Life is all about perspective.
Yesterday, I got 4 back to back calls from my tenant in Toronto, while I was having my best round at golf this year. The last time I got 4 back to back calls from this tenant, it was about how the fridge broke down and he couldn’t get the delivery guy to show up on time.
I didn’t give in, didn’t call my tenant back until after the golf game to this seemingly urgent call.
When I finally got to call him back, he apologized for not having sufficient funds in the bank account to clear the pre-authorized debit request. He went on to explain to me how hard he tried to have sufficient money for the withdrawal for 15 minutes.
He was willing to compensate me for the NSF fees.
I laughed.
I told him that I just went to my client’s funeral last week. He died young. He was only 35.
His death changed my life perspective.
A NSF cheque here and there may drive you crazy, but in the grand scheme of things, it’s really no big deal.
When you’re stressing out, step back, take a deep breath. Maybe you can still work it through.
Compared to life and death crises, many of our problems seem small.
Speaking of life and death, I want to take this opportunity to reshare my blog post about drafting up a will.
This exact experience made me realize how important it is to have a will.
If you don’t have one already, please get one done. When the unfortunate things happen suddenly, at least you already lay out a plan. You lay out exactly what you want to get done, you lay out how the assets can be distributed.
At least, whoever has to take care of the assets and liabilities can do it without going through months of waiting.
When you have no will, the next of kin (spouse or children or parents) has to apply to become the estate trustee. This person has to post a bond to pay the Government. The bond application process is time consuming and difficult.
If you don’t have a will, the first $200K of your assets are first given to your spouse and anything over $300K is shared between the spouse and descendants.
If your kids are minors at the time when the unfortunate event happens, and if you don’t have a will, this automatic allocation can pose problems.
When a Canadian taxpayer passes away, all your assets are deemed to dispose at fair market value.
You might not have actually sold your properties at that time, but the Income Tax Act still deems the sale have happened.
This means that your estate would need to pay taxes, based on the increased value of the property.
If your families are not prepared for it, they may have to sell a few of the properties to pay for the final tax bill.
If you plan ahead, there are ways to minimize the tax at death.
On top of the income tax liability, the Ontario government also charges Estate Administration Tax at 1.5% on assets over $50K.
If the fair market value of your assets is $3M, you will have to pay $3M x 1.5% tax = $45K.
Can this amount be minimized? Absolutely. This can only be minimized with proper planning.
Here’s the previous blog post about the 8 items you should consider when you set up a will.
Until next time, be grateful.
Cherry Chan, CPA, CA
Your Real Estate Accountant
A couple of clients recently asked us about Smith Manoeuvre, I would use today’s post to share with you how it’s done and how it can increase your tax deduction.
Step 1: Get a re-advanceable mortgage on your primary residence/personal used properties
The key here is to start with a re-advanceable mortgage. A re-advanceable mortgage is a mortgage that allows you to increase the home equity line of credit as you pay down your mortgage.
As you pay your monthly mortgage payment, your line of credit availability increases.
You can now BORROW MORE from your line of credit.
If you borrow from this line of credit to invest in stock or buy an investment property, the interest on the borrowed fund is tax deductible.
Step 2: Use your after-tax earnings/extra saving to pay down your home mortgage
Generally speaking, your primary residence mortgage interest isn’t tax deductible.
If you have extra cash available for investment immediately, you can first use your extra cash to pay off your primary mortgage, which in turn increases the line of credit available for investment.
Step 3: Use the extra line of credit available to invest in stock and real estate
You borrow against your line of credit to buy a house or invest in the stock market.
Interest from your line of credit is now tax deductible.
Word of caution though – if you borrow to invest in TFSA, RRSP and any registered account, chances are, the interest would not be tax deductible.
The investment you use your line of credit to make must be outside of a registered account.
Step 4: Keep up your paperwork for year-end tax deduction
If you use the extra cash/saving to invest, your primary home mortgage interest would not be tax deductible.
By transferring cash the proper way and taking advantage of what is available from the mortgage terms, you are now making your primary home mortgage interest tax deductible.
Like I said all the time to my clients, in Canada, you need to “earn your deduction”.
Earning your deduction means that you have to keep track of your paperwork, all the transfer slips, deposit details to ensure that you can prove that the funds from your line of credit is used for investment purposes.
Make sure you keep the documents until you fully repay the loan.
Step 5: Rinse and repeat
You can rinse and repeat with your savings – turning your non-deductible primary home interest to deductible investment interest.
Commonly asked questions
1 . Line of credit interest is usually higher than my mortgage interest. Wouldn’t it be beneficial to pay less interest?
It depends on your marginal tax rate.
Marginal tax in Ontario can be as high as 53.5%.
If we round it down to 50% for ease of calculation.
50% tax rate means that if you get to write off your mortgage, you save taxes for approximately 50% of the interest cost.
Your deductible interest cost x 50% tax must be greater than the difference between your mortgage interest and your line of credit interest.
Even if the numbers don’t work out, which is unlikely, you can also restructure your line of credit into a low fixed interest rate mortgage. I’ve heard mortgage rates as low as 1.89% these days. 😉
2 . My mortgage term ended. My banker suggested that I should combine my mortgage and line of credit as one lump sum mortgage. Can I still deduct the interest against my investment?
Absolutely. All you need is to keep all your initial documentation, your paperwork to combine the line of credit with mortgage, until you eventually stop deducting the interest cost.
Remember, paperwork is the key.
Just because CRA says that you are required to keep 7 years of documents do not always mean that you don’t need to keep certain paperwork for longer.
3 . If I combine my primary home mortgage with my line of credit that I use for investment purposes into one giant mortgage, how do I know how much interest I can deduct?
The balance outstanding on the line of credit at the time when you combine it with your home mortgage matters.
Say, at the time when you combine the two, you owe $100K on your LOC and you used the entire LOC for investment purposes. And you also owe about $200K on your home mortgage.
The new mortgage balance is $300K.
1/3 of the interest expense would be tax deductible
= 100,000 (LOC balance before the new mortgage is formed) / 300,000 (new combined mortgage balance x Interest expense
Until next time, happy Canadian Real Estate Investing.
Cherry Chan, CPA, CA
Your Real Estate Accountant
First and foremost, thank you so much for all your emails about Bruce. He’s home now and his left cheek goes back to normal.
He was admitted to the hospital this past Sunday. A minor fall caused an infection on his left cheek. Our family doctor was concerned that the infection can affect his brains through his eyes.
He’s discharged the second day after showing significant improvement from the day before. His swelling completely went away as I write this blog post.
Having gone through this relatively minor incident made us appreciate simple things in life so much more.
Since the kids are with me this week, I’m going to keep today’s post short and sweet.
Quick update for those of you who follow my blog:
If you are eligible to apply, make sure you submit the application before August 31.
I got an approval on one CEBA application $40K earlier this week. I got one rejection as well.
It turns out that a lot of clients had to resubmit their documents multiple times before they get their approval from the government.
One client, who’s a contractor and house flipper, pays his trades as subcontractors. He had to resubmit his documents for 5 times, with more documentation every time, before he got his approval!
As a result of COVID-19, CRA has originally extended the tax filing deadline and also allowed taxpayers to pay for any of the balance owing at September 1.
September 1, to be honest, is quite confusing to many of us. Many people mis-read it as end of September.
Now, they’ve made it official that we’re allowed to pay for our tax owing by the end of September 30.
Yay – we got yet another tax extension!
For those of you who still have not filed your taxes, you have until September 30 to file your taxes and issues payment to avoid any penalties.
Make sure you reach out to your accountants to get this sorted before any penalties imposed.
Good luck to all you guys out there with CEBA loan application. 😊
Until next time, happy Canadian Real Estate Investing.
Cherry Chan, CPA, CA
Your Real Estate Accountant
It was a fun and interesting week last week.
We originally planned to go up north, and spend some time at our friend’s cottage. Things changed last minute and we cancelled our trip.
Since I had the entire week blocked off for vacation, I figured it would be nice to keep it off and enjoy my staycation.
Erwin recently picked up golf and has been playing every week. I golfed, but hadn’t played for a long time.
Erwin and I are value hunters. He had been buying coupons off some golf websites to get better golf rates at different clubs. We finally ended up ordering a thick coupon book to take advantage of all these great golf courses nearby.
Golf is a humbling game. The more you play, the more you realize that you need to practice.
So we started doing a few practice swings in our backyard.
One of my favourite parenting quotes – “Children close their ears to advice but open their eyes to example.”
Seeing us practicing inspired my son to ask me later, ‘Mommy, can I practice golf in the backyard today?’
It’s cute and sweet. Also goes to reinforce my life mantra – “lead by example”.
Lead by example is my life mantra and my parenting mantra. 😊
Many of us invest because we want to have financial freedom. We want to be able to provide for our kids’ future education. We want to have enough for our own retirement and still have some left for our children.
Recently, I met with a prospect who’s a widowed mom and decided earlier on that real estate investing would fund her retirement.
She went on to purchase a couple of investment properties and she would like to sell one of these properties to her son at below market value.
What would the tax implication be when you sell a property at a price significantly lower than fair market value?
Well… just like everything else in the Income Tax Act, it can get complicated.
Mom’s tax implication
When mom sells a property to her son at below fair market value, the property would still be deemed to dispose at fair market value.
Let’s use an example to explain.
Mom purchased the property for $200K and has been using the property exclusively as a rental property.
Current fair market value of the property is $500K.
Mom would like to sell to her son for $300K.
In this example, the Income Tax Act would deem to have the property disposed of at fair market value.
In other words, mom’s deemed sale price = $500K.
Mom’s purchase cost is $200K.
Mom would need to pay tax on the $300K capital gain.
Son’s tax implication
Son purchases the property for $300K.
He would need to pay land transfer tax on $300K. Ontario land transfer tax on this $300K purchase would have been $2,975.
If property is located in Toronto, son would need to pay double.
Son’s adjusted cost base acquiring this property is $300K + $2975 + legal fees, say $2,000 = $304,975.
If he keeps it as a rental property and eventually sell the property for $600K, the capital gain is calculated as the following:
$600,000 – $304,975 = $295,025.
If you’re following along, you may wonder…hey, mom just paid taxes based on the sale price of $500K.
So the tax between $500K and $300K (the transfer price) would have been taxed one in mom’s return.
Why is the son taxed again?
Unfortunately, transferring the property at below fair market value would result in double taxation.
Son would have to pay taxes again on capital gain that mom has already paid tax on.
Sucks!
Solution?
If mom is able to gift the property outright, the adjusted cost base (tax cost) to son would have been the fair market value. No land transfer tax is triggered as the gift is given out of love and affection. 😊
If that isn’t an option, and the son’s intended use is to live in the property until it is sold, mom can still sell the property at $300K as intended and not get double taxed.
If that isn’t the case, make sure you consult with a professional to calculate the cost and benefit analysis for each option.
Until next time, happy Canadian Real Estate Investing.
Cherry Chan, CPA, CA
Your Real Estate Accountant
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