Save Money on your Taxes using The Smith Manoeuvre
Get the most out of your mortgage
In Canada, homeowners and residents aren't able to deduct the interest paid on their mortgages from their taxes. Most Canadians wish that instead, they could reap the benefits of a tax-deductible mortgage interest that American homeowners have. However, luckily for Canadian homeowners, there is a loophole that can help, the Smith Manoeuvre.
What is the Smith Manoeuvre and how can you use it?
For starters, the Smith Manoeuvre was developed in 2002 by financial planner Fraser Smith in his book. Broadly, the Smith Manoeuvre is what some call a conversion strategy. Since mortgage interest isn't tax-deductible for Canadian homeowners, this method provides a way to convert mortgage interest into tax-deductible investment loan interest. What this means is any interest paid on a loan used to purchase investments (such as stocks, mutual funds, etc.) is tax-deductible.
The premise of the Smith Manoeuvre is to take the equity out of your home and use it to invest. Many Canadians already take equity out of their homes, for example refinancing. So what makes the Smith Manoeuvre different from refinancing and why is it better?
Well for starters, with refinancing there are many fees that come along with it. Since you're breaking a mortgage agreement, that gets followed up with financial penalties and appraisal fees. That's why the Smith Manoeuvre presents itself as a better option for Canadians since those fees aren't attached. Basically, the Smith Manoeuvre is a home equity line of credit, also known as a HELOC.
Read More: New Rules For Reverse Mortgages And HELOCs By OSFI
To carry out this strategy, Canadian residents will need to get a mortgage that is re-advanceable. This is comparable to a mortgage line of credit, however, with the re-advanceable mortgage, there are two important elements. A mortgage and a line of credit allow you to both pay down and borrow from. As a result, the amount you can borrow from your home equity line of credit grows with each payment you make on a re-advanceable mortgage (HELOC).
Risk vs Reward
When used properly, the Smith Manoeuver can have great benefits and result in a tax refund. But since this method is using a leveraged investment as a way to claim interest through tax deductions, it's important to consider the risk associated with it.
Before starting this process, it is important to sit down with your financial advisor to discuss the pros and cons of the Smith Manoeuvre considering your financial status. For example, if you are someone who likes to play it safe, then this may not be the financing avenue for you.
Read More: Hybrid Mortgages In Canada
With the Smith Manoeuvre and depending on how you approach the method, you probably wouldn't like to see a large fluctuation of value in your portfolio. However, if you're someone who likes taking risks and you have a keen eye for good investments, then Smith Manoeuvre might be a good option for you. Another important point to remember is this method is strictly a conversion strategy. In other words, it doesn't let you reduce your debt.
The Smith Manoeuvre's main goal is to pay off your regular mortgage and then move the debt to a line of credit that can be deducted from your taxes. At the end of the day, it's about evaluating whether this method is for you because like most financial strategies there are both pros and cons.
NBC's Interest Rate Hike Speculated To Bring Mortgage Market Stabilization
Over the past year, Canadians have watched the continued climb of interest rates. This September, the National Bank of Canada is expected to raise the rates once again, however, economists predict that this could be the final hike for a while. This is the fifth rate increase this year as the Bank of Canada continues to grapple with rising inflation. Economists Benjamin Tal and Karyne Charbonneau predict the hike to hit the 75bps mark, amounting to the key target rate of approximately 3.25% as detailed in a recent report.
In a TD report, economist Rishi Sondhi explains that 5-year bond yields are predicted to decrease from 2022 to 2023 as consumption slows due to elevated interest rates. This applies pressure not only on household debt but mortgage debt, which Tal and Charbonneau explain a large quantity was accrued in an environment where the low-interest rate was conducive.
Read More: Canada's Interest Rates Still Not The Highest They've Ever Been
Mortgage Debt & Household Sensitivity
Though current interest rates are considered lower by comparison to historical rates, the pressure of inflation alongside the burden of increased rates will indicate a slow in consumption. Benjamin Tal and Karyne Charbonneau say that "...households’ fundamentals are now generally stronger than seen at the eve of previous hiking cycles." They also state that the "...structure of household debt will shield many borrowers from the full sting of higher rates in the coming year." In Q3, the Bank of Canada reported successful results for portfolios containing home equity lines of credit and mortgages.
Despite progress in the latter, with rising interest rates looming, a slowdown is predicted to follow. Considering this, it is noteworthy that 11% of NBC's mortgage borrowers are investors, and 31% of its mortgages have variable interest rates. Taking into account the percentage of mortgages that utilize variable interest rates alongside inflation, this suggests that households will have a higher sensitivity toward raising rates.
At this time, economists don't predict further rate hikes in 2023, however, there is also no indication that interest rates may be lowered in 2024. In essence, Canadian households will have to burden with the increase in rates and inflation however, the capacity to maintain consumption growth at the current rate should preclude the Bank of Canada from loosening monetary policy in 2023.
Read More: Home Prices Could Fall More Than 12% by Next Year
Housing Market Stabilization
As monetary policy tightens to bring current excessive inflation rates back to targeted levels, mortgage rates are anticipated to increase. In Canada Mortgage and Housing Corporation's Spring 2022 report, it is said that higher rates will have a limited effect on home demand and price growth in 2022. The report also states that "...this will be especially true in centers like Vancouver, Toronto, and Montreal where tight resale market conditions will overwhelm higher mortgage rates initially."
Mortgage volume at the National Bank of Canada increased 8% on a yearly basis, leading economists to predict that the demand for real estate secured financing will continue to stabilize, returning to pre-COVID levels given the rising interest rate environment. At the same time, housing prices are expected to shift, re-stabilizing as an effort to backtrack the soaring 46% accumulation that occurred throughout the pandemic. Most notably, previously where housing prices sky-rocked, namely Ontario and British Colombia, where the steepest declines in price can be found.
Read More: Rate Hikes to Lead to House Price Fall?
Although many Canadians would find lower interest rates more agreeable, in terms of decreasing inflation, consistency is key. Economists believe that to avoid failure in lowering inflation, the maintenance and rigidity of a restrictive monetary policy is needed to balance and ultimately reduce the high level of inflation. Altogether, rarely does the Bank of Canada depart from the monetary policy of the Federal Reserve, which supports predictions of higher rates for a longer period.
Home Prices Could Fall More Than 12% By Next Year
Canada's Housing Market In The Middle of Corrections
High-interest rates could have influenced the correction of the housing market that is currently ongoing in Canada. According to one of the country's largest banks, home prices could decline more than 12 percent, Bloomberg reports. Robert Hogue, RBC's economist, also predicts that the number of total home sales in the country will decline by 42% by next year.
Read More: Canada's Interest Rates Still Not The Highest They've Ever Been
Ontario and British Columbia will be the main focus of these corrections, which some say are "historic". Sure, the fall in sales will be a bit bigger than what it was in the 1990s, however, the reality is - 2023 will beat that record by only 1%. In Ontario at that time, home sales fell by 41% and housing prices fell by 15%. British Colombia, on the other hand, dealt with prices falling by 27% and sales falling by 62% in the 1980s.
Read More: Ontario Housing Getting Too Expensive
Even though the prices and sales will drop a bit, that doesn't necessarily mean the housing market will collapse, says RBC. Instead, this situation should be looked at from a positive point of view: the cooling of the market will be a bit faster this way.
That of course will lead to new homeowners in the future and the removal of the stigma of home ownership and equity being a luxury - a popular opinion for some millennials.
During COVID, the splurge in home ownership skyrocketed - with historically low-interest rates and sales going up by 47% in December 2020, 48% of millennials got their hands on their own houses. But, most of them relied on their family helping out financially.
Adult Children Were Given $10B To Buy Homes
However, the basic rule of supply and demand led to the rise in prices, which are abnormally high right now. That then led to making the rest of the renting population extremely hesitant to buy their own home, especially with the current interest rates.
The ongoing corrections should cool off all of that and take the weight off the homeowners' shoulders in the future when the drops in prices and sales cause interest rates to stop rising and go back to what we're used to, hopefully.
Read More: Three Tips For Homeowners Struggling With Paying Off The Mortgage
The housing market correction and the post-pandemic recovery might also influence the 'return to normal' of housing prices in specific areas as well. According to a recent research by the Bank of Canada, COVID-19 greatly influenced the rise of house prices in the suburbs, causing centrally located homes' prices to drop - which is not how things usually work.
Typically, home prices downtown are higher than in the suburbs, because of various factors: the land is scarce downtown, shorter commutes to work, more restaurants and bars, easy access to public services or transport, etc.
During COVID, we didn't need any of that and would rather spend time in our backyard or somewhere not hectic. Many lockdowns and closures of restaurants and bars kept us hanging out within our four walls, so it was better to be somewhere further away from downtown, more calm and private.
That led to a higher demand for suburban housing and therefore higher house prices in the suburbs. The whole thing resulted in a 10% price gap between centrally located houses and houses 50km away from the city core. In 2019, the price difference was about 26%.
A lot of questions remain unanswered when it comes to housing in Canada and it will be interesting to see how things unfurl. The Wilson Team will, as always, maintain focus on the market and update the site as we learn more.
The Benefits of A Good Credit Score
How to maintain the high numbers
Even though the conversation about a good credit score is pretty common and happens almost daily for some, paying attention to maintaining a good one has not been a priority for others. Mistake number one. Surviving with bad credit is doable, but expensive and makes life harder than it should be.
Taking care of your credit score is crucial if you want to avoid missing out on big opportunities. Not only that, but you will also end you paying more than you should - after all, having a good credit score means lower interest rates, among other things! Here are the biggest benefits of having a good credit score.
Six Benefits Of Having A Good Credit Score
1. Lower Interest Rates
When applying for a loan, whether it's a mortgage or a credit card, a lender will check your credit score. Based on the number, they will determine your interest rates. With a good credit score, you almost always qualify for low-interest rates. The lower the interest rate, the sooner you'll pay off your debt, and the more assets you'll have for spending on other things.
2. Higher Mortgage Amounts And Limits
After proving to the banks that you can handle your money and demonstrating to them how responsible you are, they will let you take on more responsibility. Since you've proven that you pay back what you owe on time, they will let you borrow more money, giving you greater buying power which is very important in today's real estate market for example.
3. Easier Approval On Rentals and Jobs
More and more landlords want to check your credit score as a part of their tenant screening process. A bad credit score can definitely affect your chances of getting the apartment you want. Even some jobs need security clearance and proof you know how to handle your finances. They need to make sure you won't take bribes, for example, or steal from the company because of your financial issues.
4. Lower Insurance Rates
You need insurance for so many things: tenant's insurance, home insurance, car insurance, life insurance, etc. Having a good credit score will lower your premium and avoid paying more. Insurance companies use your credit score to design the insurance risk score. If you have a low credit score, you could end up paying 100% more than what you would pay with a good credit score.
5. Negotiating Power
With a good credit score comes leverage to negotiate for anything you're borrowing for.
You can negotiate your way to a lower interest rate on a new loan or a credit card. With a low credit score, banks and lenders will not let you win this one and the fees on loan terms will remain as high as possible.
6. Build Assets
All the way to wealth. The possibilities are endless - you can get RRSPS loans, rental properties, leverage your mortgage to invest, become an accredited investor, buy abroad, etc. With low credit, you lose out on major opportunities!
How To Have a Good Credit Score?
By avoiding these common mistakes:
- Don't get added to someone's credit card - have your own.
- Don't close all your accounts, even if you don't use them. The creditors like seeing two accounts. Use them
- Have two types of loans - a static loan and a revolving loan. For example, a car loan (static) and credit card (revolving).
- Don't exceed 65% of your limit.
- Pay your bills on time. Set up automatic payments to help you with this.
Canada's Interest Rates Still Not The Highest They've Ever Been
There Is Room For Improvement
If you thought today's mortgage rates were high, guess again. With Canada's interest rates rising, it's easy to go into full panic mode. The current prime rate - the rate banks and lenders use to determine interest rates for loans and lines of credit - is at 3.70% and will continue to rise. But, this isn't even close to what the rates were like in the 70s or even 20 years ago.
Even though rates today are higher than they have been in recent years, they are still low when you compare them in a long-term context. Keep in mind that Interest rates are a reflection of the country's economy and current global situation. So, with every major change in global politics, or certain events - the value of money will change, even for a bit.
That's the situation we're currently in - the pandemic and certain political events have caused major inflation on a global level and changes in mortgage rates are bound to happen.
But that doesn't mean the negative effects of these events are here long-term. The economy has already been through a similar state, with average interest rates for a five-year mortgage being as high as 21.46 percent in 1981! Let's compare.
The History Of Interest rates In Canada
For example, the most popular rate in Canada is the five-year fixed mortgage rate. According to Statistics Canada, this is the mortgage type that accounted for about half of the existing conventional mortgages.
Currently, if you were to opt for a conventional five-year mortgage rate, your interest rate would come to about 6.04 percent. If you did the same forty years ago, in July 1982 - that rate would have been 19.22 percent! Why is that?
The recession, mainly. In 1981, the Bank of Canada raised its benchmark lending rate to a whopping 21% for various reasons: the mentioned recession, the Iranian Revolution which affected oil production, etc.
After that, the average five-year fixed rates have generally moved downwards, but we're far from the worst. Now, the average rates are about as high as they were during the Great recession in 2007. And we all remember how bad that was.
However, even after that recession, we managed to lower the interest rates to about 3.5% just a year ago. That means that, depending on future events, the interest fees could go back to "normal" as we know it and settle down.
Sure, now is a scary time for some people that just dipped their toes in the home-buying waters. Higher rates might happen. However, the best thing for you to do now is to extend your amortization period, according to Kelly Wilson.
As she stated for the Canadian Press - yes, you will pay interest for a longer period, but it could make room for some debt paying or retirement savings, because "It's still cheaper borrowing than anywhere other place you can borrow."
New Rules For Reverse Mortgages and HELOCs By OSFI
HELOCs or reverse mortgages exceeding 65% of a house's value will be targeted
A new set of guidelines is being implemented by the Office of the Superintendent of Financial Institutions (OSFI), reports CBC News. The new set of rules will apply to shared equity mortgages, reverse mortgages and conventional mortgages paired with revolving credit lines. In this time of a vulnerable housing market, the changes should help lenders and borrowers stay on top of their obligations.
One of the biggest changes will affect the conventional mortgage loans paired with revolving lines of credit, known as HELOCs. Currently, homeowners can dip into them as they see fit, without having to repay on any sort of schedule.
The new regulations will take effect once a loan exceeds 65% of the home's value. Currently, homeowners can borrow up to 80% on such a loan. So, with the new changes, the borrower will be forced to start paying back some of the principal if they go over this limit of 65%.
How will that work?
Well, if the limit is exceeded, the loan "will operate more like a traditional mortgage where the borrower makes principal and interest payments until the [loan gets back below] 65 percent," an official told CBC News.
The new rules will be in effect as of late 2023. However, the consumers are not supposed to see an increase in their monthly payments.
Changes To Shared Equity And Reverse Mortgages
Shared equity mortgages are programs where a third party provides the buyer with cash for a down payment in exchange for an equity stake.
In 2019, the federal government introduced a program for government-backed shared equity loans, and non-profits and community groups have since offered similar programs.
The latest OSFI announcement doesn't entail any new rules, but rather clarifies existing requirements. For example, such products must be equity stakes and not loans. They must be "on an equal footing with the borrower's equity," the official said.
The final changes cover reverse mortgages. Reverse mortgages let homeowners take advantage of the equity in their homes without selling them. These loans have grown in popularity in recent years, mostly because they don't require repayment until the owner decides to sell the property.
As with HELOC, new guidelines limit the amount a homeowner can borrow on a reverse mortgage to 65 percent at origination.
Canada Needs to Fill Housing Supply Gap
CMHC: The Country Needs To Build More So Houses Become Affordable
The Canada Mortgage and Housing Corp published a new report with an analysis of the country's housing stock challenges. Apparently, Canada will face a gap of 3.5 million units in 7 years, if it keeps the current pace of home building.
The agency projects that there will be additional 2.1 million housing units between 2021 and 2030, 19 million homes nationally.
However, that still won't be enough to make housing affordable for all Canadians, says the CMHC. According to them, Canada should have over 22 million units by that time to achieve the goal of affordable housing. That also means that construction should more than double the pace of building.
“Canada’s approach to housing supply needs to be rethought,” the report states. “The evidence has been mounting for many years that the housing supply system is broken in many parts of Canada.”
BC And Ontario Need Biggest Changes
Shocking, eh?
According to the report, two-thirds of the housing gap will be felt in these two provinces, and Quebec has also been mentioned as a place that needs to increase the construction.
However, if Ontario can build the additional 1.85 million homes over the next 7.5 years, the average home price would drop to $499,900 from $871,00 in 2021.
The average home price in B.C. could drop to $679,100 in 2030 from $929,900 if an extra 570,000 units are built.
CMHC points out, however, that the report does not account for government policies that affect demand or the longevity of the work-from-home trend post-pandemic.
CMHC Target Not Achievable, Experts Say
Aiming to build an additional 3.5 million homes in Canada by 2030 is a "massive undertaking," says Mike Moffatt, senior policy director at the Smart Prosperity Institute to Global News.
He also pointed out that besides rising material prices, the construction industry is facing a labour crunch caused by a wave of retirements among metal sheet workers, bricklayers, and electricians.
“We’re having trouble keeping up with those waves of retirements, let alone expanding the sector. So there’s all kinds of bottlenecks here that’s going to make this difficult,” he said.
Canada's Inflation Rate Hit 7.7% in May
Highest Level In 40 years
The annual inflation rate in May was the highest it has been in nearly forty years, says Statistics Canada, mostly because of soaring gas prices.
May's consumer price index rose 7.7 percent compared to a year ago. This is the biggest increase since January 1983 when it gained 8.2 percent. This happened because energy prices rose almost 35 percent compared to a year ago, and gas prices were almost 50% higher than last year.
According to Statistics Canada, crude oil prices increased in May due to the ongoing Ukrainian conflict and increased travel due to COVID-19 restrictions being eased.
Excluding gasoline, the annual inflation rate rose to 6.3% in May from 5.8% in April.
Economic experts predict a 75 bps rate hike in the near future due to soaring inflation
Despite the bank's efforts to control inflation, the rate is rising.
So far this year, the central bank has increased its key interest rate target three times and brought it to 1.5 percent. It has also stated that it is prepared to "act more forcefully" if necessary, which led economists to speculate that it could be raised by three-quarters of a percentage point next month.
“We know inflation is keeping Canadians up at night. It’s keeping us up at night,” the Bank of Canada’s Senior Deputy Governor Carolyn Rogers said in Toronto in reaction to the figures, according to Global News. “We will not rest easy until we get (inflation) back down to target… That’s why we’re raising interest rates, and we’re raising them quite aggressively,” she added.
Everything More Expensive
According to Statistics Canada, food prices rose 9.7 percent from a year ago, matching the increase in April. Nearly everything in the grocery cart costs more.
Edible fats and oils increased by 30.0% compared to a year ago, their largest increase on record. Cooking oils accounted for most of the increase. Fresh vegetable prices rose more than 10%.
In May, the cost of services rose 5.2 percent over a year earlier, up from 4.6 percent in April, as more Canadians travelled and ate out.
Compared with a year ago, traveller accommodation prices increased by 40.2 percent, while restaurant food prices increased by 6.8 percent.
The Full Impact of Higher Rates To Be Felt In The Summer
One good thing is happening to First-time homebuyers though
John Pasalis, president of Toronto-based brokerage Realosophy, says homebuyers won't actually feel the impact of the Bank of Canada's interest rate hike until the summer months. That's when many fixed mortgage rate contracts expire.
“A lot of these mortgage rate holds are going to be expiring in the next month or so, anyone buying in July and August is going to be buying based on these higher interest rates,” he said in a television interview. “We're going to see how that will impact demand and how many buyers are still in the market because a lot have pulled out in the past couple of months.”
Zoocasa's Lauren Haw said there has been a housing stalemate in the past few months. Many buyers and sellers are anticipating what the Bank of Canada will do next.
"The housing market pre-priced this rate hike and most people expected it, but what wasn’t expected was the signal of ongoing uncertainty around what rate decisions will look like in the coming months,” Haw said to Bloomberg.
“I think we are going to continue this stalemate into the summer. There’s a lot of confusion in the market with what a house is worth today and what it would look like once the sale is finalized.”
The Good Thing
One good thing is happening for first-time home buyers if you ask Pasalis. Higher interest rates may scare off some Canadians who are only buying houses as investments.
The Bank of Canada increased its benchmark interest rate by 50 basis points for the second time in a row on Wednesday, bringing it to 1.5 percent. After the rate increase, the biggest Canadian banks, such as TD, CIBC and RBC, also increased their prime borrowing rates by 50 basis points to 3.70 percent, effective June 2.
Canada's housing market is already feeling the impact of the central bank's aggressive rate hikes, with the benchmark price of a home dropping by 0.6% in April from March, marking the first drop in two years.
Canadians Want To Age In Their Homes
So, They're Turning To Reverse Mortgages
Nine out of ten Canadians want to continue living in their home during their retirement years. Reverse mortgages are helping them achieve that.
A recent survey by a reverse mortgage provider, the HomeEquityBank, found that 95% of Canadians aged 45 or more said living in their homes would help them maintain their independence, comfort and dignity as they age.
This is pretty much unchanged from 2020 when a similar survey was conducted by the National Institute of Ageing. The survey found that more than nine out of ten Canadians plan to support themselves for as long as possible.
In the meantime, reverse mortgage debt held by seniors reached a new record of $5.4 billion as of February. That's an increase of over 18%, or $829 million, over the year before, according to data provided by the Office of the Superintendent of Financial Institutions (OSFI).
The Benefits of Reverse Mortgages
Once a homeowner turns 55, it's generally easier to qualify for a reverse mortgage.
Reverse mortgages allow seniors to supplement their retirement income by tapping into the equity in their homes. They can do that either by way of tax-free lump-sum or monthly payments.
These mortgages are designed in a way that doesn't let seniors owe more than what their house is worth. That's because the debt is paid off once the house is either sold, or the homeowner passed away.
Even though reverse mortgages do not require monthly payments, their typically higher interest rates, which currently range between 5% and 7%, can quickly eat away at the proceeds from the sale of the home. The rising prices over the past couple of years, however, have brought substantial improvements to homeowners' equity.
Due to this growing need for cash, Canada's two leading reverse mortgage providers have experienced record growth over the past year.