Playing With House Money #2 – Gifting, Loaning or Co-owning?

In my last article, I discussed many of the different ways that Canadians hankering to eventually own their own home could best save towards funding this dream. Today’s offering discusses the three most common options available for parents when the youngster wants to buy a home but needs a little more help to get them across the finish line when it’s time to purchase:

• Gifting;
• Loaning; and
• Co-owning.

And, although the article discusses parents helping children, I’ve only done this to make this article easier to write- the options discussed apply to anyone looking to help a family member or even a really, really, really good friend get a place to call their own.

Overview

Before going advancing any money, I strongly suggest first taking a step back and having a heart-to-heart conversation with yourself. Some of the questions you may pose are:

• How will helping impact your own financial future? How much could you safely loan or gift without risking a future full of Kraft Dinner during your so-called Golden Years?

• Are junior’s financial forecasts realistic ones? And, are you prepared and able to commit more money in the future if (s)he has bitten off more than (s)he can financially chew? In some cases, you all may ultimately be better off if junior scales down their dreams so that (s)he can have both a comfortable home and a comfortable lifestyle.

• How secure is the child’s relationship? Not only will this affect whether or not now is the time to advance some funds, but the form this assistance might take.

• Is struggle good for the soul? And, is it possible to be too generous? Will this particular child benefit from having to save a little longer, scale down expectations or struggle with the responsibility of living on a tight budget? Or, does this parsimonious approach merely make life needless harder while simultaneously depriving you of the benefit of watching the next generation enjoy the fruits of your generosity? Feel free to insert any additional existential questions of your own.

Meet Your Options

Should you still wish to help after wading through this swamp of difficult questions, the next issue is what form of assistance is best. Here are the leading contenders:

1. Gifting – Simple but Risky

Assuming that you will never need the money back, this option is the simplest and often works out just fine. All the same, allow me to don my legal robes and point out some of the things that can go wrong, sprinkled with a few suggestions about how to limit your risk:

• If your child is successfully sued, your gift is up for grabs.
• If junior is financially irresponsible or faces problems like gambling addiction, you don’t have the same financial clout as someone who is a lender or co-owner.
• There is no guarantee you’ll ever get the money back if you later discover that your child is married to Bernie Madoff’s evil(er) twin. It is often better to give (or loan) a little less than to risk running short of cash yourself when a super senior. You can always give more later once your own financial future is more certain or when your kid demonstrates that they are not a complete financial train wreck.
• Although most provinces protect the amount of a gift in the event your child divorces, (s)he will still have to divide any growth in the place’s value 50/50. And, in provinces like Ontario, gifts used to purchase the family home are ignored when divvying up the matrimonial pie. In other words, if a marriage based in Barrie doesn’t work out, half of your generosity will end up in the hands of someone your child may now cross the street to avoid. Is this a risk worth taking?
• If your child dies first,  you have no control what happens to your gift. While most parents wouldn’t mind so much if the gift passed to their grandchildren, you might feel decidedly differently about a $200,000 gift passing to a son/daughter-in-law you can’t stand or some  random charity a single child might name in their Will, particularly if you have other children that you’re rather received the funds.
• If planning to gift to other children in the future, do you need to include language in your Will to equalize things at that time if you don’t get the chance to do so during your lifetime?

If gifting still sounds like the best option, I suggest actually going the extra mile and documenting your generosity in writing in order to avoid potential legal problems later. If your intentions are unclear, the law assumes that any funds paid to adult children are loans, rather than gifts. Accordingly, if your kids don’t get along, or your new wife isn’t the biggest fan of your old kids, your gift to those children may be unintentionally clawed back when you’re 6 feet under. Lawyers prepare something called “a deed of gift” that puts this issue to bed. Not only can these documents ensure that your child gets to keep the gift, they can also hopefully avoid hard feelings over Christmas dinners after your ashes have been scattered over your favourite golf course if other family members had a different understanding of your intentions even if they don’t involve lawyers.

And, if you are planning to help other children in the future, consider whether you want those children you didn’t get a chance to help during your lifetime get a bigger share of your estate later. If the answer is yes, also consider whether you need to bump up the value of any post-death equalization payments in your Will to take into account things like inflation and what planners calls the “time value of money.” Put another way, a gift of $100,000 5 years ago is worth a lot more than a similar gift made today – do you need to adjust any equalization payments to take this into account?

• Loans – Help with Strings Attached

9 out 10 lawyers prefer lending over gifting 95.2% of the time when the size of any cash advance is at least 6 digits long. It’s not always because of the things we can anticipate going wrong, but because of the things we don’t. Knowing that we can’t predict everything that might go awry, we like to keep our options open just in case.  Unlike gifts, loans can be called in if parents do need the money back, the child gets sued, has a failed marriage, likes to bet on the ponies a little too much or (insert reason of your own.) It’s not like you need to charge interest and it’s always possible to forgive the loan at a later date, such as in your Will – it’s simply about adding a little extra protection and flexibility to our clients’ planning.

If you’re pretty sure you might need the money back or are actually having to borrow yourself to help the child get that housing toehold, a loan becomes an even better idea. In such cases, perhaps you do charge the child interest equal to your own borrowing costs, such as if you’re using your own HELOC to come up with enough money to get the child into a bungalow. I’ve even heard of some parents taking out a reverse mortgage to help the child get started, although I worry about what happens if mom and dad ever need to go into assisted living and most of the equity in their place has essentially been transferred into junior’s abode.

If going the loan route, here are few options, recommendations and consideration to chew on:

• Review the law regarding division of property in the event of a divorce. Many provinces protect the sum originally gifted to a child if (s)he divorces, even if any increase in the home’s value is still split 50/50. On the other hand, this is not a universal law and if you live in Ontario, any gift funneled into the family home is unprotected. Accordingly, since loans remain enforceable, gifting rather than loaning can be an expensive mistake if your daughter’s marriage later unravels at the seams and she happens to live in Barrie, as mentioned earlier. (To be clear, I actually quite like Barrie, just not Ontario’s spin on how the house is divided upon divorce.)

• Document the gift in writing, preferably in front of an independent witness, so you can prove both that it was a loan and its terms. On the latter point, if you are looking to charge interest or have a repayment schedule, documenting the intentions in writing may avoid some misunderstandings and awkward conversations down the road.

• If charging interest, consider a variable rate loan pegged to a benchmark, or, if you really, really like fixed-rate mortgages, include rate reset provisions further out in time, such as every 5 years, as well as a formula, such as pegging rates to bank rates at that time for a similar mortgage. Although you may not always pass along any rate increases, it’s a lot easier to waive or modify terms in the future if you’re feeling generous than to ask for a rate increase out of the blue later in life when you’re charging 5% less than current mortgage rates or what you’d hope to get if investing the loan money elsewhere.

• If really worried about protecting the loan, such as if your child is not exactly a financial superstar or they might sued at some point in the future, consider registering the loan against the property like banks do when providing mortgages. On a practical level, if the child also has a bank loan, this may present problems or you may need to grant the bank the right to get paid first if there is ever a forced sale, but this option is at least worth investigating if you start to hear about your child missing credit card payments.

• Consider requiring your children to sign a prenuptial as a condition of a loan if his or her spouse or their family aren’t contributing as much towards any home purchase or your child goes into the relationship with a lot more wealth, particularly if (s)he already has children from a previous relationship. This might be the pretext your child was looking for but was too love-struck to bring up in casual conversation. You playing bad cop, albeit one with a large cheque book, may ultimately save your child a lot more than the value of any loan should their relationship go south. Moreover, prenups and cohabitation agreements also cover off Will challenges. Although your child may not live to see the benefits of the prenup, his or her children may be the ultimate winners when the stepfather or stepmother of your grandchildren is prevented from claiming more of the estate at your child’s death than your child had wished and bargained.

• Make the loan to both your child and their partner so that you can potentially collect from either of them. This provides you with more protection and flexibility. For example, on your child’s death, it is easier to collect from the spouse or at least protect the value of the loan if the spouse enters into a new relationship. Some parents may still forgive the loan at their own death, but others like the idea of gifting the remaining loan balance to their grandchildren in trust in order to ensure that they get at least that much of the house one day.

• If you do need the money back one day, be clear on a timeline, such as an event like retirement, your 65^th birthday or when the child renews the bank mortgage in 5 years. Not only does this help with setting expectations, but it also allows your child to budget for this eventuality when managing their own finances, which vastly increases the chance that (s)he actually has the resources to make this happen when the target date arrives.

• Talk about the loan in your Will. If you plan on forgiving it, say so. If you want it deducted from a child’s share of your estate instead, say that as well. If nothing is said, it will be treated as a loan to be repaid most of the time, but why leave it to chance? Even if that is your intention, any uncertainty can lead to bad feelings among the rest of the family if they don’t agree on what you really wanted to happen. And, if you want the loan transferred to someone else, like a grandchild, say that as well.

• As mentioned earlier when discussing gifts, if you haven’t loaned to your other children at the time of your death and have interest-free loans to others, do any equalization payments to the have-not kids need to be bumped up beyond the mere value of the loan to level the playing field?  Consider charging notional interest (but don’t make the calculations too complicated) to increase the amount of any equalization payment. For example, I have had some clients add amounts like 5% per year to the value of any previous loans when determining how much the loan-free children should get before the rest of the estate is divided.

Going on Title – Helping But Not Necessarily Giving

There are several different scenarios where mom and dad might actually end up on title to a child’s house. I won’t pretend to cover all of them, but I’ll point out a few scenarios where this might either be required by the bank or something you might want to do for other reasons.

The most common situation is when the child can’t qualify for mortgage on their own and the bank won’t give them the cash unless you’re both on title and are also responsible for ensuring that the bank gets their biweekly pound of flesh. Although it is theoretically possible for you to stay off title but only guarantee the mortgage, I haven’t seen this actually happen, unfortunately. Typically, the parents required to be on title take a 1% interest (although you may want a bigger stake as I’ll discuss later), which is the minimum amount necessary to appease the bankers. If this is unavoidable, so be it, but lawyers really do hate it when clients end up guaranteeing someone else’s loans, which is what you’ll be doing when signing onto the mortgage. It’s one thing to write a child a cheque for a set amount and knowing that is all you might lose, but something completely different to know that you might be called on to make someone’s ongoing mortgage payment or perhaps a lot more. Although there will hopefully be enough equity to pay the bank back should this happen, there are no guarantees. Moreover, it is generally a lot better for Christmas dinners in the future when family finances aren’t connected at the hip. Anyway, if guaranteeing or being a copayer of a mortgage is the only way forward and you’re comfortable with the situation, at least proceed with your eyes wide open.

In other cases, perhaps mom and dad want more than just a thin slice of the new place. For example, if they are providing a 30% down, they might want 30% ownership. For parents considering taking on a larger ownership stake, here are some more of the pros, cons and suggestions, using this 30% ownership example:

• If a child’s relationship fails, you are entitled to at least 30% of the equity rather than just the amount you originally contributed. On the other hand, this may not be as good as it sounds. If the place has declined in value, you might get back less than you invested. Moreover, if you have funded the entire down payment and the rest was mortgaged, your 30% of the equity may actually be less than your original contribution even if the property has gone up in value. For example, if you contribute the entire $300,000 downpayment for a $1,000,000 property and take back a 30% ownership stake, you could potentially still lose money if the property sells the next day for $1,100,000.  Although the total equity has increased to $800,000, unless you have a proper agreement in place that ensures that you get your original contribution back first, you may only be entitled to 30% of $800,000 or $240,000.   Accordingly, a written agreement is a wise insurance policy for any time you’re co-investing with a child, particularly if they have already coupled up or might find that special someone in the future.

• “Going on title” ensures that the child cannot sell or borrow additional funds against the property without your knowledge, and in most cases, consent. If you merely have a written loan agreement without registering a mortgage against the property, your child can do as they wish. For younger or troubled children, or if you have control  / trust issues, this may not be an acceptable risk.

• You’ll have more to pass along to grandchildren or others compared to merely calling in a loan or transferring it to grandchildren if your child predeceases you. Although transferring a loan to the grandkids does provide some benefit, the value of any loan will not have increased along the way and the spending power of any loan 15 years down the road is likely a fraction of what the money was worth initially, which means a lot less to pass along to junior’s own children in real dollars. If you have a piece of equity to pass along instead, hopefully the value of your piece of the pie will be a lot more significant.

• Unless you’re also living in the house with your child, which is something becoming more common, your percentage of the property probably won’t qualify for tax-free growth under the principal residence exemption. While your child’s share of their home will still sell tax-free, your portion of any growth will be taxed as a capital gain. If weighing choices, particularly if you don’t need the money back and plan on gifting it to the child at death, the tax hit that could have been avoided if the child was the only one on title is one of the biggest negatives. Noting the typically high tax rates people face at death, this could mean losing 26.75% of any increase in value to the tax man.

• If you have to borrow to come up with the money and may be cash-strapped for your own retirement, taking an equity position, along with that written property agreement I am harping on about can be a win / win result. This also assumes that the child can either pay you out (such as by refinancing) or is willing to sell when you need your retirement dollars. It’s also possible to sell in stages to make this more affordable, which might also save you some tax dollars by staggering any capital gains over multiple years rather than having it all taxed in a single year. Ultimately, this strategy is essentially investing with your child rather than with your stockbroker to fund your retirement. The key is ensuring that you’ll be able access your capital when you need it.

When co-owning property with a child, here are some suggestions when looking at a written agreement:

• Don’t try to do it alone. Get a lawyer involved and ensure that any agreement either says the others got independent legal advice or were advised to do so.

• Have your child’s spouse be a party to the co-ownership agreement. This offers greater protection if your child dies or divorces. Although you don’t need to enforce every part of the agreement in every situation, why not have that option?

• Clarify who is responsible for ongoing costs related to the property or how they are to be apportioned. This is particularly important if there is a mortgage or if renovations are likely in the possible.

• Particularly if you’ve paid most or all of the purchase price and the child is covering all of the mortgage, determine how the equity is to be divided when the time comes. For example, do you get your down payment back and your kid gets any amount paid towards the mortgage back  before the rest of the equity is divided?

• Include provisions for when you can compel the sale of any property if the kid can’t or won’t buy you out, such as at your retirement or various deaths or any time you want with a set amount of advance warning.

• Consider adding restrictions on using the home as collateral without approval of the other parties.

• Require mandatory mediation and binding arbitration instead of court if there is a problem with the agreement. This may be particularly useful if something happens to your child and you have to deal with that unreasonable son or daughter-in-law.

• Consider if any of the parties want to have life insurance on the others to pay for a buyout on the key person’s death.

• If you want the child to receive any remaining equity on your death as part of their inheritance, clarify how the place is to be valued, particularly if that child might also be your executor, in order to avoid any conflict-of-interest worries. This might simply mean requiring a professional property appraiser paid for by your estate. Also, specify which costs should be paid by the child receiving the property should pay and which you want covered by your estate.

Final Words

Helping children own their own home can not only be a family affair, but also a shared dream. The goal is to prevent any generosity on your part from turning into a nightmare. Fortunately, there are several ways of protecting against things go wrong. Taking the time to carefully consider your options and to document your intentions can ultimately make all the difference.

Playing with House Money: How to Maximize Your Savings When Saving for that First Home

Playing with House Money:

Ways to Save for that First Home

It’s not exactly a newsflash that buying a first home in today’s Canada is only a pipedream for many. Prices soared to new highs across the nation during the heights of the Covid pandemic and, although we are now well off of those highs, the subsequent rampant run-up in interest rates has vastly decreased how much potential buyers can and should borrow. Making things even worse, 2022’s stock market decline chipped away at many potential down payments and the current stratospheric level of inflation means that a portion of many pay cheques earmarked towards home savings have been diverted to things like gas and groceries. The reality is that for many young Canadians, their only chance of getting into the housing market any time soon is from either playing the lottery or with a little help from someone else.

While reading this article will not create a down payment out of nothing or magically reduce mortgage payments, a little strategic financial planning, a lot of patience and a healthy assist from the investment gods may ultimately see you or your loved ones finally in a place of their own. Whether you’re saving up for your own abode or a parent / grandparent looking to give a youngster a leg up, here are a few ways suggestions to help achieve this lofty goal.

What This Article Won’t Do

I don’t plan on talking about any provincial programs that focus on saving property transfer tax, nor any federal or provincial programs that rebate any PST, GST or HST when buying new or substantially renovated homes. I will say in BC that if a couple is purchasing a home and one has already owned a home previously, it’s worth getting legal advice to discuss potentially having solely the first-time buyer on title initially.

I also don’t plan on providing any specific investment recommendations, other than a few quick comments that I’ll make now. First, just like when setting up any other investment account, picking investments that match your time horizon is vital, as is also adjusting this mix as you get closer to the finish line. Although swinging for the fences can pay dividends if you capture a market upturn, the reverse is true if the market swings the other way. If you’ve already saved up enough for that down payment, it’s time to take risk off the table and reduce volatility. This is particularly important for savers already shopping the market or waiting to close on a property, but also applies for those of you perhaps still a year or two away, waiting for prices and / or rates to drop before putting a toe into the property market.  This opportunity might instead pass you by if your investment portfolio suffers a similar decline.

You’ll also need to make your own investment decisions or get professional advice, but a couple types of investments I currently own might not be things many of you have considered before. I currently own both some private mortgage funds (MICs) geared towards residential mortgages and some structured notes that provide both a healthy income and downside protection. There are downsides and risks to both, as there are for any investment, but both of these minimize stock market risk, although you’d also need to confirm that  minimum holding period isn’t too long for your purposes, and whether you have sufficient income or savings to meet eligibility requirements.  And, neither of these options are appropriate for all savers.

Setting the Stage

For many, the best path to their first front door will combine several of the different strategies I’ll discuss below – there are contribution or withdrawal limits to some of the government plans meant to assist with first home purchases, which means having to fund more than one type of savings or investment account. Moreover, savers may also need to pick from different government plans, as using one type of government-assisted plan may disqualify them from using some others. Finally, if other family members are also hoping to assist youngsters, they won’t have access to all of the same government assisted savings plans. Ultimately, if purchasing that home requires a combined family effort, the best strategy may involve different people saving or contributing in different ways.

Furthermore, just to make this all that more confusing, one size will not fit all, as we all have different financial realities, timelines and goals. Your job after reading this article will be to cherry pick what options best fit your reality and take whatever steps are required to move forward, either on your own, with the rest of your family or with the assistance of whatever advisors you need to make things happen.

I will also wait until next time to discuss some of the considerations parents and grandparents wishing to contribute can do to protect themselves and the lenders in lieu of gifting, such as lending, guaranteeing mortgages or co-owning.

So, with no further delays,  prevarications, or qualifications, here we go . . .

Tax Free Home Savings Accounts (“FHSA”) – Coming April 2023 to a financial institution near you

Key Benefits:

• Tax- deductible contributions.
• Tax-free withdrawals with no repayment requirements.
• No cap on the amount that can be used for a down payment, although there is a cap on yearly and total contributions.
• Flexibility to transfer back and forth into RRSPs.

Key Disadvantages:

• $8,000 annual funding limit and $40,000 lifetime funding cap.
• Limited carry-forward room if you don’t maximize each year’s limit.
• A higher income spouse can gift a spouse the money to fund the spouse’s contribution, but the lower income spouse must claim the deduction.
• Although initially, savers were forced to choose between either using the RRSP Homebuyers’ Plan or the FHSA, recent changes now allow them to use both options. Accordingly, this disadvantage no longer applies!

This account combines the best features of both RRSPs and TFSAs. Starting in 2023, everyone over 18 (or likely 19 in provinces with a higher age of majority) who hasn’t owned a home in about 5 years can contribute $8,000 each year if maximizing their yearly contributions into this account, with a lifetime contribution limit of $40,000.  Like a TFSA, contribution room is based on age rather than income. As well, all qualifying withdrawals are tax-free, with no repayment requirements, unlike when borrowing from an RRSP.  Even better, there is no cap on how much you can eventually withdraw, other than you can only keep your account open 15 years. In other words, although you can only put in $40,000 and will have to wait at least 5 years to squeeze in your last dollar, you could potentially withdraw hundreds of thousands tax-free if you corner the stock market and / or get a little lucky, particularly if the money has many years to compound.  Of course, swinging for the fences can also mean watching your contributions vanish, so make your investment decisions with your eyes wide open.

As is true for RRSPs, contributions are tax-deductible, which allows investors to invest more, since contributions either reduce how much they have to set aside for taxes or will result in a tax refund to refill the coffers. And there is no need to deduct contributions in the year they are made if expecting a big bump in salary next January (and thus a bigger refund) or that first real job is many years away. It’s even possible to transfer RRSP money to your FHSA to fund contributions if money is tight one year, although you won’t get any RRSP contribution room back. The reverse is also true if you ultimately never enter the housing market – you can transfer FHSA money into your RRSP without triggering tax and the amount transferred will not affect your regular RRSP contribution limits.

That said, my suggestion is to investigate funding the FHSA if not already attending open houses and schmoozing with mortgage brokers. The funds can always be transferred to the RRSP and used towards that down payment option if HBP ultimately turns out to be the best way forward. And, if that first purchase is delayed a few years and / or the investments in the FHSA do well, the saver can simply fund the down payment from the FHSA. As an added bonus, since money deducted under the FHSA doesn’t count against RRSP contribution limits, if the funds are ultimately transferred to the RRSP anyway, the saver will have more RRSP contribution room for use in the future compared to someone who instead put the same amount into an RRSP instead.

If maximizing FHSA contributions, the next question is where to put your next dollar of savings – a TFSA or RRSP. Generally, savers in a lower tax bracket with a longer time horizon before purchase are often better off putting extra funds into their TFSAs after maximizing FHSA contributions if hoping to eventually save the highest down payment possible –since the HBP caps withdrawals at $35,000, putting the extra cash into a TFSA after funding the FHSA could eventually mean a far larger down payment one day, since both the TFSA and FHSA allow the full account balance to go towards that first home should the investments inside the TFSA grow like gangbusters. Moreover, the saver can always withdraw funds from the TFSA at a later date to make catchup RRSP contributions if that ultimately looks like the best way forward, particularly if the saver is now in higher tax bracket and, accordingly would get a bigger tax refund per dollar contributed. And, if the money has grown inside the TFSA, the saver might actually have more dollars to contribute to the RRSP in the future anyway, which can mean an even higher tax refund and even more money for the pending purchase. Accordingly, as you can see, some savvy savers might actually use all three registered savings plans to maximize their downpayment dollars.

Changing directions, there is one major drawback to the FHSA – this plan offers minimal catchup contributions. Savers cannot carry forward any unused contribution room unless they’ve already opened a FHSA. Moreover, even after a plan is in place, savers who don’t take advantage of their yearly maximum contribution can only carry forward a combined $8,000 to use later, capping out yearly contributions at $16,000. In other words, if you don’t open an account in 2023, you will have no carryforward room for 2024 and can contribute only $8,000. And, if you do open an account in 2023 and contribute $1,000, you’d be able to contribute $15,000 in 2024.  One matter I still want clarified is what happens for a saver who has not made any contributions for many years after opening an account – are they stuck with a single $8,000 catchup contribution when they do have the funds, plus that year’s regular $8,000, or do they get to do the same thing the next year as well until they hit their $40,000 lifetime contribution limit?

Due to this limited carryforward room, regardless of the answer to this question, if looking to use the plan, it makes sense to start sooner rather than later, even if making only a minimal contribution or perhaps transferring money from an RRSP directly to the FHSA to come up with the necessary cash. One final question that still remains in my mind is whether money in a spousal RRSP (i.e., one funded by presumably the higher income spouse for that other loved one’s benefit) can be transferred to the receiving spouse’s FHSA. Finally, if you are still unable to make your contribution but your spouse has a few extra dollars kicking around, (s)he can lend you the necessary funds, which is an exception to the normal tax attribution rules.

Registered Retirement Savings Account Home Buyers Plan (“RRSP” or “HBP”)– Borrowing from tomorrow to help pay for today

Key Benefits:

• Contributions are tax-deductible and unused contribution room can be carried forward indefinitely.
• Higher earners or those with lots of unused room can maximize funding far sooner, which can be important for savers close to purchasing.
• Flexibility to transfer back and forth with FHSAs.
• Potential tax savings if higher income saver can contribute and write off contributions to a lower income spouse by funding a spousal RRSP, which can be used to increase the down payment.

Key Drawbacks:

• Withdrawals capped at $35,000 and must be repaid within 15 years starting from a couple years post withdrawal in yearly increments.
• Takes away from growth of retirement savings.
• Income-based, so starving students may not be able to contribute until employed and have qualifying income. Savers with defined benefit pensions will have limited RRSP contribution room.
• Borrowing from your RRSP to fund a down payment disqualifies that saver from also using the FHSA. – No longer true!

Although RRSPs are designed primarily to save for retirement, there is an exception for anyone who hasn’t owned a home in essentially 5 years or, regardless of how long the gap between homes, if you’re recently divorced. You can borrow from yourself interest-free, but you need to start repaying your RRSP account a couple years later according to a 15-year repayment schedule. If you don’t make a repayment, you’re taxed on that year’s minimum repayment amount as if you’d made an RRSP withdrawal of that amount. On the other hand, you don’t get any new tax deduction when repaying yourself, as you already got your discount when contributing in the first place, which makes repayments more onerous than regular deductible contributions. For couples in different tax brackets, it’s possible for the higher income spouse to make contributions to something called a “Spousal RRSP” and for the receiving spouse to use that money towards the down payment. The contributing spouse uses up their own RRSP room and gets the tax deduction, but the money goes into a separate RRSP that the receiving spouse can use to come up with all or some of their own $35,000 in eligible withdrawals. Ultimately, most couples using this strategy aim to have $35,000 each to put towards a down payment, whether each funds their own plan or if the one in the higher tax bracket helps the other come up with all or some of the necessary funds through spousal RRSP contributions. Using the Spousal RRSP option if there is a big disparity in taxable incomes and the goal to only contribute enough RRSP dollars to max out the HBP, then the Spousal RRSP option can be a gamechanger.

The spousal contribution option is one perk that is exclusive to HBP – the FHSA allows us to only deduct contributions to our own accounts (even though we can lend a spouse the cash for their contributions.) As a result, the HBP is more tax-efficient for couples in wildly different tax brackets, since the higher income spouse can essentially contribute for both of them and have the tax deductions based on that spouse’s income.

Moreover, unlike the FHSA, RRSP room is based on taxable income. Savers without work pensions can contribute 18% of their qualifying income to next year’s RRSP to a yearly cap that will be $30,780 in 2023, plus all previously unused contribution. The result is that savers that are late to the game can potentially put in and deduct a lot of money in a hurry to fund a HBP withdrawal, unlike the pending FHSA, which is a longer-term play.

Unfortunately, savers with work pensions earn far less RRSP room but might still be able to play RRSP catchup if they have lots of unused room from the past. As a result, although the HBP might not be ideal for some savers with significant work pensions and microscopic RRSP room, all is not lost if they already have a sufficient RRSP, a spouse that could make a spousal RRSP contribution, or enough RRSP room from the past to get there on their own.

Tax-Free Savings Account (“TFSA”)– Maximum flexibility, but no write-off

Key Benefits:

• Maximum flexibility, as this account can be used for any other purpose without triggering tax if plans change.
• Not income-based, so savers over 18 or 19 can start funding contributions even if not working, should other family members wish to lend a hand.
• Any withdrawals can be recontributed in the next tax year onward.
• All unused contribution room can be carried forward indefinitely, which can allow large initial contributions for older savers.
• Can be used in conjunction with either the FHSA and the RRSP HBP, or both.

Key Drawbacks

• No deduction for contributions.
• Limited annual new contribution room (i.e., $6,500 for 2023.)

The TFSA is a general-purpose savings account with no deduction for contributions, but both tax-free growth and tax-free withdrawals, regardless of how the money is used. Everyone 18 or older earned $6,500 in new contribution room for 2023 and can contribute any unused room from past year whenever the heart desires and finances allow from the year they turn 18 onward (or 19 in places like BC.) Moreover, any withdrawals may be recontributed in later years, which is an important benefit to this program that I’ll say more about later.

The major advantage of the TFSA is that it can also be used in conjunction with either or both of the other two options, either to augment savings after maximizing contributions to either RRSPs or FHSAs, or as way to build savings until the saver has enough taxable income to benefit from either of the other plans. In other words, rather than funding an RRSP initially when in a low tax bracket, the money could instead grow tax-free in a TFSA first before eventually going towards RRSP contributions when the saver can actually benefit from claiming the RRSP deductions. Even better, when the money is eventually contributed to the RRSP, hopefully the amount that can be contributed will have grown due to savvy investing while the money was in the TFSA, which means a bigger tax refund that would have been possible if the money had gone straight into one of the other two options.

The same applies for FHSA contributions as well if the saver isn’t in a high tax bracket, although savers would likely want to max their $8,000 per year contributions to that plan asap and only use the TFSA for the excess. That’s because the $8,000 that goes into the FHSA is tax deductible (unlike TFSA contributions) and the saver can wait until in a high enough tax bracket to make claiming the deduction worthwhile.

Finally, unlike HPB, there is no maximum withdrawal limit on a TFSA, nor any repayment option. An investor maximizing both TFSA and FHSA contributions could hypothetically fund the entire purchase using these plans if they hit an investment grand slam or didn’t live in a place like Vancouver or Toronto.  And, the previously mentioned ability to recontribute any withdrawals will increase how much (s)he can shield from tax in the future if they strike it rich or want to tax shelter some of their inheritance one day – someone contributing $50,000 to a TFSA but later withdrawing $150,000 would be able to shelter $100,000 more when their ship comes in later in life than someone who never used their TFSA in the first place! When the tax savings from having that extra hypothetical $50,000 grow for perhaps decades are factored into the mix, the TFSA starts to look better and better.

Family Trusts – Are the hassles worth the tax savings?

Key Benefits:

• Potential massive tax savings if the contributor is in a high tax bracket.
• Can allow purchase funding to start far earlier than most other options.
• Can be used to augment a youngster’s other savings vehicles or to provide the money to fund those plans.

Key Drawbacks:

• Setup and annual costs, plus the headache factor, make this option only really attractive in Wills or when there is perhaps $500,000 plus to contribute at once or over a few years.
• Current minimum trust loan rates (Jan 2023) are 4%, which is far less attractive than the 1% loans offered until July of 2022, with rates increasing to 5% in April.
• May require faith that money allocated to youngsters will ultimately be used responsibly when they are adults.

Trusts either created in a Will or funded during life by gifts or interest-bearing loans at the minimum government rate then in effect are an incredibly valuable tool for families with enough non-registered money to make the costs and effort worthwhile. If set up correctly, they can transfer income that would have been taxed at far higher rates in the hands of older generations to their spouses as well as younger and poorer family members, including minors in some cases. The benefits of a decade or two of extra money left to compound these yearly tax savings can almost seem magical and can make massive difference to junior’s later housing prospect.  

As an added benefit, although there might be a sizeable chunk of change in the trust that is used to create taxable income and capital gains, trusts can be drafted so that the original capital loaned or gifted to the trust doesn’t necessarily have to pass to the child. Perhaps just as importantly, how much of the income or gains get allocated to the various family members can be discretionary, so that no funds get distributed to a child or grandchild who hasn’t got their act together quite yet. The trust can also lend the youngster funds on an interest-free basis so that the family has some control over at least that amount if the child goes off the rails or perhaps as a way of providing a bit of protection in the event of a divorce or creditor concerns.

On the other hand, trusts can allocate money to youngsters but keep the funds invested inside the trust, issuing the child an interest-free promissory note. Over time, if the value of the note continues growing, this can eventually be the down payment. Once that child is an adult, however, they can call in the note to use any way that they like. Accordingly, each family would need to determine their own comfort level. Rather than issuing these promissory notes, the family can simply use each child’s annual allocations to pay that child’s expenses or reimburse their parents. This still leaves the family with far more money than it would have otherwise had if the investments perform as expected but reduces the risk that junior might spend 2 decades worth of Promissory Notes on a really big truck as soon as (s)he officially becomes an adult.

Obviously, a trust funded by a living relative is not something that every family can afford and the dramatic increase in the minimum interest that must be paid on borrowed funds also eats into some of the profits. Moreover, for trusts created in Wills, it is usually impossible to know exactly when they will be funded.  In many cases, although they may still be an invaluable tax saving vehicle for future generations, the money going into the trust may only arrive after a child or grandchild has already purchased.

Life Insurance – Living benefits from an asset meant to pay out at death.

Key Benefits:

• Provides later protection for the child’s family while also creating a side savings account that will grow tax efficiently which can be used as needed later in life.
• Money can be accessed in a variety of ways.
• Ensures insurance for the child even if their health later changes.
• Provides protection to the family if a child passes away, particularly after incurring significant medical costs. Allows parents time to grieve.

Key Drawbacks:

• Requires funding many years in advance and a parent / grandparent who is willing to assist.
• Annual payments are required for at least 10 years in most cases.
• Some withdrawals in the child’s hands may be partially taxable.
• May not direct as much money towards a down payment as some of the other options, as some of the premiums go towards the life insurance benefit.

Permanent life insurance with a cash value is another all-purpose savings tool that can lend a hand when junior wants to get his own pad. The purchaser of the policy is usually a parent or grandparent who gets things going before the toddler has started to crawl. They purchase the policy for typically a combination of reasons:

• Ensuring that the child will have protection for their own children one day even if their health later makes insurance extremely expensive or impossible;

• An intergenerational wealth building strategy that allows excess allowable contributions to the policy to compound essentially tax-free until it eventually produces a tax-free death benefit; and

• Most importantly for the current discussion, a savings strategy to accumulate a pot of money the child can use during life in various ways, such as purchasing a home.

Interestingly enough, even though the death of a child, particularly after a long and expensive illness, can have a profound effect on family finances, most people don’t purchase policies on children with this risk in mind.

The typical strategy involves purchasing a “participating whole life policy” (although other policy options are available) and paying the maximum amount allowed under the tax rules into the policy each year, which is usually many times more than the minimum required payment for at least 10 years, although 20 is better. The excess cash grows virtually tax-free in the policy at a set rate each year determined by the insurance company that usually increases when interest rates increase. After contributions stop, some of the annual income (called “policy dividends”) on the accumulated cash value is used to pay that year’s premium and the remainder is reinvested Moreover, some policies also have guaranteed annual increases to the cash value as well, which further grows the war chest that junior can tap into in later life.

Still others are “paid up” in a set number of years (usually 10 or 20), which means that no further premium payments are required or deducted from that year’s policy dividend payment. For safety-minded investors, a participating whole life policy is ideal, as it works a lot like a savings account — all policy dividends and the cash value are locked in once earned and accumulate like compound interest. The only way the cash value will ever decrease is if the owner makes withdrawal or to pay the annual premium or policy fee. At this point, policies typically pay about 6% per year, although the expectation is that this will increase due to the drastic increase in interest rates this year, although increases inside the policy usually lag interest rate increases.

Relating all of this to home purchases, the process works as follows. The (grand)parent(s) buys and own the policy and maximizes allowable contributions each year for 10 or 20 years. Eventually, they transfer the policy to their child or grandchild. The youngster can then withdraw all or some of the cash value, some of which can come out for free and some which will be taxed as income. The money can be used towards that first home either directly or perhaps to fund contributions to one of those government accounts mentioned earlier, particularly the FHSA, in order to offset any potential tax owing on the withdrawal.

There are other potential ways of accessing the money, such as “borrowing” your money from the insurance company through what is called a policy loan, so the cash value continues to accumulate inside the policy or, for policies with larger cash values, using them as collateral for bank loans. And if youngster isn’t attracted to the allure of home ownership, the money in the policy can always be used for other purposes, like educational funding, or continue to grow inside the policy until the time is right or add to the eventual death benefit used to protect that youngster’s own family.

Conclusion – A hopefully spellbinding conclusion commingled with a call to action

Buying a first home in Canada has never been more difficult and, until today’s combination of high prices and high interest rates abate, things will not be changing any time soon. For that reason, knowing how to make the most out of what you can do is critical, as options and strategies do exist. Your job is to review the information I’ve provided, plus what you find elsewhere to make every dollar go as far as possible, whether you’re saving for that house yourself or helping someone get a place to call home. Next time, I’ll write a bit more about some other ways parents or grandparents who have already accumulated the funds can lend a hand while minimizing risk.

Online Wills Seminar Wednesday November 30 at 2:10 pm PST

I’ve been given the opportunity to reprise the seminar I gave in Toronto this September for those members of the Canadian Moneysaver readership who couldn’t attend in person. If interested in attending, please following the following link:https://online.moneyshow.com/2022/november/world-of-etf-investing-canada-virtual-expo/speakers/ffvcms0311172/colin-ritchie/?scode=058455

Recording of My Wills Presentation

Thanks to everyone who tuned in yesterday to hear my presentation on Wills, Chills and Thrills. For those of you who weren’t able to make it, here is a recording. As well, if you want the slide deck, drop me a line. There were some technical difficulties in posting the link yesterday and I’m hoping that today’s effort is more successful. Please let me know if not the case!

https://colinsritchiecom-Fhttps://colinsritchiecom-my.sharepoint.com/:v:/g/personal/colinritchie_colinsritchie_com/EfnPaKRi6GtNg08zeVJ9DNABVtWGvGTrYCouEAzg1WQYVA?e=P9HrJF