Thursday, June 27, 2013

Good To Know: Arms Length Mortgages

Do you have money in RRSP that is invested in mutual funds? If so, have to looked at the overall market these past few days? By now you know that I do not see mutual fund and a save and sound investment. But what else can you do with your RRSP?

This is where an arms length mortgages can come into play. First of all you would need to have your RRSP moved into a self manage RRSP account. Chances are you regular bank, even under a self directed RRSP product, will not support an arms length mortgage and you may end up having to go with a different institution (like Olympia Trust for example).

You may think this is simple enough but be prepared, the bank will put up a fight! In fact, it makes me think a lot of the Friends episode where Chandler wanted to quit the gym but when that became too difficult, decided to quit the bank to stop paying for the gym that way.

The bank will ask why you are moving you money away from mutual funds, they will discuss at great length the risk of any other investment and will then present different mutual funds if you are not satisfied with your current one. They will show you great returns potential. But those are slightly falsified as it is an annual average and they do not take any of their fees into this equation. 

Let say you have in a mutual funds $100K; if in the first year there is a 100% your account would go to $200K. However if the next year there is a %50 drop (this as happened twice already in the past 15 years) you account would drop to $100K (200 x 50%) making you total investment grow 0% (and again this is not taking in consideration any fees). This would however be advertise as 25% annual average interest growth per year; 100 less 50 divided by 2 years.

If you have had enough will power to resist the bank, and manage to move your RRSP into a self manage RRSP; you can then use those funds for holding mortgages. It does not matter if it is first or second position mortgages but it can not be for a property that you own, or that is own by one of your corporation or that is own by one of your immediate relative (parent, siblings, children). Hence the name arms length mortgages. 

This investment, not only is it secured by real estate, but it would also be protected by the RRSP system. Meaning that any growth in your investment would not be subject to taxes. Well until time comes for your retirement.

A few key points to remember. There are great tax penalty to cash in your RRSP early. So it is important to transfer your RRSP, not cash out and reinvest.