CAN YOU BORROW FROM YOUR RRSP WITHOUT PAYING TAX ON THE WITHDRAWAL?
In short, yes — though to be a little more accurate, the real answer is “It depends”!
RRSPs are popular for their immediate tax deferral when making contributions. They also allow contributions to grow tax-free until money is withdrawn in the future.
There are many misconceptions about RRSPs. For example, many people think funds in an RRSP cannot be withdrawn until retirement. Funds can actually be withdrawn at any time, although withdrawals are subject to tax. (Of course, if the funds are in a long-term GIC or other investment that can’t currently be cashed out, then in practice there may be no way to get at them.)
However, it is also possible to “borrow” funds from an RRSP to use for certain purposes without paying tax on the amount borrowed (which is essentially a withdrawal from the RRSP). This option is particularly attractive given the current high interest rates and uncertainty as to what the near future holds in terms of borrowing and the associated costs.
Buying a home
One of the most common situations where people borrow from their RRSP is to buy a home. Under the Home Buyers’ Plan, you can borrow up to $35,000 from your RRSP if you use the funds to purchase your “first” home.
The word “first” is included in quotes above, as the home does not actually have to be your first home. Instead, you or your spouse must not have owned a home that you lived in either in the part of the year leading up to the withdrawal, or in any of the four previous calendar years.
The amounts withdrawn must be repaid equally to your RRSP over 15 years, starting the second year after withdrawal. Any missed repayments are taxed as income, as if you had withdrawn the repayment amount from your RRSP in that year.
The Home Buyers’ Plan can be used in conjunction with the newly created tax-free First Home Savings Account (FHSA).
The FHSA is a hybrid between a TFSA and an RRSP. It allows you to save up to $8,000 per year (up to $40,000 in total) in a separate account. When making contributions, you receive an up-front tax deduction similar to an RRSP, and withdrawals can be made tax-free provided the funds are used to purchase your “first” home (which has the same “first” home requirement as the Home Buyers’ Plan). The FHSA was discussed in the May 2023 tax letter.
The Lifelong Learning Plan allows you to borrow RRSP funds to finance ongoing education. This plan allows you to borrow $10,000 per year, up to a maximum of $20,000, for you or your spouse to pursue full-time education. Withdrawals can be made over four years.
There are strict requirements for the type of course eligible for the Lifelong Learning Plan. You should confirm with the course provider that your intended course is eligible.
As with the Home Buyers’ Plan, borrowings must be repaid to your RRSP, and you will be taxed on any missed repayments. Repayments start one year after the course is completed (or the fifth year after the first amount borrowed if this is sooner), and must be repaid in equal installments over ten years.
The Lifelong Learning Plan is generally most beneficial to individuals who want to undertake full-time study but will still receive taxable income while doing so. Low-income individuals may be better advised to make a taxable RRSP withdrawal instead. Although this would be subject to tax, the tax rate may be low. In addition, the withdrawal may be covered by the basic personal amount (the amount of income that can be earned before any tax is payable), which is currently $15,000.
Important points to note
Borrowing from your RRSP may not be suitable for everyone, and professional financial advice should be obtained before making any withdrawal.
Any third-party interest charges that can be saved by borrowing from your RRSP, rather than approaching a commercial lender, must be weighed against the tax-free returns in your RRSP that will be lost during the time the borrowed funds are not invested in your RRSP.
The Home Buyers’ Plan and Lifelong Learning Plan come with strict reporting and repayment requirements. There are significant tax implications if they are not complied with. You should involve your accountant at an early stage if you are considering any of these plans.