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RRSP or pay down my mortgage: Which is better?

Sometimes it's hard to decide what to do with spare cash. Save or pay down debt?

One of the conventional wisdoms about Registered Retirement Savings Plans (RRSPs) is that you should always make the maximum contribution.

The assumption is that the contribution – and hopefully the reinvested refund – grow over time creating a huge benefit for later on. This is true, because even though you pay tax when you withdraw the money, the compounding power of money is powerful. So it is a good idea to start early and contribute as much as possible.

But it is not a cut and dried decision. Rather, it is one where you have to consider the pros and cons of your financial needs.

Here are some other options:

Option 1 : Pay off high interest debt

If you are carrying a balance on your credit card, it is better idea to pay that off first. Its hard to believe, but my travel credit card carries a 19.99% rate of interest on balances and 22.99% for a cash advance. The Bank is paying 0.25% on a high interest savings account.

Option 2: Pay down your mortgage

At these rock bottom rates, knocking a little off principle and cutting interest costs over time goes a long way. One way to do it, is to make one extra weekly or monthly payment a year. If you run that extra payment through a mortgage calculator, you’ll be surprised how much difference it makes.

If you have a pension plan through your employer, paying down the mortgage is an especially good option. You are already building a retirement nest egg so chip away at the debt you owe for your largest single asset.

The mortgage is also a better choice if you don’t earn very much and are in a low tax bracket. The value of your refund is less and you can save that RRSP contribution for later when you are earning more.

Any one of these saves thousands in interest expenses over time and you will own your home faster.

Option 3: Compromise

Sometimes it’s hard to choose among the options.

So do a little bit of both. Put some money into your RRSP and use the refund to pay down your mortgage.

Adam Mayers writes about investing and personal finance. He is a contributor to the Globe & Mail’s Globe Advisor and a contributing editor to Gordon Pape's Internet Wealth Builder newsletter. Adam was Business Editor and investment columnist at The Toronto Star and is the author of six books.

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