Mortgage Interest Tax Deductible (you get tax refund on your mortgage interest)

[ashedfc]

Yes its true, your mortgage interest can be tax deductible, so you get a large tax refund on your mortgage payment. And still retain the principal residence status of your 1st home (so all the price gain in your 1st home is 100% tax free).

[Zonny]

Wha? I've never heard of mortgage interest being tax deductable. I use Ufile for my taxes, there's certainly no line to put it on.

I see now that you wrote *can* be tax deductable. What's the criteria?

Z

[Woofy]

Wha? I've never heard of mortgage interest being tax deductable. I use Ufile for my taxes, there's certainly no line to put it on.

I see now that you wrote *can* be tax deductable. What's the criteria?

Z

Hi, Zonny.

I am not sure what methodology that the OP will be recommending.

But I know that there is a method out there called the Smith Manoeuvre, by a Mr. Fraser Smith.

One of our Canadian tax rules allow us to deduct the interest paid on loans if we use that loan money to invest in income producing properties or stocks (eg. rental property, dividend paying stocks). As an example, if I borrow $1,000 to buy ABC, and incur an annual interest of $50, I will be able to deduct that $50 interest in my next year's tax return, and get back some refund.

The Smith Manoeuvre capitalizes on this tax law, and basically recommends that we borrow against the equity in your home, invest the proceeds in income producing entities, deduct the interest in your next tax return, and use the tax refund to further pay down your mortgage.

You do this until your mortgage is completely paid off, and by the time you pay off your mortgage, you would have your house clear, a large enough investment portfolio, plus an investment loan whereby the interest is tax deductible. This is the basic strategy.

Personally, I find this a workable strategy. You just have to be meticulous in your paperwork and documentation, and make sure you use your home equity loan purely for investing in income producing entities. If you use it for other types of purposes, such as home renovations or to fund vacations etc, then it gets a little tricky in calculating the portion of the interest that is deductible.

Also, you will need to be careful when selecting investments that you are buying with the loaned money. When I last read about this strategy, which is some time back, there were cases where the CRA deny tax deductions on the interest because the money was not used to buy income producing entities.

An example of that will be if you buy a stock that does not pay out dividend or interest, and you buy it purely for capital appreciation, then CRA may not consider the interest tax deductible.

There is counter-argument saying that stocks that do not pay out dividend or interest now always have the potential for future dividend payouts, but that is a different discussion altogether!

Hopefully, this gives you a brief idea of how you can convert your mortgage interest into tax deductible interest.

[tray]

I believe interest on your mortgage is tax deductible in the states, but I don't think so here.

[blackpup]

Like woofy mentioned, if the mtg was used to purchase investments, such as an income property or other types of investments, a portion of the interest can be deducted from your income.

I don't get the thumbs down on this post...thumbs up to op, alot of peeps don't know about this.

[Zonny]

Woofy - yes, I did a bit of Googling (well, Swagging really ) on the subject and the Smith method is what came up. Sounds a bit complex for the average person who doesn't have knowledge of financial products (like me!).

I have a mortgage, RRSPs and an RESP for my DS, but I think that this is a bit beyond me. Guess I won't be taking a tax deduction on the mortgage interest!

I don't know where the thumbs down came from, it was there before anybody posted to this thread.

Z

[screamy]

I have investigated this option myself, fairly exhaustively. There is a company that runs the Tax-Deductible Mortgage Program and talks about it at TDMP.com.

I'm not sure I would recommend them though...there are lots of things they don't talk about upfront (or didn't when I went to see them). It's a personal choice, of course, but I've got a finance background, and there can be more to it than meets the eye.

In addition to Woofy's excellent description above, you need to take into consideration the following (non-exhaustive list):

- you need to have good credit and at least 20% equity in your home.

- the MERs on the mutual funds they encourage you to buy can eat in to your portfolio returns significantly (I would buy ETFs, myself, if I was looking for something to replace a fund - they charge a fraction of the MER).

- you need to be able to qualify for a HELOC (home equity line of credit). I mention this because there are a lot of SCers who are on here looking to buff up their credit and get out of debt, both of which are very good things! Just don't think you will necessarily automatically qualify, not everyone does these days.

- if you have a pristine, only-for-the-tax-deductible-mortgage-scenario-use line of credit, can remember to make a couple bank transfers a month, and can keep decent records, you don't need to pay someone else $40/month to do some automated transfers for you. Their fee is tax deductible too, but when you analyse the service, it's essentially all they're doing for you.

- you will also need to have your home appraised. That only costs a couple hundred dollars, but it's a cost that was not disclosed at their seminar when I went.

Having said all that, if you can stay the course - the benefits are negligible in the first few years, but if you also employ the "cash damming" techniques described by Fraser, they quickly snowball - and understand that you are paying interest only on a loan (which can affect your credit rating, although anyone looking at your total portfolio will quickly see that you have offsetting assets) AND that the value of your portfolio can decline...that can be nerve-wracking for people....then it's worth looking into.

Certainly, I would recommend that anyone interested in the strategy borrow "Is Your Mortgage Tax-Deductible" from the library, or go leaf through it at Chapters...for about $20, it's a good read and not especially complicated.

As for the thumbs down, my guess would be that the OP, who appears to have joined just this month, is suspected of either spamming or soliciting interest for his own gain. I have no way of knowing if that's true or not - but it's a theory. Or maybe someone thought he was wrong about mortgage interest being deductible. Technically, that's true - the CRA doesn't allow it to be deducted. But you can borrow against your house, buy specific kinds of investments with the borrowed money, and deduct *that* interest.

[ashedfc]

This is a financial planning strategy, But for sure its not of everybody.

[BestRates]

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[Tylers]

As an FYI - this doesn't actually make your mortgage interest tax deductible - you can only deduct as much interest as the portion of the loan that is purchasing your investments. This is certainly a very high risk manoeuvre.

Something else to consider - when you sell your home you get to keep the profit tax free. When you sell the investment you've put your money into, you'll have to pay tax on your capital gains, dividends and/or interest.

On a positive note for leveraged investing - ask about segregated funds. They provide downside protection (guaranteed) while still enabling you to write off your interest if you've borrowed to invest.

[ashedfc]

As an FYI - this doesn't actually make your mortgage interest tax deductible - you can only deduct as much interest as the portion of the loan that is purchasing your investments. This is certainly a very high risk manoeuvre.

Something else to consider - when you sell your home you get to keep the profit tax free. When you sell the investment you've put your money into, you'll have to pay tax on your capital gains, dividends and/or interest.

On a positive note for leveraged investing - ask about segregated funds. They provide downside protection (guaranteed) while still enabling you to write off your interest if you've borrowed to invest.

In 2008 & early 2009, when the markets tanked, segregated Fund all went down with the markets, & since March 2009 in the recovery they all are lagging behind.
1. Guarantees are only after 10years or more (not on the market value).
2. Guarantees are 75% of principal amount invested in 10yrs (& you pay an extra fee for that) Some are 100% of principal amount invested but they charge even a higher fee.
3. You can reset the guarantee amount (if the market goes up), but you also postpone the 10yr period.
4. None of the Segregated Fund had paid the guarantee amount on maturity (they have only collected the fees) in the history of Canadian Segregated funds.
5. If you sell then you get the market value (not the guarantee amount).

If the world ends like late 2008, then Insurance companies issuing Segreagted funds will go bankrupt, & if the world does not end, then why compromise on growth.

In a 10yr time a frame Segregated fund will put you over 10% behind (extra MER Fee coumponded)

Some Segregated Funds have a fee over 4% (so a growth of 4% will provide a 0% gain in the investment)

[ashedfc]

For the Mortgage interest tax deductibility to work effectively - following things are required in Canada.
1. Principal residence status of the house should be maintained.
2. Interest of only the portion used for investment is tax deductible on Line 221 of T1 general (under Interest expense & carrying charges).
3. Readvancable mortgage is preferred -As you pay your mortgage, your principal amount paid gets available as a line of credit.
3. Use the Line of credit to borrow & invest in a corporate class mutual fund (which allows switching within its class without triggering capital gain)
4. A distribution can be provided from the corporate class fund to cover the interest cost of the line of credit.
5. Every month mortgage is paid, so every month, the equivalent amount of principal amount paid can be withdrawn from the line of credit & invested.
6. This creates a monthly automatic purchasing, which gives better pricing on the purchase of corporate class mutual funds.
7. One should also keep in mind that the overall debt stays the same, only the non-tax deductible (mortgage portion) is getting into tax deductible (line of credit portion). However, the investment account will build-up over time.

ALL THIS HAPPENS FOR FREE & TAX DEDUCTIBLE BENEFITS (tax refunds) ARE EXTRA

So,
If the economy does worse - Buying every month, & a lower interest rate on the line of credit helps.
And if the economy does good - Then the growth in invested amount helps.

[Tylers]

Ashed -
4 is incorrect. I would assume that going forward that no new contracts will likely pay out, but previous contracts allowed you to hold full equity funds in the segregated contract and they have paid out.

As for the fee - I agree, you are really only paying for peace of mind. But for some people, 60 basis points can be worth peace of mind.

[ashedfc]

Ashed -
4 is incorrect. I would assume that going forward that no new contracts will likely pay out, but previous contracts allowed you to hold full equity funds in the segregated contract and they have paid out.

As for the fee - I agree, you are really only paying for peace of mind. But for some people, 60 basis points can be worth peace of mind.

I believe you are referring to GMWB (previous contracts with 100% equity). These are normal segregated fund with an extra GMWB Fee on top of it. Like the Income PLus from Manulife, Elite Plus from Sunlife, Class Plus from Empire Life.

I was referring to use a Corporate class mutual fund, where the fees itself saves you over 1.5% per year. Most important is you can switch in between different asset class, without triggering any capital gain. If you are using a distribution approach, then you can use a T-6, T-8 series funds. Thats more than enough to cover the interest cost on the home equity line of credit, & create a surplus money every month, which can be re-invested in the same fund to create dollar cost averaging, & increase future distributions.

[Shirnette]

I first heard of this (Smith Manoeuvre) from watching "Hot Property" years ago on CP 24.