[...] In part 2, we'll look at the criteria when evaluating a mortgage for The Smith Manoeuvre. [...]

Where is everyone getting the idea that the SM involves the investments paying the loan interest? That would be just ordinary leverage.

Once you get the right mortgage, this will be clearer. Royal is one bank that will convert your existing 1st mortgage and your credit line into a Homeline. Within the Homeline, they will let you keep your great mortgage rate and existing mortgage due date, and it will now be in one mortgage product combined with your investment credit line.

Then, as you make each ordinary mortgage payment, you automatically gain more credit available in the credit line. You can use this additional credit to both pay the interest on your existing tax deductible balance and then you can invest the remainder.

In the future if you move your mortgage, then move the entire readvanceable mortgage (mortgage and credit line) to your new bank.

If your Royal mortgage person won’t do this conversion, then we can refer you to our contact at Royal.

The SM is about borrowing back the additional principal gained by each mortgage payment. It may or may not involve a lump sum.

The investments don’t need to pay out a penny of income. The large long term benefit comes when you can leave your investments to compound over many years.

The key to doing the SM without using any of your cash flow is capitalizing the interest. For example, if your bi-weekly mortgage payment of $1,000 includes $500 of principal, then you gain $500 available credit in your credit line automatically. If the interest on your existing investment credit line is $200, then borrow $200 to pay this interest. That leaves you $300 that you can invest every 2 weeks.

Does that make it clearer, Alex?

Ed

on your 1st point, i think all i’d have to do is change my secured credit line to a homeline (in royal’s case) which is basically what u suggest. i don’t think it has anything to do with the actual 1st mortgage…does it??

ed, i’m still a bit unclear as to how SM works with ‘no money out of your pocket’?? if i’m borrowing from the credit line- i have to pay that interest owed monthly (eg. $500 per month) but if my investments are not producing enough of a dividend- (or i choose to reinvest into a DRIP) & my tax refund is not coming for a whole year- where is this money coming from??? do you draw funds from your credit line & transfer to your bank account to be debited for what you owe? also, if i’m on a straight commission or self-employed- i’d basically just be reducing my taxable income- not receiving any refund- how does SM affect me specifically???

thanks!

I may have some good news for you. Royal is one of the banks that will convert a mortgage and credit line into a Homeline plan and allow you to keep your great rate and the same maturity date.

You will probably have to pay legal and appraisal fees in this case, but you can convert to a readvanceable mortgage and do the SM more fully.

I don’t quite understand your other point, but when the mortgage comes due, you can move the mortgage and credit line together to wherever you want.

Ed

I can only find a reference online in a web search to the Wash Out Rule in the US specific to the IRS.

What Canadian tax rule specifies 30 days?

Thanks to all the contributors this is a VERY informative thread, (i.e. Don’t cross or revenue and borrowing streams!)

thanks

mike,
i don’t believe i have any non- deductible purchases on my credit line? it is currently used somewhat infrequently.
but i can see, if used more often, how confusing it can get.

Mike

Interesting question. The answer is – maybe, at best. Assuming you can track it exactly and prove it, you should be fine, but that will be much harder than you think.

You may be able to track the original purchase, but what happens with all future transactions? When you pay down the credit line, did you pay down the deductible or non-deductible part? CRA might take a different position and claim that all payments were applied to the deductible part.

With the SM, you end up with many transactions, including purchases every few weeks, perhaps of multiple investments. If you capitalize the interest, that is another bunch of transactions, and it takes detailed tracking to trace how much interest capitalization was the deductible vs non-deductible interest.

It is possible to do, but having a separate credit line is much better and safer. That also allows you to capitalize the interest properly.

If you have them together, you should try to separate them if possible at your bank. Is there a problem separating them? Where is your mortgage and credit line, Alex?

Ed

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There were quite a few posts about the new Canadian Tire All-In-One. We checked it out and it does NOT work for the SM.

It is only launched as a trial in 3 cities so far and is almost exactly like Manulife ONE. It is a complete chequing account and also a mortgage and the rates are .05% better than Manulife ONE across the board. And it does not have the $14 fee.

However, the one problem is that it does not allow sub-accounts – it is just one big account. Therefore, there is no way to keep the tax-deductible interest separate from the main non-deductible mortgage.

Perhaps they will improve it once the trial is over, but so far it will not work for the SM.

Ed

[...] This is part 3 of a 3 part series. In case you missed the other articles, here is part 1 and part 2.  This final article of the series will help you decide whether or not to cancel your existing [...]

in fact, it is a taxable benefit starting when it is lower than the prescribed rate. For year or so, it was not taxable (the prescribed rate was 3% something). Since last year, the rate went up to 5%, which means that I’m only taxed on .75%. In the end, I still get 1.7% off prime :-D

The monhtly withdrawal is automatic. I provided a void cheque for the first time and everything is automatic since then. In fact, the all-in-one could be used as a regular account, I don’t know why they told you the opposite at the bank.. strange :-S!

I see why you like it. The 2% subsidy is a taxable benefit, though. So if you are in a 40% tax bracket, you only get a 1.2% effective reduction from prime. That is still a great rate though. Can you get it for anyone else???

Is the monthly withdrawal automatic, or do you have to do it your self (on-line or with a cheque)?

Ed

In regards to invest directly from one sub-account, I do have monthly withdrawal that take money from one sub-account and deposit it into my brokerage account. I hope this is what you mean by “Allows investing directly from the credit line.”. If not, I don’t know what you are referring too. Can you confirm?

You’re in Manitoba? I’m originally from Manitoba, as well – Winnipeg.

The odd case where Manulife One may work is where there is little or no mortgage, where the client is very accurate and tends to carry high chequing and savings account balances.

If there is little or no mortgage (like mine) then the SM is entirely in a credit line at prime, just like anywhere else. It is the fixed mortgage rates (and lack of a variable below prime) where Manulife One tends to not be competitive with the fully discounted rates at other banks.

I forgot to mention in my fee disclosure in the articles that financial advisors would get paid a finder’s fee from Manulife. Financial advisors often recommend it for that reason, but we have not recommended it for any clients (although I have one myself).

M1 advances automatically, but requires that the client is very careful in tracking all their tax-decutible transactions. You can only invest automatically from the main account (which is your main mortgage at prime), but then need to make manual transfers to a sub-account used for the SM. The interest can also be compounded manually. Investing additional amounts (like Daniel in the last blog) will also mean you have to do a manual transfer from the sub-account.

It works, but can easily be messed up by the client, so only a very accurate person should use M1 for the SM.

There is also the $14/month fee. There is usually some saving, because you essentially get daily interest on your chequing account. This is a plus for those that normally carry high chequing & saving account balances. You generally should have average balances in your chequing and savings accounts of at least $4-5,000 in order for this interest savings to cover the $14/month fee.

Ed