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I have a mortgage for $290k on a condo that I purchased 6 months ago for $350k. It's fixed at 3.65% for another 4.5 years. I earn about $100k/year before tax, have no dependents, am single, and 27. I keep an emergency fund that can float me for about 3 months, and a non-registered basket of ETFs and government bonds that could be sold to keep me going for another 6 or so. My job security is moderate.

Is the smith maneuver right for me? I think I understand how it works, but I'm not confident in my ability to assess whether it's a good thing to do right now, and in my situation.

I was thinking of getting a HELOC and dedicated chequing account with TD (they also have my mortgage), using that to fund my existing Questrade RRSP account, and buy ETFs as necessary to satisfy my asset allocation strategy. When my tax refund comes, I'll pay down the mortgage. I'll pay the HELOC interest for now, but might have to eventually start capitalizing it as it grows. Next year, I'll get to deduct the HELOC interest from my income tax.

Is this sane? Comments please!
 

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Many thanks, FG.

I have about $8k to make a last-minute RRSP contribution for 2009. Am I better off using that money to pay down my mortgage instead? Should I split it half/half?
 

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I have about $8k to make a last-minute RRSP contribution for 2009. Am I better off using that money to pay down my mortgage instead? Should I split it half/half?
You could also consider making an RRSP contribution for the full $8k and using the resulting tax refund to paydown your mortgage. Assuming there is going to be a tax refund - I am unfamiliar with your tax situation.
 

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ireflect, most would just say to pay down the mortgage. However, as you have higher income, an RRSP contribution would work well here as well. Dana's suggestion is a good one, hit two birds with one stone.
 

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I'm intrigued by the fact that you have a mortgage and you also have nonregistered investments. One can debate whether that's a good idea, but you are effectively already a leveraged investor, and are presumably comfortable with where you stand.

If you choose to continue in this vein, you could probably get a tax benefit from a simplified Smith Manoeuvre-type set-up. In theory it looks like this:

1. Liquidate your nonregistered investments (note will expose you to taxable gains/losses on your 2010 taxes)

2. Pay down your mortgage with the value of the investments.

3. Turn around and take out the same amount from a HELOC or separate 2nd mortgage

4. Directly use this reborrowed cash to purchase very similar (but not exactly the same) investments

You can now document that the money in #3 is being used as an investment loan, and so going forward the interest on it will be tax deductible. (This is true for as long as you use the money for investment purposes - you would lose this if you actually liquidated the investments and used the proceeds to fund living expenses at some point in the future.)

This is one of the underlying principles of the SM, the other being the gradual conversion of principal payments on your mortgage into a bigger and bigger investment loan by maximizing the leverage at all times. That's the part that is controversial, since it is exposing you to more risk.

Now there are all sorts of practical complications, especially since you would be trying to do this once you have already signed a mortgage rather than when you are setting up financing for your purchase. Therefore there is a real question whether you can repay in #2 without penalty and reborrow in #3 at the same rate. (You should also do your research and/or consult an advisor on the little wrinkles about what is deductible, what paper trail you need to have, and what happens with distributions).
 

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"I have a mortgage for $290k on a condo that I purchased 6 months ago for $350k. It's fixed at 3.65% for another 4.5 years. I earn about $100k/year before tax, "

You owe 3 times your annual salary on a mortgage and you want to borrow more. What do I think of it? Perhaps you should move to the United States where you have more company in people that think this is OK and think that they have nothing to worry about.

Sorry about the sarcasm, but pay down your debts a little more would be my advice.
 

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Thank you for these great comments. Seriously.

@houska:
My rationale for continuing to own a portfolio of non-registered ETFs is to maintain an asset allocation that isn't too heavily weighted on real estate. I suppose I should really be selling off some of that non-registered portfolio and re-buying those assets in my RRSP account to max out my contribution room. I'm unsure how to do this in a tax-efficient way (more research required here on my part... any blog post suggestions?)

@OptsyEagle:
I appreciate the sarcasm :) and agree that I shouldn't be looking to go further in debt. I see the SM as a way of converting debt from a mortgage into a tax-deductable HELOC. From the other comments in this thread, I am beginning to see that that's an overly simplistic view, and that I should pay down a significant portion (and do a lot more research) before I attempt any sort of financial gymnastics like a SM.

@Dana & FrugalTrader:
I do expect a substantial tax refund for 2009, so I think I will put my $8k into RRSP, and use my entire refund to pay down my mortgage.
 

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"I have a mortgage for $290k on a condo that I purchased 6 months ago for $350k. It's fixed at 3.65% for another 4.5 years. I earn about $100k/year before tax, "

You owe 3 times your annual salary on a mortgage and you want to borrow more. What do I think of it? Perhaps you should move to the United States where you have more company in people that think this is OK and think that they have nothing to worry about.

Sorry about the sarcasm, but pay down your debts a little more would be my advice.
I agree (minus the sarcasm). You owe a heck of a lot of dough - just work on paying it down. That might end up being your best investment.
 

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I also agree with most of the above posters. When you have a mortgage, particularly a large mortgage, you've got more than enough strategies at your disposal without getting into leveraging: you can max out your RRSP, your TFSA, RESP (if applicable) and then if you have any spare cash available throw it towards the mortgage. Only after the mortgage and other consumer debt was wiped out would I consider using a manageable-sized HELOC to buy investments and even then only in certain economic environments (like last winter -I don't think we're currently in a good environment for leveraging).
 

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What me? Sarcastic.

It does sometimes get the point across. I mean no disrespect.

The SM is a concept that sounds great when you have a big non-deductible mortgage and someones says they can show you how to make it tax deductible. The problem that gets lost in the strategy is that they never actually make it tax deductible. You actually have to borrow more money, and that amount becomes deductible. The original mortgage is still a non-deductible loan and that never changes. Although most figure this out, it gets lost in all the wonderful benefits that are shown on paper. Sometimes those benefits materialize and sometimes they don't, but the debt is always material.

Good luck to you.
 

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Optsy i see your point, but you are not borrowing more. As you pay down the mortgage you reborrow the same amount.
It should really be called a "shift your debt from non deductible to deductible over the long term, and as a side benefit you pay your mortgage down a wee bit faster".
I think anyone thinking about doing this should get a 2nd or 3rd opinion from people who do not stand to make a generous commission, and nice trailer fees . You also need to ask yourself if you have the temperament to stick with it through the long haul. Easy to say, but very difficult to do.
My TFSA stocks were purchased in March of 09, ALMOST at the absolute market bottom. It was pure luck, and not at all involved with skill.
I was greedy when others were fearful, BUT I admit I was fearfull to. Emotions are very hard to harness, and my mind started thinking about the end of the world, etc.
The warning about leverage are that it magnifies your losses as well as your gains, BUT I would also like to add that leverage also magnifies your emotions too.
 

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Optsy i see your point, but you are not borrowing more. As you pay down the mortgage you reborrow the same amount.
It should really be called a "shift your debt from non deductible to deductible over the long term, and as a side benefit you pay your mortgage down a wee bit faster".
OptsyEagle is correct - you are not shifting your mortgage debt from non-deductible to deductible.
You are converting your latent equity into deductible debt.
The argument for SM is that latent RE equity is not getting you any returns, so leverage that to buy investments and get a tax deduction in the process.
I think anyone thinking about doing this should get a 2nd or 3rd opinion from people who do not stand to make a generous commission, and nice trailer fees . You also need to ask yourself if you have the temperament to stick with it through the long haul. Easy to say, but very difficult to do.
Very true.
A lot of financial advisors and mortgage brokers got their customers into SM in the few years leading up to 2008.
Most of them would have ended up buying stocks/mutual funds at the peak of the largest bull market since 2000.
It would be interesting to evaluate how much money those folks lost since Oct 2008, how many had their rates jacked up by the banks, and how many are still in the game
When you see your investments lose 30% or more in value, bank jacks up your LOC rate by 1% or more, it is not easy to keep borrowing more every month and re-investing.
 

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Not sure what you mean by latent, but you ARE shifting the debt. As you pay down, you re borrow the same amount.
You are shifting when comparing the SM to not doing the SM. Potatoe/potato.

I have also read that many leverage based advisors use DSC funds. (not sure if this is true) so if there was a panic after a 30-40% drop, PLUS a 5-7% redemtion charge.........ouch!

Advisor still eats his cake.
 

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I have also read that many leverage based advisors use DSC funds. (not sure if this is true)
Was true in my case.
My mortgage broker (who also doubled up as a "financial advisor") was pushing me for a SM.
I asked him for a sample portfolio where all the leveraged investments would go.
The list of funds he provided me were all high MER (some as high as 2.5%) and DSC load funds.
There were lots of duplication in holdings and the risk level was through the roof (emerging markets, high yield bond fund, etc.)
My take-away from that recent experience is that anyone contemplating a SM should first learn how to invest on their own and build their sample portfolio *before* initiating the SM.
And use the broker/advisor only to set up the accounts, loan, etc. but manage the investment decision on his/her own.
 

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Do I have this simple sm calculated right?

Suppose you have %20 equity in your home.
You have 50K in a non registered account
Suppose you can get a 3.5% HELOC
If you implement the SM, 50K * 3.5% = 1750 you pay in interest

Now you deduct 1750 on your tax return and suppose a 47% marginal tax rate.
(I believe that is the highest marginal tax rate)

So your return is 822.50.
 

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Not sure what you mean by latent, but you ARE shifting the debt. As you pay down, you re borrow the same amount.
You are shifting when comparing the SM to not doing the SM. Potatoe/potato.
I think you are mistaken here Bean. Another way of putting it is that you are borrowing against your future cash flow. With the SM, it takes you twice as long to kill your debt. I made a comment on this in the other SM thread.

Do I have this simple sm calculated right?

Suppose you have %20 equity in your home.
You have 50K in a non registered account
Suppose you can get a 3.5% HELOC
If you implement the SM, 50K * 3.5% = 1750 you pay in interest

Now you deduct 1750 on your tax return and suppose a 47% marginal tax rate.
(I believe that is the highest marginal tax rate)

So your return is 822.50.
This is how I understand it, steve_jay33. It effectively means you can invest at half the interest rate -- 1.75% instead of 3.5%. Plus regular transaction fee drag and any account fees.

Edited to add: Bean438, have you ever read Ender's Game? I always think of that book when I read your name here.
 

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With the SM, it takes you twice as long to kill your debt. I made a comment on this in the other SM thread.
Actually the point of the true SM is to never kill your debt.
Once the mortgage is paid off, your debt will be 80% of your home equity.
The idea is to keep that debt forever for getting the tax deduction.
Between the tax deduction and the income generated from the portfolio, the interest payments should be covered without you having to divert any of your regular household cash-flow to it.
At least that's what I understand.

Of course, you may collapse the SM once the mortgage is paid off, but then the "benefits" cease as well.
 

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Was true in my case.
My mortgage broker (who also doubled up as a "financial advisor") was pushing me for a SM.
I asked him for a sample portfolio where all the leveraged investments would go.
The list of funds he provided me were all high MER (some as high as 2.5%) and DSC load funds.
There were lots of duplication in holdings and the risk level was through the roof (emerging markets, high yield bond fund, etc.)
My take-away from that recent experience is that anyone contemplating a SM should first learn how to invest on their own and build their sample portfolio *before* initiating the SM.
And use the broker/advisor only to set up the accounts, loan, etc. but manage the investment decision on his/her own.
It's hard for me to understand how these financial advisors can even claim that a SM will be profitable for their clients.

Stocks return about 3% to 4% over the risk-free rate.

Banks charge 2% over the risk-rate for a secured line of credit (provided you can get one at Prime these days).

The mutual fund charges 2.5% in MERs alone to manage your money. Add in another 0.5% for trading expenses.

Implementing a SM through your advisor will cost you 5% over the risk-free rate. How exactly would an investor profit with a SM?
 

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CC, the best I could do was prime +.5 for my HELOC, making your point even more valid.
Personally I can see the SM working if you either:
1. DCA into a couch potato portfolio
2. Purchase CDN dividend growth stocks at a reasonable price. Initial income should cover interest (non capitalized/pay interest out of pocket), and at the very least keep up with inflation, but hopefully grow at a nice clip over 20+ years. Tax efficient in terms of no capital gains as long as you hold the stock, but dividends are taxed preferentially.

I do believe there are Buffets out there to manage funds, but the trick is to find them. Not very good odds. Since leverage entails more risk i would want to stack things in my favour by keeping fees low.
 
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