If you’ve found yourself in a higher-than-average tax bracket over the past number of years, you’ve almost undoubtedly decided to invest in an RRSP at some point to lower your taxable income and help save for your retirement.
While RRSP’s have their place and are a great tool for lowering your overall taxable income and saving for your retirement, there are limitations to how you can use them to your benefit.
1) You can leverage your real estate assets, unlike RRSP’s.
For instance, if you want to purchase a $500,000 property you can get away with putting as little as 20% down, or $100,000, and borrow the other 80% ($400,000) by using a mortgage registered against the property. So, say your $500,000 property appreciates by 2% in one year ($10,000), your initial investment of $100,000 actually grew by 10% because it only cost you $100,000 to enjoy the equity increase of $10,000 on the full $500,000 value.
The benefit of leveraging your money allows you to purchase up to 4 times more property (asset) than investing in an RRSP alone because you are able to use as little as a 20% down payment towards your real estate purchase.
2) You can access your real estate’s equity without having to sell or “cash-in” your investment, unlike your RRSP’s.
Say your property has increased in equity over the last couple of years and you want to access that growth without having to sell your property.
Instead of selling your property and having to pay the litany of fees associated with disposing of a real estate asset (commissions, capital gains tax, sale preparations, etc.), along with pulling the plug on your real estate investment retirement plan, you can simply re-finance the property (increase the mortgage amount) to pull out these additional funds while still maintaining ownership and enjoying the investment which allows you the advantage of having more purchasing power readily available.
Most investors would use those additional borrowed funds to leverage against another real estate purchase, further improving your retirement investment position.
With RRSP’s, any withdrawal of funds from those accounts are immediately added to your taxable income for that year. Some people would argue that because RRSP’s are more “liquid” than real estate (investment can be sold and money accessed relatively easily) they are a better investment option, however, real estate allows you the opportunity to keep your money fully invested in your asset while at the same time pulling out additional funds against it, so I would argue that, although RRSP’s are more liquid, real estate is a more versatile investment option allowing you to more easily grow or “scale-up” your retirement nest-egg.
3) Someone else pays off the asset for you, unlike your RRSP’s.
I really think this is a major point that most people miss.
Using the 20% leveraging example above, if you take $100,000 and purchase a $500,000 property, you would have roughly $400,000 left on a mortgage. If your mortgage is for a 25 year term, at the end of the 25 years you would own a real estate asset fully paid for which you only paid 20% of the purchase price using your own funds. With RRSP’s, you are the sole contributor and, therefore, can only rely on your own contributions while a real estate investment allows you to access an additional income stream which will eventually pay off your mortgage for you until you own the asset outright.
So, let’s say that at the end of the 25 year term, your $500,000 property only appreciated by 1% each year for 25 years. This would put the value of your asset at around $640,000.
In order for $100,000 simply invested alone in an RRSP to grow that same amount, it would have to grow at a rate of approximately 7.75% continually each year, compounded for 25 years.
If, at the end of the 25 year term, your property averaged only 3% appreciation each year for 25 years, this would put the value of your asset around $1,046,000. Your $100,000 invested into RRSP’s alone would have to appreciate at around 9.8% each year just to keep up.
As a point of interest, the Guelph, Kitchener/Waterloo and Cambridge market’s average median sale price increase per year between 2008 and 2019 was 6.16%. The highest two years were 2016 (11.46% increase) and 2017 (20.83% increase). So the potential for equity increases over an assumed (and modest) 3% each year does exist.
This is also only comparing your assets values at the end of the 25 year term and does not include any rental income you would enjoy along the way from a real estate investment as your mortgage amount is reduced and your net rental income increases.
Clearly, RRSP’s have their place when it comes to your overall financial strategy, but deciding to invest in real estate along side of them can offer you many fresh opportunities that you may not have ever thought of or experienced before.
With the right type of guidance and advice, real estate can be a wonderful improvement to your overall financial situation when RRSP’s alone simply aren’t cutting it.
Until next time, Happy Investing!