Smith Manoeuvre Debated

Real Estate Magazine's March issue has a scary sounding piece on the Smith Manoeuvre.

Tax specialist Dan White warns those considering the Smith Manoeuvre to "think again and think carefully."  He suggests there is a danger of being audited--and losing.

Toronto Star writer Bob Aaron adds his own opinion.  He calls the Smith Manoeuvre "far too risky for the average homeowner." 

Aaron writes: "Under CRA rules, interest paid on money used from a mortgage to produce capital gains is not tax deductible."

From our layman's view, the main issues here appear to be with:

a)  The earning of "capital gains" instead of "income;" and,

b)  Using "money...from a mortgage."

It's worthy to note that people borrow to earn income all the time, and using home-secured lines of credit for that purpose is nothing new. 

Ed Rempel, a financial advisor who specializes in the Smith Manoeuvre, says:

"While it is technically correct that the Tax Act does say that there needs to be an expectation of profit excluding capital gains...CRA has never contested any interest expense in a simple borrowing to invest."

Rempel continues:

"I can tell you that the Smith Manoeuvre done properly (eg. if you don’t take distributions out of the fund) easily meets all CRA rules."

Brian Poncelet, another Smith Manoeuvre expert, quotes CRA's bulletin IT533 on interest deductibility.  It says that CRA's comments on interest deductibility are:

“generally applicable to investments in mutual fund trusts and mutual fund corporations.”

But don't take our word for it.  Do as Aaron suggests.  He says,

"Always obtain tax advice from a qualified person, such as an accountant or tax lawyer, who is not selling or promoting anything, and to whom the client's interests come first...If the tax adviser stands to make a commission selling participation in a scheme like the Smith Manoeuvre, he or she is in an obvious conflict of interest."

That's excellent advice.  It applies to our industry as well.  In other words, if you use a mortgage planner to set up a mortgage for the Smith Manoeuvre, do not rely on their advice on the tax or investing aspects of this strategy.

There are many opinions on Aaron's article--both dissenting and supportive.  Canadian Capitalist has a great thread about it.  Have a read and call your accountant.