Canadian Mortgages as Wealth Management Tools: Diversifying Your Home Equity

Homeowners with Canadian mortgages can utilize their homes' equity to create solid, tax-effective investment portfolios. In her Q&A piece in the Mortgages supplement to today's Globe & Mail, Royal Bank of Canada mortgage specialist, MaryAnn Pohl, discusses how homeowners can leverage equity under their existing mortgages to create effective wealth management tools. Utilizing a home equity loan, a homeowner can create an equity mortgage plan that effectively allows an individual to convert the equity they have in their home - as it builds up - to the point where his or her entire mortgage is effectively tax deductible.

The key is in diversification - taking the equity that currently exists in your home (the security of which is entirely dependent upon the market value of your home, and hence the variability of the real estate market) and withdrawing it through a line of credit secured on your home to invest in diversified securities that allow you to expand your investment portfolio. Interest paid on the home equity loan is tax deductible since it is used for generating investment income.

With a home equity loan plan, Ms. Pohl explains, "You can now apply once and have access to equity up to your approved limit. Your available credit increases as your mortgage is paid down, so you have access to funds when you need them." She points out that mortgages, being secured, are "the most economical way to borrow". By accessing the equity that accumulates as your mortgage is paid off through a secured credit line and re-investing it in a diversified portfolio, "you immediately enjoy the benefits of a 100-per cent tax deduction on the interest expense on that line of credit". If one does this consistently and effectively, month after month, under a properly tailored home equity plan, it is then possible to convert the entire mortgage on your home over time into a tax deductible investment vehicle. Repeat this strategy "each month until your entire mortgage is tax deductible," Ms. Pohl observes, "and you'll also have grown your net worth to include a retirement investment portfolio."

Ms. Pohl's insight into the way that mortgages and home equity can be leveraged into wealth management tools illustrates the benefits of working with a mortgage specialist or experienced Canadian mortgage broker who can help you reap the benefits and security that should come with home ownership - even in times when real estate markets may be hesitant or settling.

Home Mortgage Refinancing Costs Should Reflect Rate Cuts

Frustration is understandable when homeowners go to their bank's local branch to weigh their home mortgage refinancing options and the rates they are offered for renewing their mortgages don't adequately reflect the recent Bank of Canada rate cuts. This is particularly apparent if banks are skittish because of turmoil in the financial markets, as they appear to be now, and are hesitant to pass the savings in their borrowing costs on to consumers.

Thus, Blair of Vancouver asks The Province's financial columnist, Chris Carter, why the mortgages rates he was offered when he went to renew his existing mortgage didn't show the recent cut to the Bank of Canada's main rate. "Typically," Mr. Carter replies, "the prime lending rate banks offer to their best customers will follow the lead set by the Bank of Canada." But stress the word, typically. As Mr. Carter notes, the link between a bank's lending rate and the Bank of Canada rate is strongest for very short-term borrowing arrangements. But for variable-rate mortgages and other assorted floating lines of credit the link between the Bank of Canada's rate and the banks's longer-term borrowing rates can break down.

Mr. Carter notes how the recent tightening in the U.S. and global credit markets has served to uncouple the close relationship that the major bank's mortgage rates would normally have with the Bank of Canada's main rate. "Turbulence in the global credit markets has pushed lenders to hang on to their cash reserves tighter than they otherwise would," The Province's columnist observes.

Existing homeowners looking for mortgage refinancing are amongst the best customers that a bank can have. A marked degree of frustration with the banks' lending policies is understandable, even given the credit mess south-of-the border. Small wonder that prudent, and perhaps frustrated, homeowners like Blair from Vancouver are "comparing all of the various options" they can find when searching for home mortgage refinancing. Visiting an experienced Canadian mortgage broker for advice in this situation seems only sensible, even if you are one of your bank's most valued customers.

Good News for Toronto Mortgages from Bank of Canada Governor

The Bank of Canada came out with good news on Tuesday for consumers in the market for Toronto mortgages, cutting its main rate (the rate the major banks use as a benchmark for pricing their various mortgage products) by .5%. The half-a-percentage cut to the Canadian main rate, that now stands at 3.0%, is good news for homeowners shopping for a mortgage renewal and first-time homebuyers, as the Canadian and Toronto real estate markets settle and world markets come to grips with the mess that U.S. lenders have made of the American credit market.

Bank of Canada Governor, Mark Carney, told reporters in Ottawa today that, "The deterioration in economic and financial conditions in the United States will have direct consequences for the Canadian economy." The good news, as reported by Bloomberg.com, is that "Canada will weather the credit-market problems (in the U.S.) better than other industrialized countries because banks and consumers were in better shape beforehand." Governor Carney also observed that due to the economic and financial conditions in the U.S., "Some further monetary stimulus will likely be required." This seems to confirm the consensus amongst analysts that further moderate rate cutting may be in the air when the Bank of Canada re-examines its main rates in June, although any further cuts to the main rate are likely to be marginal relative to Tuesday's half-a-percentage point cut.

How far the major banks are prepared to go in cutting rates for Canadian mortgages in response to the Bank of Canada's cuts is questionable, particularly given their uncharacteristic initial hesitancy in dropping their prime rates. The major banks waited almost five hours before dropping their prime rates on Tuesday instead of immediately following suit in response to the Bank of Canada's announced cut, as is customary. Governor Carney addressed the issue in his press conference today, noting that he "was not going to give any direction" to the banks in this regard, as their rates are also influenced by market competition.

Mr. Carney's remarks underscore how beneficial it is for homeowners and first-time home buyers to shop the market for the best rates on Toronto mortgages. Competitive Canadian mortgage brokers are most often able to secure a better mortgage deal for consumers than those offered by the banks in a competitive marketplace.

Canadian Mortgage Brokers' Advice Even More Valuable in Turbulent Market

For those who are in or contemplating getting into the real estate market, the advice of experienced Canadian mortgage brokers may be more valuable now than ever. It can be difficult to know who to trust in a turbulent market. There are a host of contradictory views and prognostications about where the Canadian real estate market is and where it is going. Mortgage brokers are particularly well-equipped to inform would-be homebuyers about the mechanics and numbers of the variety of home mortgages and second mortgages that are available to them.

On April 16th, the Canadian Real Estate Association released figures that showed the number of existing home sales dropped 13% over the first three months of 2008 as compared to the same period in 2007. Lori McLeod in April 17th's Globe and Mail makes the argument that this marks the end of Canada's "biggest housing boom in more than 50 years." Other analysts, like David Wolf in the April 28th edition of Canadian Business magazine, who are unspooked by the mess regulators and lenders have made of the U.S. credit market, say that a U.S.-style housing crunch is not inevitable or on the horizon in Canada.

While noting that the Canadian real estate market is cyclical by nature and will slow down, Mr. Wolf cites three factors that distinguish the Canadian and U.S. markets, and which will prevent a U.S.-style meltdown: (1) Canadian lending practices did not get totally out of hand as they did in the U.S. At the peak of the U.S. market 47% of new U.S. mortgages were sub-prime mortgages vs. 3% in Canada. (2) New housing starts have been at a more sustainable level historically in Canada than in the U.S. ; and (3) Housing valuation models indicate that house prices even in Canada's hottest markets are not overvalued the way they are in the States.

Given the turbulence in the U.S. and the current differing opinions amongst Canadian experts it seems to be prudent for homebuyers to consult with experienced mortgage brokers to get a good feel for what the current mortgage markets are and where they are likely heading. In the U.S. there is a cry for individual real estate investors to be given the same kind of disclosure and risk factor assessments that have long been standard fare in the Canadian financial services industry. Mary Schapiro, the head of the U.S. federal Financial Industry Regulatory Authority recently called for regulations requiring U.S. lenders to adhere to the following standards:

• Qualification and licencing of the person who sells the mortgage product.
• Sales and advertising material that are not misleading.
• Products restricted for sale to suitable investors in terms of objectives and risk tolerance.
• Complete disclosure covering both costs and risks.

These commonsense factors are pretty much standard fare in Canada and are only prudent for investors seeking mortgages in a real estate market that seems to be shaking itself out. Accordingly, the wise home purchaser would seem to be far better off to work with a qualified and experienced Canadian mortgage broker than to try and negotiate a mortage him or herself in times when even the experts are in disagreement.

“CONTRARION” AUTHOR SUGGESTS DEMISE OF EXPERTS: ONLINE MORTGAGE BROKERS MAY FILL NICHE

Steven Levitt, co-author of “Freakonomics”, suggests that a new information age brought about by the proliferation of online information will spell the demise of traditional “experts”, like real estate agents, who possess knowledge that was formerly not accessible to the general public. At a minimum, it looks as if such “experts” will have to adopt new business models in order to meet changing consumer behaviour.

In an interview with the National Post, Levitt cites the example of Madison, Wisconsin, where homes “for sale by owner” make up roughly 25% of the resale market. While Madison is a college town and biotechnology hub, and its residents can be expected to be more computer literate than most, how much longer can it be until these trends accelerate in Toronto too?

The ability of prospective purchasers to search for mortgages online before contemplating a purchase (particularly in a “sale by owner” deal) will, no doubt, further this trend. Particularly where online mortgage brokers can now access transaction partners such as lawyers, appraisers and home inspectors – even real estate agents themselves – to provide the additional but necessary “expertise” needed to complete a real estate closing, prospective purchasers with computer savvy will find themselves at greater liberty to find and negotiate the best deal possible.

Has U.S. Turmoil Affected Toronto's Mortgage Market?

Turmoil in U.S. markets over risky sub-prime mortgage lending practices likely has had little or no effect on the Canadian mortgage or real estate markets. Fundamental differences in the two markets may account for this minimal spillover.

The Canadian Mortgage and Housing Corporation (CMHC) is optimistic that the fallout from the collapse of the U.S. sub-prime mortgage market will have little, if any, effect on Canadian markets. This should be reassuring news for purchasers shopping for Toronto mortgages.

In a recent CTV interview, Ted Tsiakopoulous, the CMHC's regional economist for Ontario, cited three principal reasons why recent events in the U.S. are unlikely to have longterm effects on Canadian mortgages and, thus, in the Toronto real estate market.

• Steady, sustainable growth in Canadian housing prices;
• A lower rate of mortgage arrears due to greater prudence amongst Canadian lenders; and
• Healthier fundamentals in Canada's economy versus that of the U.S.
  

The CMHC backstops many low-equity and first-time mortgages. As the last guarantor of mortgages financial institutions consider amongst the most risky, this reassurance from the CMHC should help soothe the fears of borrowers looking to enter the Toronto market or to refinance existing properties.

While the Toronto Real Estate Board reports that 2008's re-sale rate for homes in Toronto remained lower in March than in 2007, this may well be due to record snowfalls this past winter and a spike of first-time home buyers who took advantage of the CMHC's recent decision to backstop mortgages amortized over a forty-year period.