The Smith Maneuver

Things work differently in different countries. For example, here in the U.S., we drive on the right side of the road, whereas in England, they drive on the, um...wrong side. Also, here in the U.S., mortgage interest is usually tax-deductible, while in Canada, it’s not. But our neighbors to the north have found a way to make mortgage interest tax-deductible, sorta kinda, and it’s called “the Smith maneuver.”

Financial planner Fraser Smith came up with this little gem of an idea back in 2002. First, we have to get ourselves a readvanceable mortgage, which means we’re simultaneously taking out a mortgage loan and a line of credit. Every dollar of mortgage principal we pay, we turn around and re-borrow through the line of credit. The thinking is that we’ll then invest that line of credit into something that pays a higher return that the interest rate on the mortgage. Then we take the money we make on the investments and put it toward the mortgage principal, which gives us more to invest, which makes us more money to put toward the mortgage, and so on.

Now here’s where the tax deduction thing comes into play: mortgage interest isn’t tax-deductible in Canada, but interest paid on lines of credit is. So, in essence, we’ve turned our mortgage loan into a tax-deductible line of credit. And here’s another potential benefit of the Smith maneuver: since we’re putting our investment profits back toward the mortgage, there’s a good chance we’ll be able to pay it off a lot faster. Which is always nice.

Are there risks to this approach? Indeed there are. If the value of our house tanks, we could end up upside-down on our loan. And since we’re re-borrowing what we’re paying, we’re not actually reducing our total amount of debt. We’re just rearranging it for tax benefit purposes. But once that mortgage is paid off, we can decide whether we want to use any of our sweet investment portfolio to pay down the credit line debt as well.