SELF DIRECTED RRSP MORTGAGES
What most investors are not aware of is how to utilize their RRSPs beyond their home purchase for investment purposes. After all, they’ve witnessed first hand the tax free appreciation of their home and how helpful it was to have been able to use their RRSPs towards a first home purchase, but the question then gets asked how can one continue investing their RRSPs in real estate as an alternative to volatile mutual funds or paltry GIC returns?
Many home buyers, whether first time or move up buyers, typically require a mortgage to purchase their home. Typically, the answer is to go to a bank or other such financial institution to seek a mortgage. But why should the banks get all the business? You can lend some or all of your RRSPs to such a buyer. In return, you get a handsome rate of return (interest rate) and yourinvestment is secured by the real estate on which you are lending, offering you unparalleled security to other forms of investment. When you invest in stocks or mutual funds, what’s your security? Think of Nortel – once the infallible darling of the Canadian investment community or even Bre-X.
Financial advisors agree that a return of 8 or 9% per year is a very good rate. The problem is that many investors aren’t able to generate this rate on a consistent basis because of the fluctuations of the equities market. You may exceed this in one year only to give it all back – or more – the next. For this reason self directed RRSP mortgages have been increasingly popular.
And here are the general steps and how it works.
1. You transfer the desired amount from your RRSPs to a trustee. Note you are NOT collapsing the RRSPs. The trustee acts as an intermediary holding onto your RRSPs and awaiting further direction from you. (Most banks can offer this although B2B a subsidiary of Laurentian Bank was one of the first to have offered this). The reason that a trustee is required and you are not permitted to just transfer the RRSP to your account is because theRRSPs have not yet been taxed and so the government wants to protect what its eventually owed in taxes payable on your yet untaxed RRSPs.
2. You find a home buyer who requires financing or an existing homeowner who requires refinancing
3. You and the borrower agree to the amount to be borrowed, the interest rate and other such repayment terms. Note, at this stage you will also conduct your own due diligence to assure yourself that the property warrants the amount you intend to lend.
4. The agreement is documented by both your lawyer and the borrower’s lawyer.
5. Your lawyer transfers the RRSP fund to the borrower’s lawyer and registers your interest on the property by way of a mortgage registration on the deed or title to the property. Note that the borrower pays all fees.
6. The trustee will take care of the administration of the mortgage making sure that the mortgage payments are correctly deposited to your RRSPaccount. At this point there’s really nothing left for you to do.
ARM’S LENGTH VS. NON-ARM’S LENGTH MORTGAGES
There are two types of RRSP Mortgages depending on whom the RRSPholder lends to, namely, Arms Length Mortgage and Non-Arms Length Mortgage.
Non-Arms Length involves lending to a blood relative such as mother, father, brother or sister. It requires that the RRSP mortgage be insured (such as CMHC, for example). This involves an appraisal and an insurance premium depending on the loan to value ratio (LTV ratio) and calculated on a sliding scale up to approximately 4% of the loan amount.
Arms Length is lending to a non-relative and there is no insurance required.
In both cases, the RRSP Mortgage has to be managed by a Trustee who charge a nominal set up fee of approximately $250 and a similar annual fee regardless of the mortgage amount. And here is the great news, the terms of the mortgage ie the interest rate, the term and expiry date, the payment frequency are all agreed to between the RRSP lender (YOU!) and RRSP borrower. A lawyer will then prepare the documentation and register the mortgage to protect the interest of the RRSP lender.
The above is offered as an overview and there are a few more details that you need to concern yourself about, but in general it’s a fairly straightforward process.