What is Smith Manoeuvre
The Smith Manoeuvre
is a wealth strategy developed by a think-thank of Canadian financial experts, which is meant to structure the Canadians’ mortgages in a way that makes them tax-deductible. The SM technique is one based on a tax rule, where if a Canadian citizen
or permanent resident borrows a certain amount of money and makes an income-generating investment (an investment property or a dividend-yielding stock), he or she can thereby deduct the interest that is payable on the investment loan from their income tax.
The father of the SM technique, Mr. Fraser Smith, has written a whole book explaining how to apply his manoeuvre properly, but the gist of his work may be summarized in just six simple steps. In sum, the SM trick works as follows: you borrow money against the equity in your property, then invest the amount in income-generating instruments and, finally, the tax return can be used to put extra cash against the principal of your mortgage. Repeat the exercise until the mortgage is fully repaid, leaving you with an investment loan and a bulky portfolio. In the best possible case, your investment portfolio should be larger than your tax-deductible investment loan.
In step one of the Smith Manoeuvre, you have to sell the existing stock in non-registered investment accounts, using it to cover the down payment of the mortgage you withdraw in step two.
The second step of the plan involves you applying and, more importantly, obtaining a re-advanceable mortgage. This type of mortgage is comprised of two components: the regular mortgage and the home equity line of credit. What makes this mortgage scheme unique is the fact that your HELOC
credit limit increases as you pay down your mortgage. You can apply for a readvanceable mortgage with some of the big five banks in Canada
(Bank of Montreal
, Bank of Nova Scotia
, etc.) as well as with most of the prime lenders on the market.
In step three you should invest the HELOC portion of the mortgage in some investment instruments – securities, bonds, and dividend paying stocks, but do not put HELOC money in your RRSP account
, as this will make this money non tax-deductible. If you do not have an investment account, you can open one with some of the big brokerage houses available in Canada
Step four is to deduct the annual interest amount that you have paid on the HELOC against your present income. As a step five, you have to apply for tax return and investment income, investing the newly-generated money that is now in your HELOC.
Finally, you have to repeat steps three to five until your mortgage is repaid in full.
It is important to note that the Smith Manoeuvre works to protect home ownership by boosting one’s financial
security. At the same time, the level of debt is not increased, with the home mortgage being reduced. With the full conversion of the home mortgage, the value of one’s portfolio exceeds the one of the investment loan, which may be then paid off.