether. The consequences of not repaying your RRSP First-Time Homebuyer’s Plan loan on time are serious: you lose that RRSP contribution room forever and you need to pay income taxes on the amount you failed to repay.
The reasons people are not able to make the repayments on their HBP are predictable. Most of them boil down to homebuyers seriously underestimating the costs of home ownership. Many people are so focused on scraping together that down-payment as the biggest financial hurdle, they forget to take into account that having a home also means having property taxes, higher utility bills, and home maintenance costs. If you don’t factor these expenses into your monthly and annual budgets, you will find yourself short on cash, and one of the things likely to suffer is your savings.
From a purely mathematical standpoint, saving up your house down-payment in your RRSP is better than saving it in your TFSA, because it’s always better to spend tax-deferred money and let tax-free money continue to grow. However, if the repayment schedule of the HBP is going to cause you financial stress, you might want to think twice about withdrawing from your RRSP to fund your house down-payment!