Holding a Mortgage within an RRSP

Written by FrugalTrader on Feb 23, 2009 filed under Real Estate

A reader wrote me last week very excited about the prospects of holding your own mortgage within an RRSP. Yes, that’s right, under the right conditions, you can use your own RRSP to fund the mortgage owing on your house and pay yourself back on a monthly basis.

As this sounds great on paper, after some further research into the topic, I’m not too sure that this type of investment strategy is meant for everyone.

How does it work?

This strategy only works if the investor has enough assets within his/her RRSP to cover the mortgage on a primary or commercial residence.

Once it’s arranged with the banks, the RRSP holder simply has to make mortgage payments, at a prearranged interest rate, back to his/her RRSP.

The Benefits

There are a few benefits of this strategy:

Keep the Interest – Instead of paying a lender mortgage interest over the years, the investor gets keep it all to himself/herself.
The Rates – The investor has the option of setting the interest rate to the highest allowable at the time.
Predictable – For those who are risk adverse, the predictable growth of the RRSP may be suitable for their risk profile.

The Drawbacks

In my opinion, there are many drawbacks to holding a large mortgage within an RRSP:

Lack of Diversification – If the mortgage is big enough, then the mortgage within the RRSP can represent a large portion of your retirement savings. There is a huge lack of diversification here as it’s invested in one asset class, fixed income. Where’s the growth? Of course, this would be different if the mortgage was in proportion to the fixed income allocation of the RRSP portfolio.
Fees are High – The high fees involved with this strategy will ultimately reduce the return. The fees include CMHC (minimum 0.50% regardless of equity), appraisal/legal fees, self directed RRSP annual fee along with annual mortgage admin fee. Here is a site that details some of these fees.
Default – Like with any mortgage, if you start missing payments and default on your mortgage, the bank will foreclose on the house to try to repay your RRSP account. So don’t think that you can forego the mortgage obligation even though you technically own the mortgage. (I guess this could be considered a benefit as well?)

Final thoughts

Even though it appears like a great idea to hold your mortgage in your retirement accounts, the high fees and potential lack of diversification makes this strategy only appropriate to a small number of homeowners/investors. Namely, those with large RRSP’s and mortgages that are proportional to what their fixed income allocation would be.

What are your thoughts on holding a mortgage inside an RRSP?

30 Comments, Comment or Ping

1. Philip in North York

Hello FT,
As far as I understand, this strategy says pay your mortgage interest to yourself rather than banks.
Do I make RRSP contribution from my mortgage payment if the mortgage is in my RRSP? If annual mortgage payment is greater than one’s annual contribution room, it does not sound good.
I’m not interested in this strategy for now – I’m in early 20s, and will open my RRSP in next year.

Feb 23rd, 2009 @ 10:12 am
2. FrugalTrader

Philip, my understanding is that the mortgage repayments do not count as “rrsp contributions”. As well, it only works when the investor has an large existing RRSP balance/portfolio.

Feb 23rd, 2009 @ 10:34 am
3. TheFatLossAuthority

WOW… never thought this was possible. You would have to be older I imagine to have enough contribution room to do this, correct?

Feb 23rd, 2009 @ 10:37 am
4. FrugalTrader

TheFatLossAuthority: As I mentioned above, it’s a matter of having portfolio/rrsp account size. That could mean years of saving, or perhaps a lucky investment that has appreciated significantly.

Feb 23rd, 2009 @ 11:26 am
5. DAvid

The strategy allows you to increase the value your RRSP at a rate clearly known to you. The idea is to charge yourself the highest possible interest rate to maximize growth of your RRSP, while still making regular contributions based on income.

It strikes me you would need a sizable income stream to make it work, as you still want to make regular contributions, as well as “overpay” your mortgage.

DAvid

Feb 23rd, 2009 @ 11:42 am
6. Dividend Growth Investor

Hmm first you own your mortgage in a RRSP. Can you then pay yourself from the retirement account if you decide to do a reverse mortgage?

Anyways I don’t like the idea of paying myself.. I somehow think I would screw it up..

Feb 23rd, 2009 @ 11:48 am
7. Nicolas

Would it be possible to mix this in with the SM?

Feb 23rd, 2009 @ 11:50 am
8. Dave

A better idea for this, is to use it for a investment property. All interest costs are deductible from the rental income and you can arrange the payments as Interest only. You could also include the CMHC fees and the SD yearly fees into the costs of the loan for the rental property.

Feb 23rd, 2009 @ 12:20 pm
9. FocusLiberty

One thing not mentioned is holding the RRSP mortgage as a private mortgage as well. For example, the owner of a rental investment could seek to pull some equity out to do whatever they wish.

They do this by providing a RRSP 1st or 2nd mortgage not greater than 85% load-to-value against the property. The terms and payments are negotiated between the two parties. Typically the mortgagee pays for all of the fees associated because it’s a part of doing business.

You can expect to negotiate between 5%-8% on a first position and 6%-18% on a second with terms lengths from 1 year up but are usually around 2-5 years. As long as the LTV does not exceed 85%, the investment could be any amount however I wouldn’t expect to do this with less than $10k.

Feb 23rd, 2009 @ 12:31 pm
10. Jay Calafiore

There are definately some intersting benefits to doing this but the drawbacks are also compelling.

Interesting post though!

Feb 23rd, 2009 @ 2:14 pm
11. CanadianFinance

I like Dave’s idea. You could charge yourself a high interest to build up your rrsp while at the same time benefiting from the tax deductions on this high interest since it’s an investment property.

Feb 23rd, 2009 @ 2:17 pm
12. mfd

I’m a little unclear on this. I’m assuming that the bank will take the funds out of your RRSP to pay the mortgage and the only growth your RRSP will get is the interest that you pay yourself as you pay down the mortgage?

If thats the case then you would have too look at what market interest rates are and your expected returns on investments are. Why do this if your mortgage rate is 4% and your expect investment return is 6%.

Feb 23rd, 2009 @ 3:05 pm
13. Dave

For investment purposes, it is a great way to use your RRSP to purchase another property.
It is like a Guaranteed Investment instead of the risky stock market.
However, you have to open a self direct account that will hold mortgages and I think there is only two financial institution that allow that. One is B2B trust, I forget the other and there is an annual fee, which the investment property can use as a tax reduction .

Feb 23rd, 2009 @ 3:52 pm
14. mfd

I agree. It sounds pretty good for an investment property but not worthwhile for your primary residence unless interest rates spike than it would work in your favor.

Feb 23rd, 2009 @ 4:08 pm
15. Nicolas

“I forget the other and there is an annual fee”

That would be TD Waterhouse with a set-up fee ($100/y) and admin fee ($200/y) .

Feb 23rd, 2009 @ 5:10 pm
16. FocusLiberty

There are 4 institutions that I’m aware of: TD Waterhouse, B2B Trust – which is Laurentian Bank, Canadian Western Trust and Olympia Trust.

mfd: Let me explain myself. If I have an income producing property (5plex for example) and I am looking to access the equity but not sell it, I could offer someone the opportunity to place a RRSP mortgage against it. So say its worth 500k and its fully paid off. I could offer you a 1st position of lets say 6% interest for 3 years if you’re willing to invest $250k. You might think its a good investment and tell your friend. Your friend wants to invest as well, but because he is second position and only can invest $50k of the available $175k, i might offer a higher interest, 12% for 1-2 years. Again, only 85% of the property value – in this case $425k since its free and clear. This provides the RRSP lender security in case the property market falls which it would have to drop 15% for it affect the RRSP portfolio. So in essence you are the bank.

Feb 23rd, 2009 @ 6:18 pm
17. mfd

@ FocusLiberty: Holding someone else’s mortgage in your RRSP is interesting. I believe that’s outside the original scope of the article which seems to focus on holding your own mortgage within your RRSP which is where I was a bit confused.

I can see the benefits of holding a second property that you own as an investment within your RRSP (which Dave discusses) but holding your primary residence not so much. You would have to look at what your RRSP investment returns are and what your mortgage rate is. If you’re paying 4% interest on your mortgage but expect to get a 6% return on your RRSP investments then its not worthwhile to bring your mortgage into your RRSP.

Feb 23rd, 2009 @ 8:53 pm
18. Thomas

I’m also interested in Nicolas’ question. It seems like most RRSP owners will have to sell a lot of equity in their RRSP to do this. Could someone who fully owns their home
1) Sell investments in their RRSP
2) Get an RRSP mortgage
3) Use the money they have “borrowed” from their RRSP to invest in a non-registered account
4) Deduct the interest (SM)?

What are the advantages and disadvantages compared to
a) just not doing the SM
b) doing the SM by mortgaging your house to a bank and not selling RRSP investments?

Feb 24th, 2009 @ 10:36 am
19. JMEDY

We’ve been holding our mortgage in our own RRSP for the last 3 years – and it’s the best thing we’ve every done. We set our mortgage rate at 7.65 % – an average rate in 2006 – and we pay our mortgage back into our RRSP monthly – just like everyone’s else’s mortgage payment. There were some costs up front to set it up (they are held in our CIBC Self Directed RSP) but looking at everyone elses portfolio in the last year, we are way ahead. We are guaranteed 7.65 % every year, with minimum expenses (no MER’s). We’ve set it up to pay ourselves for the next 15 years – which will take us to age 65. The interest we pay ourselves is not deducted from our regular yearly RSP maximum allowance – so in effect – your are actually contributing considerably more into your RSP than your maximum allowable contribution. The most difficult part was getting the bank and lawyer to do all the paperwork and figure out all the details as they were both unfamiliar with the concept. If you have any cash left in your RSP – it’s a great option

Mar 10th, 2009 @ 4:14 pm
20. SC

Very interesting article.

Would it be possible to fund any other type of loans (e.g. car loan) using an RRSP?

Mar 11th, 2009 @ 1:42 pm
21. Alnasir

Hi,

I am looking for advisor or lawyers in toronto who can assist me with setting up of the procedures and paperwork to borrow from my RRSP for a 2nd mortgage…
can anyone give me some references..

thanks
Alnasir

Mar 12th, 2009 @ 9:05 pm
22. Sharon D.

How would it work if a friend lent me $2,000 as a second mortgage? Would she have to borrow the money from the RRSP? If it was an interest only loan, would the interest I pay to her go back into her RRSP which she could use as a contribution each year? I am slightly confused about this. Any clarification would be greatly appreciated.

Mar 13th, 2009 @ 7:15 pm
23. Ed Rempel

Hi Everyone

The main problem with this strategy is that you can make quite a bit more with your RRSP invested effectively than a mortgage rate. JMEDY is doing okay on the RRSP, but has the most expensive mortgage in Canada.

Our clients have been taking variable mortgages for the last few years, so most have a mortgage rate now of 1.65%. It is shocking how much principal you pay when your mortgage rate is only 1.65%! The RRSP invesments are of course down a lot in the last year, but we still expect an equity return long term. So, 7.65% is an okay, but a bit low for a long term RRSP return, but is a horrible mortgage rate.

If your RRSP long term averages 6,8 or 10%, and you can get a mortgage between 4-5% almost all the time, then there is a spread profit that you lose, in addition to the high setup and annual fees of an RRSP mortgage. With an RRSP mortgage, your mortgage rate and RRSP return are the same. In all cases, this either means a low RRSP return or an expensive mortgage.

I realize it sounds good, but it is not the same as being mortgage-free. Your mortgage will have to foreclost on you if you don’t pay. So, it is no different (except more expensive) than having a mortgage at x rate and investing your RRSP in a bond at x rate.

Investing in a rental property is intersting, but has the same problem. The interest is tax deductible, but so would any other mortgage that you could get at a better rate.

Investing in someone else’s mortgage is also interesting, if you can charge them a higher rate. The issue is risk. Anyone that is willing to pay you a high rate is probably a credit risk. Do you really want to invest your RRSP in a mortgage that could take a big loss?

The real high rates are if you have a 2nd mortgage, but the risk here is much higher. If the mortgagee does not pay you, you cannot foreclose, unless you buy out the first mortgage as well. If that is not possible in your RRSP, then you have zero ability to enforce any mortgage payments.

SC, it can only be mortgages, not any other type of loan.

There is also not an SM version of an RRSP mortgage. It can only be a conventional mortgage, not a readvanceable mortgage.

While it may sound good, you can essentially always do better by getting the lowest possible mortgage rate and investing your RRSP effectively. Even if you only use if for the fixed income part of your RRSP, it is still not affetive.

Today, you can get a mortgage at 3.5% or less and you can buy a long term bond at a better rate. This makes more money than an RRSP mortgage, plus avoids high setup and annual fees. And of course, you can probably invest better than just having a bond.

Ed

Mar 13th, 2009 @ 8:58 pm
24. Marina

Is it possible to hold mortgage for the foreign property inside RRSP?

Apr 10th, 2009 @ 12:35 am
25. Marcel Therrine

Hi,
Can you please refer me to a good advisor or lawyer who can assist me with the paperwork and the procedures to set up “holding a mortgage within an RRSP” for my rental property.

Thanks,
Marcel Therrien

May 4th, 2009 @ 1:46 am
26. Owen

Can such a mortgage be used to buy a renovation property? Say you have a shell of a house that’s on the market for $200k. It needs $100k of reno work to make it liveable again and would then be worth $400k. Could you loan yourself $300k from your RRSP for such a project?

Aug 5th, 2009 @ 12:44 am
27. FrugalTrader

Owen, I believe you can use this strategy for an investment property. As per the actual amount, you would need to discuss the details with the RRSP mortgage provider.

Aug 5th, 2009 @ 10:56 am
28. Owen

Thanks FT

Aug 9th, 2009 @ 9:22 pm
29. FirstGenerationWealth

I cant find the CRA policy line online but I know RBC requires a self directed RSP Mortgage to be on an owner occupied property. Meaning, no secondary or vacation properties. As was said above, you run the risk of an under deversified portfolio and if it is within the right allocation the mortgage amount will probably be so small that the fee’s will negate any benefit. And intersting option, but not for most people

Sep 15th, 2009 @ 8:31 pm
30. Marian

Can you purchase a rental property through your own company and have a mortgage through your personal RRSP? Marian

Sep 21st, 2009 @ 6:15 pm