4 Secrets of Continued Home Affordability for Business Owners & Professionals
By Tim Leonard
As inflation continues to run rampant, Tiff Macklem, Governor of the Bank of Canada, indicated he could see an additional 1.5% increase to the prime lending rate. (1) The five-year fixed-rate mortgage offered by the banks has already increased to 4.8% and variable-rate mortgages, currently at a prime rate of 3.7%, (2) are poised to increase to the same level over the next several months. With such a decrease in home affordability, what can Canadian business owners and professionals do to make their mortgages more affordable? Here’s how to make your mortgage tax-deductible and overcome the rise in interest rates.
Secret #1: Make Your Mortgage Interest Tax-Deductible
As most Canadians know, the mortgage interest paid on a primary residence is not tax-deductible. But what you may not realize is that there is an important exception to that rule. Canadian mortgages can be made tax-deductible if they are used to invest in income-producing property.
When a typical mortgage payment is made, a portion of the payment goes toward paying off the interest and the rest goes toward the principal. The more principal that is paid, the more equity you build in the home. As you build equity, you can take out additional loans against that amount, and since the loan is secured by the home, you can usually get a lower interest rate.
If the funds received from the loan are then used to purchase an income-producing investment, the interest on that loan becomes tax-deductible. Canadian homeowners can continuously borrow back the principal payments made on their mortgage, reinvest these funds in income-producing assets, and then deduct the interest paid on these loans.
Over time, this strategy essentially converts “bad debt” (higher interest rate, not tax-deductible) into “good debt” (lower interest rate, tax-deductible).
Secret #2: Use the Net Worth of Your Business
Successful business owners can use the net worth of their business to make their mortgages tax-deductible. Here’s how it works.
Imagine you have a $1,000,000 variable-rate mortgage to be paid off over 5 years. If the current interest rate is 3%, it will cost $2,500 of interest and $2,500 of principal, for a total monthly payment of $5,000. If you make the payments using business distributions, it will cost you roughly $5,000 in personal income taxes, for a total monthly cost of $10,000.
This may sound excessive, but hear me out. If you go one step further and make the mortgage interest tax-deductible, you will eliminate the need to pay principal and tax, for a total savings of $7,500. Essentially, you will borrow back the principal payment and reinvest it in your business. Yes, you won’t be paying down the mortgage right away, but you will be converting your non-deductible debt into tax-deductible debt. In just one year, that can result in an extra $90,000 in your company!
Whether you have a fixed-rate mortgage at 5% or a variable rate at 3%, the savings is about the same if you are in the highest marginal tax bracket. Either way, successful business owners can set themselves up to borrow to invest and make their mortgage interest tax-deductible. If you have the choice, why wouldn’t you choose to keep an extra $88,000 to $90,000 invested in your company?
Secret #3: Use a Home Equity Line of Credit (HELOC)
Another way to make your mortgage interest tax-deductible is through a dual-component loan that involves a mortgage and a home equity line of credit (HELOC). All five major banks offer this dual-component loan so it is relatively easy to obtain. The mortgage side of the loan can either be fixed or variable. As you pay down the mortgage, your equity increases and you have a larger credit line to borrow against.
You can then start using the HELOC to pay the principal portion of your next mortgage payment. This effectively lets you pay interest only. Paired with interest deductibility, you can significantly reduce the risk of interest rate increases.
To qualify, your debt-to-equity ratio must be 65% of your home’s current appraised value. A great way to increase this ratio is to complete a major upgrade to your existing home or buy a new home as prices decrease.
Secret #4: Successful Business Owners & Professionals Often Receive Better Interest Rates
One of the great perks of being a successful business owner or professional is that you can borrow money at interest rates lower than prime, typically 1% lower.
If Tiff Macklem’s predictions are right and the prime rate increases by 1.5%, a professional with a 2.7% variable-rate mortgage right now can expect their rate to jump to roughly 4.2% (5.2% prime rate – 1%). In this type of environment, it may make sense to convert a standalone mortgage to a dual mortgage/HELOC to mitigate the rise in interest rates.
When structured properly, a mortgage/HELOC combination can help you save thousands of dollars in interest as compared to a standalone mortgage. Not only that, but it allows you to simultaneously reinvest in your business and maximize your money over time.
Making the Right Choice
Though this strategy has many benefits, there are potential drawbacks to consider as well. It can be nerve-wracking to continuously borrow against your home and returns on your business investments are never guaranteed, but the key to home affordability is to keep your corporate tax advantage in your business.
Working with a qualified financial professional who can assess your unique financial situation is a great way to ensure you make the right choice for yourself and your family.
At Lifecycle Wealth, we specialize in helping our clients navigate decisions like these, and we are dedicated to helping you proactively fund your lifestyle and build your legacy, all while paying less tax. To learn more about our process and how we can help you, please reach out to us at 416-792-2333 or email me at tim@lifecyclewealth.com to get started today.
About Tim
Tim Leonard is a Wealth Retention Strategist at Lifecycle Wealth, a firm providing proprietary insurance solutions to high net worth professionals and business owners in Ontario, Canada. Tim is also an investment advisor at Mandeville Private Client Inc., providing private and alternative fund solutions in addition to public investments. Tim uses his over 40 years of experience to develop and implement the Lifecycle Wealth Plan, using appropriate and customized investment tools to help business owners create more wealth by paying less tax at each stage of life. His desire is to see his clients save tax, fund their lifestyle, and build their legacy—all through proactive planning. Tim and the Lifecycle Wealth team specialize in understanding the various tax rules exclusive to business owners and building a plan with both standard and unique investment, insurance, and personal financing products tailored to their needs, goals, and situations. Tim wants his clients to sleep better at night, knowing they’re on the right path and have a team of professionals advocating for them no matter what comes their way.
Tim has a Bachelor of Arts from Western University and a degree in commerce, accounting, and finance from the University of Windsor. While his favourite thing to do is help people excel financially, Tim also enjoys a good game of golf. He’s a member of the Whistle Bear Golf Club and is the chair of the Stratford Chefs School’s finance committee. To learn more about Tim, connect with him on LinkedIn.
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