19

I'm addled. You're withdrawing money from your own Registered Retirement Savings Plan(RRSP), and you must repay it. You're not using the approved lender's money at all!

  1. So why must you pay interest to borrow your own money?

  2. Why is the bank using the "posted rate — not the discounted rate that most of us are accustomed to paying"?

Tax Planning for You and Your Family 2019 by KPMG. p 24.

It is even possible for you to arrange for your RRSP to hold your own mortgage—in other words, you put funds into your RRSP, receive a tax deduction, and lend the funds to yourself. This is not easy to do, however; the mortgage must be federally insured, and various other restrictions apply.

Investing in your own mortgage may make you feel good, but does not always make sense financially. Since the investment must be at the market rate, you may be no better off depending on the size of the mortgage, once all fees (legal, insurance, appraisal, etc.) are taken into account. As a rule of thumb, to be a worthwhile investment, the mortgage’s principal should be in the $50,000 to $100,000 range with a term of at least five years. Alternatively if you don’t have that much cash in your RRSP, some financial institutions offer a program through which the mortgage is “shared” between your RRSP and your institution. You should also consider whether holding a mortgage in your RRSP is consistent with your overall investment strategy.

The RRSP Mortgage | How You Can Loan Yourself A Mortgage

Here’s How It Works

Let’s say you have $100,000 in your RRSP and you need $50,000 to buy (or build) your home, or even finance an investment property. You can borrow the money from your RRSP, but the transaction must be made through a bank, broker, or licensed lender. You’ll have to meet the bank lending policies (including, but not limited to, income verification, credit check, and purchase agreement). The lump sum will be borrowed and applied to your mortgage, and just like a regular mortgage a repayment schedule will be set up.

Keep in mind, the interest rate has to be the same as the posted rate at the bank, but like any mortgage, you can shop around for different rates from different lenders. Also, this is still a mortgage, and even though you own the mortgage you can’t be late or miss payments, or you risk foreclosure.

Banks’ dirty little secret: You can hold your mortgage in your RRSP — but is it worth the trouble? | Financial Post

If someone wants to hold their mortgage in their RRSP, the first step is to find an institution that will allow you to do so. Your RRSP with your investment adviser or your bank is likely not an option. You will need a self-directed RRSP from an institution like Olympia Trust, B2B Bank, Canadian Western Trust or a handful of other trust companies or banks.

You will have to undergo the same income verification requirements and approval processes as you would with a regular mortgage. So holding your mortgage in your RRSP is not a way to borrow more money than you would otherwise be able to borrow conventionally.

The applicable interest rate will be the posted rate — not the discounted rate that most of us are accustomed to paying. This means more interest on your mortgage payments, but that is offset by high interest income for your RRSP.

  • 10
    Who is the interest paid to? – Jontia Nov 24 '19 at 20:30
  • 3
    It gains you nothing as a borrower, and as a lender, it's a bad investment for the RRSP compared to other options. Perhaps you do not fully understand the other options. – Harper - Reinstate Monica Nov 24 '19 at 20:38
  • 4
    The specifics are more odd for mortgage, but the principle is simple: The same reason I'm not allowed to "sell" to my child's TFSA account 1,000 shares of AAPL for $5 each. You can't use tax-advantaged devices to self-deal in rates/deals that weren't available to the general public. (Yes people tried to do that in droves when TFSA was first launched and the regulation wasn't clearly spelled out.) – Affe Nov 25 '19 at 18:03
  • 4
    For US readers, 401k loans also require you to pay them back with interest. It may not be exactly the same as an RRSP, but you do have to pay your account interest. – JPhi1618 Nov 25 '19 at 19:47
54

Don't bother. It's a stunt, and a wasteful one.

The whole point of it is emotional: wanting to believe this is your money, blah blah. But money is fungible: there's no difference of this, vs your RRSP loaning to somebody else's mortgage while you borrow from a bank.

The RRSP money is tax sheltered, "restricted" money. It's not your money (yet); it's a trust fund designated to serve you in retirement. You are at most its steward - its fiduciary. When you're managing it, you must "wear the hat" of an independent, disinterested trustee. Just like managing someone's estate or a nonprofit, you are not allowed to use the fund to benefit yourself (or rather, your non-tax-sheltered assets), except to the extent the law allows self-dealing.

Also, that money is on the other side of the "tax curtain". This curtain separates the money you have paid taxes on, versus the money you haven't paid taxes on. Money that comes through that curtain, you need to pay tax on that, obviously.

So, the fantasy is to invest the RRSP at a mortgage to yourself at 0%. Now, what about that interest? If mortgages normally get 5%, you're benefiting from paying 5% less than you normally would -- meanwhile, your investment portfolio in the RRSP is suffering by 5% (realistically more, because it's invested in a mortgage instead of better investments, so other growth is wasted). So effectively, that 5% "crosses the tax curtain" - it's money out of your RRSP and into your pocket. And I gather you expect not to pay taxes on this.

Another scheme is to give yourself a mortgage rate appropriate for a well-qualified borrower, except you're not one, and a real bank would want more like 8%. So by giving yourself 5% instead of 8%, you are sneaking 3% across the tax curtain.

The ultimate scheme is to default on the note, and then, as the self-manager of your own retirement fund, simply elect not to foreclose and clear the deed. So $50,000 of pre-tax dollars just evaporates out of the RRSP and shows up in your personal portfolio. Tax unpaid.

Yeah, that's not gonna happen.

So if we destroy all those methods of improper self-dealing, what's left? You apply for a loan just like everywhere else, face the same qualification challenges as everywhere else, pay the same interest rate as other banks would actually give you, and face the same peril of foreclosure... now that private benefit has been eliminated, now it's fair to give yourself a mortgage.

What a bunch of wheel-spinning though; the administration costs, the overhead, all to simply achieve an emotional connection with your money. Anyone who isn't emotionally ...influenced..., and is there to manage those assets responsibly (for the money), would say

  • stick to the gold standard for how to invest an RRSP, and
  • go get your mortgage somewhere else.
  • There may be a marginal advantage from circumventing fees and markups. Lending to yourself at market borrowing rate puts the entire interest amount back into the RRSP (which would be more than a GIC rate). I'm not saying it would provide a worthwhile net benefit; RRSPs in index or equity funds should do better than market borrowing rate, but at some risk; RRSPs in GICs remove the risk but also the return. – Anthony X Nov 24 '19 at 23:31
  • 1
    I would have been tempted to go the other way-take a mortgage from my 401k and pay a higher interest rate than market. This would allow me to pay the mortgage with deductible money, which is the same as pre-tax money. It would allow me to exceed the limit on deposits to the 401k. Now my 401k grows faster than the market and the excess returns are tax deferred. This runs afoul of the other side of the law. – Ross Millikan Nov 25 '19 at 5:27
38

First to answer your question: Because it is the law. Period. No discussion allowed there - yes, some laws make no sense, but still, that is the reason. DO not like it? Vote for someone who will change it.

The reason is that the money there is pre-tax and you are not allowed to USE it for yourself before retirement. Having a mortgage which pays market rate moves it from "using" to "investing", which is what a RRSP is for, from what I can read. You find similar scenarios in many places that have pre-tax retirement accounts, basically to stop cheap abuse.

If you take a mortgage you have to use post-tax income to pay the interest rate and return. Moving those funds into a retirement account that accepts pre-tax would mean you could move your funds into a tax deferred account, then - if allowed - give yourself a VERY cheap credit and totally bypass the tax on the money. Which totally is not what those accounts are for.

  • Nonprofit finance guy here; i'm well familiar with the membrane between tax sheltered and regular money. I really don't see a problem with that. The RRSP could invest in someone else's mortgage, and that would be legit; you could borrow from a bank and that would be legit. Doing both at once is a wash, if market rates and risk assessment is equivalent. However investing in anyone's mortgage is a poor use of RRSP funds. – Harper - Reinstate Monica Nov 24 '19 at 21:03
  • 20
    I think this answer would be much better without the first paragraph. It's perfectly sensible on the OP's part to ask why a law is a certain way, and since your second and third paragraphs answer that, there's no need for the first. – ruakh Nov 25 '19 at 2:02
  • 9
    But asking why a law is in place is not the same as asking why companies can not do it. Because it is the law is the answer to the question asked, not the question you THINK the OP should have asked. It is also relevant if you have even a hint of a clue how large corporations work - lawyer says no, no effort done to do something. – TomTom Nov 25 '19 at 8:02
  • 1
    On the first paragraph: For issues that aren't likely to sway elections, contacting incumbent legislative representatives and making a case for the change sometimes works, or should at least be considered as an option. Knowing the reasons for the existing law helps make that conversation a lot more effective though. – WBT Nov 25 '19 at 22:14

Your Answer

By clicking “Post Your Answer”, you agree to our terms of service, privacy policy and cookie policy

Not the answer you're looking for? Browse other questions tagged or ask your own question.