Taxes and RRIFs

Q – What are the pros and cons of “upvesting”? This method of investing is to reduce the amount of tax you pay on your registered funds when withdrawing them from a RRIF.  I am just reading a book titled “DON’T JUST INVEST – UPVEST”.  You borrow the amount of money that is in your RRIF and set up another unregistered investment pot.  Then you withdraw from the RRIF and repay this pot.  The interest you pay on your unregistered investment is tax deductible, which offsets  the tax you would pay on the income from the RRIF.  This plan is set up over a period of 20 years at which time you have repaid the total loan.
This is being recommended since we do not need the RRIF income at this time.  Also it is to avoid paying taxes on the income from the RRIF.
Any comments would be appreciated. – R.R.

A – I have not read the book, so I am at a disadvantage. However, the math on this can be mind-boggling. So can the permutations and combinations of how it will all work out. Plus, there are some issues to consider.

1) What will you use as security for the loan? Regiered plans may not be used for this purpose. Will your home equity be the security? If you have no collateral, a financial institution may not advance the money or may charge a much higher interest rate.

2) What will the loan proceeds be invested in? A safe GIC, that will pay about 5% a year, which will be taxable, or something more risky like stocks and/or equity funds, which will expose you to risk?

3) The loan interest will fluctuate with the general movement of interest rates. If rates rise steeply at any time in the next 20 years, will you run into financial problems? At 6% interest, the monthly payment to amortize a $100,000 loan over 20 years is $716.44. At 9% it jumps to $899.73.

4) You say the loan interest will offset the RRIF withdrawals for purposes of tax payable. That assumes the interest on the loan in any given year will exactly match the amount taken from the RRIF. That is highly unlikely. For example, at age 71 the minimum annual withdrawal from a $100,000 RRIF is $7,380. The interest payable at 6% on a $100,000 loan is roughly $6,000 (not exactly, because monthly payments reduce the principal). So in this example, you have $1,380 exposed to tax. You could increase the amount of the loan to generate the interest cost to match. But remember that the minimum withdrawal requirement increases each year, and interest rates will fluctuate.

This idea sounds attractive in theory. Whether it can actually be made to work in practical terms depends very much on the circumstances of the individual and the assumptions that are made about interest rates and how the loan money (and the RRIF money) is invested.

I suggest you explore the idea in depth with an independent financial advisor, perhaps someone who charges on an hourly rate for services rendered and has no vested interest in whether you go this route or not. – G.P.