Should I Save or Invest for a Home Down Payment?

By: Ratehub.ca

If you’re reading this article, there’s a high chance that purchasing a house or condo is somewhere on your horizon. It’s also likely that you’re already aware the first step to homeownership is saving up (or investing) funds for the down payment.

Saving or investing for a down payment is undoubtedly a timely process, especially if you’re currently renting or have other costly expenses each month. It’s also harder if you live in a major metropolitan area with a rising cost of living.

This hurdle is an all-too-familiar one among many Canadians looking to purchase their first property.

That’s why this article takes a closer look at the best savings accounts and investing options for potential home buyers. It focuses mainly on using the right accounts and how to maximize the amount of time before you’re ready to transition from renter to owner.

Saving vs. Investing for a Home Down Payment

Someone trying to get enough money together for a down payment has the option of either saving, investing, or a mixture of both. 

Strategies for down  payment saving and investing are endless, but knowing how specific accounts work is the first step in developing the most effective strategy, as all saving and investing accounts come with their own benefits and drawbacks.

Below, we’ll show you how a Tax-Free Savings Account (TFSA), a Registered-Retirement Savings Plan (RRSP), and a High-Interest Savings Account (HISA) all pose as suitable savings account options for future homeowners.

We’ll also take a look at various investment options and products, and whether they’re suitable for a down payment saving strategy.

Saving for a Down Payment on a House or Condo

Saving is the “slow-and-steady” approach when it comes to building wealth, but it’s also the safest and easiest method of money management.

There are three accounts that you can use to save up for a down payment, all of which come with benefits unique and useful for potential home buyers.

These accounts are the Tax-Free Savings Accounts (TFSA), the Registered Retirement Savings Plan (RRSP), and the High-Interest Savings Account (HISA).

Tax-Free Savings Accounts (TFSAs)

Most Canadians over the age of 18 or 19 already have a Tax-Free Savings Account (TFSA), but a majority of TFSA holders are unaware that the account is capable of much more than just saving cash.

And that’s no fault to their own; after all, the account name is a bit of a misnomer, since TFSAs can hold various types of investments as well.

TFSAs earn tax-free interest, which means that you can make more money on your money without paying tax.

Using a TFSA allows you to keep more money in your account, which means more money towards a down payment.

Here are a few additional benefits that come with a TFSA:

• TFSAs can hold cash savings along with various investments, including GICs, mutual funds, ETFs, stocks, and more,
• TFSAs earn tax-free interest or gains and permit tax-free withdrawals, and
• TFSAs come with a yearly contribution limit that increases for all Canadian citizens at the beginning of each new year.

Registered Retirement Savings Plan (RRSPs

You may have guessed that the Registered Retirement Savings Plan (RRSP) is a saving account meant for retirement. However, like the TFSA, the account offers more flexibility than most people might assume.

Along with holding cash savings, RRSPs are also investment accounts, meaning various types of investments can grow sheltered from tax.

Unlike the TFSA, RRSPs do not permit tax-free withdrawals are taxed according to the account holder’s income tax bracket. The contribution room in the account is lost with each withdrawal. 

However, RRSPs come with the unique Home Buyers’ Plan (HBP), a program that allows Canadians to withdraw up to $35,000 tax-free from their RRSP. 

It is essential to know that the amount withdrawn from the RRSP HBP must be re-contributed within five years following the withdrawal.

Some significant factors of the RRSP include:

• RRSPs can hold cash savings, as well as various investments, such as GICs, mutual funds, ETFs, stocks and more,
• RRSPs reduce the yearly income tax through contributions,
• RRSPs come with an annual contribution limit, and
• RRSPs are taxed upon withdrawal, except through the Home Buyers’ Plan (HBP) or the Lifelong Learning Plan (LLP).

High-Interest Savings Accounts (HISA)

Saving accounts are suitable for virtually any type of financial goal, and all work the same unless stated otherwise by the account provider.

High-interest savings accounts generally offer higher interest than registered accounts, like the TFSA or RRSP.

Using a high-interest savings account is a great way to save for a down-payment. However, since interest is taxable, it might be more suitable for you to max out your TFSA or RRSP first.

Some features of a high-interest savings account include:

• High-interest savings accounts offer interest over 1.05%,
• High-interest savings accounts come with taxable interest,
• High-interest savings accounts generally come with limitations on deposits or withdrawals, with conditions that vary depending on the account provider, and
• High-interest savings accounts do not come with contribution limits.

Investing for a down-payment on a house or condo

Investing your money towards a down-payment is another strategy many Canadians take to earning enough money for a down-payment.

Below, we’ll discuss how GICs and robo-advisors can earn you enough money for a down-payment.

Guaranteed Investment Certificates (GICs)

Guaranteed Investment Certificates (GICs) are perhaps the safest type of investment available in Canada. The principal amount invested in a GIC is guaranteed, as is the interest that the investment earns.

GICs are term deposits, meaning they’re inaccessible for the duration of the investment’s term. Terms tend to range as brief as 30 days to as long as ten years. However, most people tend to invest in GICs with one-year to five-year terms.

For potential homebuyers who can estimate the amount of time they’ll need to save for a down-payment, GICs are a suitable method of investing.

Some important notes about GICs include:

• Interest earned in GICs is taxable unless placed in a TFSA GIC or an RRSP GIC, and
• Investments are insured by the CDIC, unless provided by a credit union, which comes with provincial insurance.

Robo-Advisors

If you haven’t heard of robo-advisors yet, you’re not alone. Robo-advisors are a modern concept offering Canadians a more affordable passive investing option.

By using a Nobel-peace prize-winning algorithm, a robo-advisor offers the services of a financial advisor at a fraction of the cost. 

Robo-advisors allow Canadian investors to invest their money in various types of investments according to their risk tolerance.

Robo-advisors manage a basket full of different investments, known as an Exchange-Traded Funds (ETFs). ETFs can be riskier investments than the average savings account or GIC, but also yield higher returns in a shorter period of time. You can, however, adjust the amount of risk you’d like your investments to have.

So, should I save or invest for a down payment?

Whether you save or invest for a down payment, a general rule of thumb is to ensure you’re using an account that does not charge you tax on your deposits, if possible. 

That means using all of the room in your TFSA or RRSP up to their yearly limits before using any non-registered accounts.

Remember: saving for a down payment effectively means keeping as much of your money in your pockets for as long as possible. That starts with saving and paying less on taxes, both of which will inch you closer to your dreams of homeownership.