If buying a home or condo is on your future wish list, you’ll want to start saving as soon as possible. Here are 4 smart ways you can start saving for a down payment and the pros and cons that go along with them.
1. Use the RRSP Home Buyers’ Plan for a down payment
The government allows first-time home buyers to use their RRSP savings to purchase a home under the Home Buyers’ Plan, tax-free up to $35,000, as long as you pay it back within 15 years. If you are purchasing with a partner, they can also withdraw the same amount, giving you a total down payment of $70,000.
- You have an instant down payment while still being able to save for retirement and you don’t need to start repaying the funds for 2 years.
- You may have enough to avoid paying the CMHC insurance.
- It allows you to use additional savings you might have (TFSA, savings account) to cover other costs associated with buying a home like real estate fees, legal fees, home inspection, title insurance and property insurance.
- If you can’t afford to cover your mortgage, all new expenses related to home ownership plus repay the money you borrowed from your RRSP, then it’s not a good idea.
- While repaying money borrowed from an RRSP over 15 years sounds great, the lost opportunity of having that money invested and compounding for you is a factor to consider.
EXTRA TIP: If you work for a company that offers an RRSP matching program, max it out! This is free money that you can then use to fund your home in the future. You can use the tax rebate from your contribution AND your employer’s contribution to either top up your RRSP or save in a TFSA or HISA for additional savings.
2. Save for a down payment in a TFSA
A tax free savings account (TFSA) allows you to hold investments like ETFs, mutual funds, stocks and bonds, allowing for the potential of more growth than a saving account, while protecting earned interest from taxes, even upon withdrawal.
Investing within a TFSA is an excellent place to save for a down payment on a home, as long as your intention to buy is 5 years or longer. This is because markets are volatile and there is an element of risk with investing, but over the long term, this risk is generally smoothed out, resulting in growth.
- You don’t pay tax on growth and you don’t need to repay it upon withdrawal, like you do with the RRSP home buyers’ plan.
- You get your contribution room back so once you are in a position to save again, you have the opportunity to do so. (TFSAs are excellent estate planning tools, making them an important part of your saving strategy).
- Investing in the market, even with tax-free growth is risky and makes you more vulnerable to losses. That is why this strategy should be used for long-term savings (5+ years) only.
EXTRA TIP:My clients (including my 3 daughters!) often tell me that after contributing to their RRSP, they have nothing left for a TFSA. My answer is always this: use the tax rebate from your RRSP to fund your TFSA each year. It might not seem like a lot, but even small amounts have the opportunity to grow and compound and will eventually amount to significant savings.
3. Save for a down payment in a HISA
If you are saving for a down payment in the next 5 years or less, than your best option is to save in a High Interest Savings Account (HISA) where growth is guaranteed by a fixed interest rate and is protected from taxes. An even BETTER option, is to hold your HISA within a TFSA so that your interest will be tax-sheltered, allowing you to keep every cent earned.
- Your growth is guaranteed so you can sleep well at night.
- You can calculate exactly how much you’ll have at a future date, assuming you contribute a regular amount to savings.
- At the time of writing this blog, interest rates are very low (ranging from 0.01% – 2.3%) so saving this way would see slow growth. (But sometimes slow and steady wins the race!)
EXTRA TIP: One of the best rates on offer for a HISA within a TFSA right now is 2.3% (at the time of writing this) through EQ Bank. This gives you the flexibility of withdrawing money whenever you need it, while keeping all the interest you earn. Karlene & I use this product and have had a great experience. You can use my link to sign up.
4. Down Payment: Make it a Combo Deal
It might make sense for you to save for a down payment in a combination of the ways listed above. Maybe you borrow a portion of money through the Home Buyers’ Plan (an amount that you KNOW you can afford to pay back), plus take savings from your TFSA – both invested funds (assuming markets are up) and those held in your HISA.
The Last Word: Invest in a Financial Plan Before You Buy
The smartest thing you can do for yourself before you even start looking for a home is to have a financial plan created by a financial expert. A good financial plan will illustrate in real numbers how much you can afford based on your current salary and estimated future earnings, your anticipated expenses, current debt and your savings goals like retirement, wedding, vacation or vehicle expenses. It will also get you thinking about things you may not have factored in: life insurance (essential if you own a home), planning for a family (child care, RESPs) and even the cost of a pet. (Do your homework; they aren’t cheap!).
With a solid financial plan in hand, you will know exactly what you can afford based on your personal life goals and can make an informed decision about how much you want to spend. This number is often much different (lower!) than what the big banks are willing to loan you.
Given the year we just had in 2020, and the one we’re currently in, there has never been a more appropriate time to remind everyone that being prepared for unexpected financial challenges is critical. When it comes to buying a home my advice is to buy less home than you can afford and you will have much more control over your financial well-being.