The wiser way to build or rebuild your credit
( Jan 21, 2018 - Kingston, ON ) One of the most common questions I'm asked in my role as a Mortgage Agent is, “Should I get a credit card in order to build/rebuild my credit?”
This is an often-heard piece of advice – the theory is that a credit card is a relatively easy type of credit to obtain, and that by making regular payments on it, someone with poor or no credit can increase their credit score and the likelihood that they will be approved for a mortgage later on.
While it’s certainly an adequate way to do it, and many people have successfully used responsible use of a credit card to increase their credit scores, there is a much better way to do this: the RSP loan.
An RSP loan is a loan taken out for the purposes of contributing these funds to a Retirement Savings Plan. The loan funds are then invested inside this plan, allowing you to save on your income taxes as well as to earn a return on your money. If your goal is to build up your credit in order to buy a home, borrowing via an RSP loan has a number of advantages over a credit card:
1) Interest rate: It’s not uncommon to see credit card rates of 18-21%, or even higher! An RSP loan, on the other hand, is typically at bank prime+1%, or about 4% at this time. That’s a double-digit difference – I think we’ll agree that money is much better staying in your pocket.
2) Taxes: When you use your credit card, you generally don’t benefit from any tax savings. When you contribute your funds from the RSP loan, though, you will be able to deduct that from your income taxes. In many cases and depending on circumstances, for every $100 you borrow on an RSP loan, you could get back another ~$30 on your income tax refund that you wouldn’t otherwise have gotten. So, let’s say you borrow $10,000 via an RSP loan – that could be another $3000 you’d save on your taxes and could put towards your downpayment instead!
3) Downpayment: Borrowing on your credit card and making payments on time does help build your credit, but it does nothing to help you build a downpayment, another critical piece of the home-buying process. The funds you contribute into your RSP, though, can be withdrawn by a 1st time buyer for use as a downpayment under the Home Buyers Plan. You then have the money you saved on your income taxes, as well as the money you put into the RSP itself, for your downpayment.
4) Set payment schedule: Many well-meaning borrowers have the best of intentions when they borrow on a credit card. They intend to make the payments on time, but forget to do it, or make an insufficient payment, or make it at the wrong time. The very thing that was meant to increase their credit score ends up doing the exact opposite because it doesn’t have a set payment schedule. An RSP loan, though, comes out on the same day every time, automatically, and the amount is always the same. That can make all the difference in building the discipline it takes to build or re-build your credit.
5) Ease of approval: getting a credit card is not as easy as some make it out to be these days, especially for those with no or poor credit. I often help individuals who have become discouraged because they have been declined multiple times for a credit card. Because credit cards are an unsecured debt and are not used for the purchase of an asset, and are often a big factor in people running into financial difficulties, financial institutions have been tightening the criteria for credit card approval more and more. RSP loans, on the other hand, are specifically designed to contribute to someone’s savings, increase their networth and strengthen their financial well-being. So, lenders are generally more lenient in the criteria they use to approve RSP loans, accepting somewhat lower credit scores and higher debt servicing (the % of a person’s income that goes towards paying debts).
Using this strategy, I’ve helped clients who didn’t expect to be able to buy their 1st home for 3-4 years, do it in 6-12 months. So, is an RSP loan right for you? It depends on your circumstances. If you would like to talk about it further and see if it makes sense for you, give me a call or send me a text any time at 613-484-0863.