As an addendum to your New Year's resolutions, how about making it a goal not to scramble to meet the 2011 contribution deadline for your Registered Retirement Savings Plan.
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Lend Yourself a Home Loan
There is a way to increase your retirement savings that may even allow you to exceed the RRSP annual contribution limits.  Consider lending yourself a home loan out of your self-directed RRSP. The main advantage of this strategy is that you may be able to pay yourself a higher rate on the mortgage than you have been able to earn on other low-risk, fixed-income investments. However, the mortgage interest rate could be significantly lower than the return on higher-risk investments. Your self-directed RRSP is allowed to hold a mortgage on any residential or commercial real estate in Canada that you own provided that:
If you set up an RRSP mortgage with a 25-year amortization period and you are paying yourself back $1,400 a month, you will eventually contribute more than twice the amount you took out. This strategy may let you put in more than the allowable RRSP annual contributions. How? Your contribution limit is based on annual income. But when your RRSP holds a mortgage, you must meet the monthly payments regardless of your annual income. They may add up to more than the annual contribution limit. There are complicated rules and regulations regarding holding mortgages in a self-directed RRSP. Consult with your accountant. |
Even if you do procrastinate, be aware that there is a crucial deadline variation this year: Your contribution must be in by midnight February 29 unlike other years when the deadline is March 1. The reason: It is a leap year.
If you avoid waiting until the last minute, you have a better chance of making smart decisions about how much you want to invest, what you want it invested in and how much you want to put into the plan for 2012. Keep in mind that the sooner you put money into the plan, the longer it has to grow at a compounded rate.
For more than half of the owners of RRSPs, mutual funds are the investment of choice. For many that is a wise choice, well-suited to their retirement-saving strategy and providing a reasonable rate of return.
Moreover, the funds provide access to the shares of more companies, professional management and reduced valuation risk. Choosing a mutual fund also relieves you of the need to monitor the performance of individual stocks and lets that job fall to the fund managers.
Be watchful of management fees, however. They can be high. Fund managers are commonly paid with a management expense ratio (MER). That is the percentage of the fund's assets that goes to the manager before any returns are paid out.
A recent study by fund-tracker Morningstar found that Canadian mutual funds have a median MER of 2.31 per cent. That is higher than in most developed countries, including the U.S., where the median MER is 0.94 per cent.
If you are the sort that likes to have more control over your investments, you might consider opening a self-directed RRSP. It may provide greater investment flexibility and potentially higher returns, depending on your tolerance for risk.
Most self-directed RRSPs have an annual trustee fee to cover administrative costs. The fees may range from as low as $25 to $250 per year.
To help get a handle whether you think the fee is worth paying, divide it by your portfolio balance. If you are paying $125, or $133.75 with GST, and your portfolio balance is $50,000, the annual fee is 0.27% of the portfolio.
Add to that such other expenses as trading costs, transfer out and de-registration fees and ask yourself if you consider the money well worth it when weighed against the benefits you derive from owning a self-directed plan.
In general, the advantages of taking control of your own RRSP include:
Consolidation: If you have more than one RRSP, you can simplify accounting and make it easier to track your investments by combining them. This can also cut administration costs. You receive a single periodic statement summarizing transactions, income and expenses. Converting to an annuity or Registered Retirement Income Fund is also simpler when you reach 71 and must wind up your RRSP.
Diversification: There are a number of investments that qualify for a self-directed RRSP. You can choose from such conventional vehicles as cash, GICs, bonds, mutual funds and stocks as well as:
- Small business corporations;
- Bonds, savings bonds and debentures guaranteed by the federal government, a province, municipality or crown corporation;
- Shares and debt of Canadian public companies;
- Certain annuities issued by Canadian companies;
- Call options on Canadian equities or debt traded on a recognized Canadian exchange.
- Debt obligations of corporations with shares trading on an eligible foreign stock exchange; and
- Foreign publicly traded corporations and foreign government bonds with investment grade ratings.
Caution: There is a currency risk involved when you invest money outside Canada. Individuals over, say, 60 years of age, who will be making withdrawals soon for purchases in Canadian dollars, may want fewer foreign holdings than Canadians with a longer time line.
Mortgages: You can hold your own mortgage in your plan, which means you essentially lend yourself the money and pay it and the interest back to yourself rather than to a lender (see right-hand box).
Transfers: As part of your deductible contribution, you can transfer other investments into your plan, or sell them to your plan. If the fair market value at the time of the transfer or sale exceeds your cost, the difference is a capital gain. Capital losses cannot be deducted, so it's not necessarily a good idea to transfer or sell losing investments.
Final note: The options available require you to pay attention to the investments you choose. If a non-qualified investment is put into or bought by your plan, the fair market value will be included in your income. Moreover, any income earned on those investments will be taxed.
Set up an appointment with your accountant to discuss potential investments and ways to maximize your retirement savings.
