Yes, you bring up a good point…. your strategy is a popular one…and it may be right for some and it probably does work for some. The problem for me is that I don’t have many success stories to share… I haven’t seen it work with very many… For some reason, RRSP growth for many, has be minimal… there are other options to consider…

Steve

Here’s an example where RRSP makes the most sense:

Imagine an individual with income of >100K/yr, and a lot of RRSP contribution room. Imagine this person has 10K of disposable income to contribute this year. With a variable mortgage (lets imagine 3%), as long as RRSP funds generate more than 3% per year, the person is A LOT further ahead than paying down the mortgage. Most GIC’s and similar investments today will return close to that amount.

In addition, you forgot to count the tax return on that 10K. It could be as high as an additional 4K (that’s 40% growth in a single year!) You can then take that 4K and put it back into RRSPs (and get 1.5K return next year, and so on and so on and so on). Or, take the 4K and pay down the mortgage.

Net result: 10K in RRSP + 4K paid down on mortgage vs. only 10K paid down on mortgage.

Thoughts?

That’s terrible but this is not uncommon.. We have heard of so many other that are getting hit with these huge prepayment penalties.. I just saw another one with a 20 months interest penalty…. The govt promised to standardize mortgage penalties, 2 yrs ago… while we wait, the banks are getting rich off the Canadian borrower…

Steve

This isn’t checkers, it’s more like chess.. and bank has a team of legal experts and govt contacts on their side… the borrow doesn’t have a chance…

It’s worth mentioning that exactly 2 years ago, the federal govt announced they were going to bring in legislation to standardize mortgage penalties… as of today, no changes have come into effect… I wonder who this benefits?? the banks or the bank clients??

Steve

Great comments.. You bring up some great points that I’d like to address and clarify further… (by the way, nice website you have… interesting articles and posts..)

Interest rate hikes won’t affect existing homeowners like we all think…I’ll explain….

It’s true that because interest rates are low, you can borrow almost 5 times your salary… but this is interest rate driven, it’s not the lending policies.. Lending policies have Debt Servicing ratios… 32% of your gross income can be used towards housing costs.. and up 40% of gross income for housing costs and all other personal debt… These ratios have been around for over 30 years and seem to have stood the test of time… together with good credit history, a steady income and quality real estate and we have a good mortgage in place… a relatively low risk mortgage.

And because we are now forcing most homebuyers into Fixed rate terms (usually 5 yrs or longer) there is very little concern about interest rate hikes… If rates go up this year, or next, or the year after that, it won’t affect my mortgage as I locked into a 5 year fixed rate… my payments won’t change for 5 years. (remember, even variable rate borrowers had to qualify at POSTED Bank rates so they should be able to absorb rate hikes).

Let’s take a $300k mortgage… with a 3.29% rate.. my payment is $1309/mth… My income is $65k… After 5 years have passed, my interest will probably be higher than it is today… let’s say it’s 5.29%… my payments after 5 yrs will be $1654/mth… Will this be a problem for me in 5 years? I don’t know but history says probably not… but we do know my mortgage balance will be $268k… and I think we could also assume my income will be higher… maybe it’s now $75k..? (I’m basing this on my own clients income growth and inflation….this figure can be argued but at this income level, I find increases are generally larger than for those in a higher income bracket).

A $75k income will qualify for a mortgage of approximately $300k with a 5.29% interest rate… So in 5 yrs, we have someone that has built $32k in equity, maybe more if real estate value are higher in 5 years…

I just don’t see the risk to anyone borrowing funds at these historically low interest rates for a mortgage… for a home…and if they qualify….This is good debt, in my opinion…if they qualify and can afford it, then let them buy… let’s not push them out… Self employed individuals have to pass an underwriting test too… they must have a very high credit score, their businesses must be registered, they must show they file and pay income taxes and they also must state a reasonable income for their type of business….. and they are also charged an insurance premium that is more than double that of those with traditional income verification….

But credit cards and unsecured lines of credit or personal loans? These are bad debts, they are more expensive and they are the real problem in Canada… with $500billion in outstanding non-mortgage debt, the govt should clamp down on this segment of credit…this is where the real focus should be… force he banks to make the borrower less accountable and then you would see credit granting become much stricter… take a look at some personal bankruptcy statements.. I don’t think you’ll find homeowners or mortgages as the problem..

Steve

I agree with you that we don’t have a big sub-prime problem in Canada. I wouldn’t want to slow down anyone who seeks to borrow a reasonable amount on a mortgage, but I can see room for denying to worst cases of over-extension that the current rules permit. Such action may hasten a housing correction. On the other hand, if we don’t tighten the rules further and a correction happens anyway, then we are just adding to the number of people who will be in financial trouble.

You’re absolutely right that non-mortgage debt is a big problem. I don’t know what can be done to address this problem other than to raise interest rates, which would create many more problems.