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I have recently opened an unsecured line of credit for $20k at 1%. I have a savings account at the same institution making 1.5% - both compounded daily and paid monthly.

I've read a few questions on here relating to paying off debt with itself, and the Canadian personal loans page, but I still feel like I may be misunderstanding something. I've even created a graph outlining a theoretical situation, which may explain my question better:

Graph

  • The blue line is $20k in savings making 1.5% per month
  • The green line is if I borrow the $20k at 1% and put it in the same savings account making 1.5%
  • The red line is the amount owed on the LOC

Each month, the 1.5% is added to both green/blue lines, then 1% of the amount owed (minimum payment) is taken from the green line. The lowest minimum payment for my account is $16.67, which is accounted for in this graph.

This is just blue-sky thinking, and I am not accounting for cases where interest rates change, and that the bank would be totally fine with such a long-term loan.

With this setup, would it be a Good Idea™ to exhaust the entire LOC and move it into an account making just slightly more than the minimum payment? Or is my math or understanding of how this works all hopelessly wrong?

  • Which bank loans out money at 1% and pays interest on a savings account at 1.5%? How can that bank stay in business? – Ben Miller - Reinstate Monica Jun 8 '17 at 12:54
  • @BenMiller I have the LOC as a employee benefit. – Scott Jun 8 '17 at 12:55
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Sure, you'd make an $8.33 during that first month with little extra risk. Sounds like free money, right? (Assuming no hidden fees in the fine print.) I don't know that the extra money is worth the time you will spend monitoring the account, especially after inflation claims its share of your pie.

If you're going to use leverage to invest, you should probably pick an investment that will return at a much higher rate. If you can get an unsecured line of credit at 1%, there aren't a lot of downsides. Hopefully interest rates don't rise high enough to eat your earnings, but if they do, you can always liquidate your investments and pay the remainder of the loan.

  • I was hesitant to use the term "free money", but it seems that is the case, assuming no hidden fees. I did forget to take inflation into account, which is a great point. Thank you! – Scott Jun 8 '17 at 12:23
  • @Scott Remember that inflation impacts your loan as well as your cash. So in this case, the impact of inflation is negligible. – Grade 'Eh' Bacon Jun 8 '17 at 13:08
  • you can always liquidate your investments ... if they have lost value in the interim you may not have enough to cover the outstanding debt though. OP's proposal is much less lucrative, but also much less risky. – CactusCake Jun 8 '17 at 13:14
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    @Grade'Eh'Bacon Sure inflation works on both, but how much time are YOU willing to commit to a scheme that earns you ~$3000 of inflated money over 29 years? That's my real point. It's not worth the time unless he is going after a bigger return. – NL - Apologize to Monica Jun 8 '17 at 14:24
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    @NathanL I agree that higher rewards are available with only minimal additional risk, but I think the argument about inflation is suspect. If you have 10k in cash and invest in the bank at 1.5%, and inflation is 1.2%, then yes, your real return is 0.3%. But if you took on debt costing 1%, then inflation hits your debt and cash equally. You would earn a spread of 0.5%, which is different than a return of 0.3%. Technically you would have no equity on the line, so your returns might be considered 'infinite' [hence the 'free money' comments]. [Some risk may exist, so not technically free.] – Grade 'Eh' Bacon Jun 8 '17 at 15:16

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