Many people think that it makes sense to pay off high interest debt by withdrawing from their RRSP because it will get rid of their interest payments. In most cases, I agree with paying down high interest debt by any means possible. But, before making an early withdrawal from an RRSP — for any reason — you should understand your tax situation.
The tax implications of deregistering an RRSP are too frightening to even think about. Withdrawals from an RRSP account is added as income for the year which is then taxed at your marginal tax rate. To help pay for this year end tax, the RRSP withdrawals face an initial withholding tax. Note that the withholding tax applies to EACH withdrawal and not the total annual withdrawal.
If you have unregistered investments – mutual funds, GICs – that are not in an RRSP, then it may make sense to sell those investments and pay off the debt. Then rebuild your investments. Take the money you would have used monthly for debt repayment and start an automatic investment plan.
If you’re considering withdrawing from your RRSP to pay debt, contact me first. There are ways you can eliminate your debt AND keep your RRSPs.
