Home office deduction with a line of credit mortgage (e.g. Manulife One)? [Canada]

Question

I've been looking at mortgage products such as Manulife One - which work like a line of credit based on the equity in your home. The monthly payment is the interest on the amount left owing every month. The more you pay down, the smaller your monthly payments become. The bonus is you can take money out of the account for personal use.

I am self employed and going to buy a condo that will have a home office that constitutes 10% of the total square footage. I understand I should be able to deduct 10% of my mortgage payment as a business expense.

Question part 1. Does this 10% write off still apply to this type of loan? I would be writing off 10% of the monthly interest payment.

Question part 2. I can take money out of the line of credit for personal stuff, like buying furniture etc. How would this affect the write off, because I'm adding personal items into the mix of the loan?

Answer 1

The eligibilty of the deduction is based on what the borrowed money is used to purchase and NOT what asset is used as collateral. So at the beginning of your mortgage, 10% of the interest is deductible because the entire loan was used to purchase the condo. But when you withdraw money from the account the additional interest is usually not deductible. It can get confusing with all the withdrawals and payments that will be coming in and out of the account if you happen to use it a lot like a chequing account.

An easy example would be if you only paid the interest on the loan... Say you had a $100 000 loan at 5% APY (for simplicity's sake). After one year, you would have paid $5000 interest. $500 of the would be deductible given that your office is 10% of the condo. Then you buy a $1000 couch and continue to only pay interest for the next year. You would have paid $5100 interest... $5000 on money borrowed to buy the condo, and $100 on money borrowed to buy the couch. So you can still only deduct $500.

What happens when you pay back $500 against the line of credit? Could you designate that 100% of the money should be applied to the non-deductible interest? Or does it have to applied proportionally? I don't know.

I think it'd would be wise to separate the loans somehow. Manulife may even have some tools to facilitate that. However, I wouldn't recommend the Manulife One product. I looked into when I was buying my house two years ago, and at that time it was too expensive. The rate was the same that other banks were charging for a home equity line of credit (which was prime at the time). You can replicate the Manulife One in a cheaper way using a traditional mortgage and a home equity line of credit... The majority of the loan will be the traditional mortgage at (hopefully) a cheap rate. Then you can use your line of credit as the chequing account.