Historical article note: This article was originally published on 2019-12-05. Rates, policies, home prices, statistics, product names and qualification standards reflect the environment at that time and may have changed. This archive is for historical record and general education only. It is not mortgage approval, investment, legal or tax advice.
At the end of each year, we discuss with everyone whether to accelerate the repayment of the mortgage, because some banks have a limit on early repayment based on the calendar year, and if it is not used before the end of the year, it expires.
If you have 50,000 yuan on hand, should you invest it or accelerate the repayment of your mortgage? The answer is simple: if there is still a mortgage on your primary residence, regardless of the interest rate, use it to accelerate the repayment of your primary residence loan. Do not accelerate the repayment of an investment property loan, because the higher the leverage ratio, the better, and the interest can reduce the net rental income.
From a tax perspective, if 50,000 yuan is used for investment, the investment income needs to be taxed; if it is used to accelerate the repayment of a primary residence mortgage, the interest saved is not taxed. From the perspective of future investments, the lower the primary residence mortgage, the more investment property loans can be applied for in the future, and the greater the number of investment properties.
The accumulation of family wealth largely depends on how each family handles mortgage debt, specifically whether to accelerate mortgage repayment and which property's loan to repay faster.
01 The mortgage determines whether you have a poor dad or a rich dad
Over 20 years ago, a personal finance bestseller swept the world, and it continues to sell well to this day. This book, "Rich Dad Poor Dad," has kept up with the times and published a series of editions. Whether or not you've read it, I want to repeat the main idea of this series here: two dads—one is the biological father, the Poor Dad; the other is a friend's father, the Rich Dad. The Poor Dad lives a life we can all imagine: going to school, getting a job, buying a house, having children, moving to a bigger house, continuing to move to bigger houses; although income increases, taxes increase, loan burdens increase, time spent with family decreases, and after losing his job, he passes away in poverty. The Rich Dad lives a life we can't imagine: little schooling, starting businesses, having children, buying houses, paying off the house he lives in, investing in real estate, accumulating more and more assets; the tax burden does not increase along with the assets; active income gradually gets replaced by passive income; time spent with family increases; and he doesn't need to work before retirement.
It is evident that Poor Dad and Rich Dad have completely opposite views on owning a primary residence: in Poor Dad's eyes, a primary residence is an asset—the mortgage interest is tax-deductible, and constantly buying bigger houses not only provides tax benefits but also satisfies vanity. In Rich Dad's eyes, a primary residence is a liability, a burden, a huge consumer luxury. Even if mortgage interest on a primary residence is tax-deductible, it is bad debt; only investment properties are assets because they generate income, and the debt is borne by the tenants. These two completely opposite perspectives determine the outcomes of their lives: Poor Dad appears busy, has social status, is respected, and lives decently, but in reality, he is spending his entire life supporting a single primary residence, which, other than providing a place to live, offers no other benefits. Rich Dad may not seem as decent outwardly, but in terms of wealth accumulation and financial freedom, he far surpasses Poor Dad. Some people have commented on my previous articles, believing that Poor Dad's constant upgrading of primary residences and avoiding capital gains tax on rising property values is the best investment strategy. I completely disagree with this view. Spending a lifetime constantly fussing over a primary residence and finishing retirement with only that one property is not what I strive for because that is precisely the fate of Poor Dad. What I aim to do is to pay off my primary residence mortgage before turning 50, hold multiple investment properties before retiring at 65, and if interest rates rise when I retire, sell the investment properties and hold bonds; if interest rates remain as low as they are now, continue to hold the investment properties.
I read 'Rich Dad Poor Dad' in China years ago, and after finishing it, I didn’t resonate with it at all and completely disagreed with the idea that 'Your home is not an asset.' It wasn’t until I came to Canada that I realized that what the book actually means by 'your home is not an asset' should be translated as 'your primary residence is not an asset.' Unfortunately, many Chinese Canadians around me are devout followers of the 'poor dad' mindset, stubbornly working hard, hoping to buy a bigger primary residence next. Even more regrettably, their children are unlikely to gain any life insights from their parents’ 'poor dad' thinking. Whether to accelerate paying off your mortgage is a choice between the 'poor dad' and 'rich dad' approaches to life.
02 Three situations where there is no need to accelerate repayment of a mortgage for a primary residence
Households in the following three situations do not need to consider accelerating the repayment of their mortgage on their primary residence.
The first situation is when the current owner-occupied home cannot meet the self-occupation needs, and there is a need to buy a new owner-occupied home while intending to keep the current home for rental purposes; in this case, there is no need to accelerate the repayment of the mortgage on the owner-occupied home. First, to purchase a new owner-occupied home, at least a 20% down payment is required. Except for BMO Bank's mortgage cash account, which allows the withdrawal of accelerated repayment amounts, other banks do not permit the withdrawal of accelerated repayment funds unless the mortgage is bundled with a line of credit under an all-in-one plan. Second, the larger the remaining loan balance of the original owner-occupied home, the more interest can be deducted from the gross rental income once it is converted into a rental property, thereby reducing the net rental income subject to tax.
The second situation involves funds that can be used to accelerate mortgage repayment, which are currently being used to invest in other assets, and the after-tax return on investment is higher than the mortgage interest rate.
The third situation involves funds that can be used to accelerate mortgage repayment, which are the liquid funds that households use for emergencies.
03 Why can others pay off their home loans so quickly, but I can't?
Using after-tax income to pay off a mortgage on your own home is not an easy task to begin with; accelerating it makes it even harder. There must be some remedies to speed up paying off a mortgage on your own home, right? There are, but remedies often come with side effects.
Remedy One: Before changing your primary residence, increase the mortgage on your current primary residence; the lower the loan amount for the new primary residence, the better. For example, if you live in House A and want to buy House B as your primary residence, and your household income is 100,000, House A's market value is 400,000 with a remaining loan of 250,000, the specific method is to first increase the mortgage on House A to 320,000, withdraw 70,000 as the down payment for House B. This way, the loan amount for House B can be reduced by 70,000, achieving the purpose of lowering the primary residence loan amount. Note that when House A is converted for investment purposes, the interest on the loan used to offset gross rental income is not the interest on the 320,000 loan, but the interest on the 250,000 loan, because the newly withdrawn 70,000 was not used for investment purposes. For specific tax reporting, consult an accountant. Before each change of primary residence, increase the mortgage on the existing property and withdraw cash for the down payment on the new primary residence. This method can reduce the primary residence loan balance as much and as quickly as possible.
Tip 2: Before taking out an additional mortgage on an investment property, liquidate your financial assets to accelerate the repayment of your primary residence. Many people don’t lack funds to accelerate repayment of their primary residence, but have instead used them to invest in more liquid financial assets. Before taking out an additional mortgage on an investment property, you can sell financial assets, repay the primary residence loan, and then use the "new money" from the additional mortgage to buy back the financial assets you just sold. Since this "new money" is used for investment, its interest can be tax-deductible. The result of this operation is that the original investment portfolio remains unchanged, the loan amount on the primary residence is reduced, and the source of funds for the new investment portfolio is borrowed money, so the interest as a cost of funds is tax-deductible.
Remedy Three: If you already have several investment properties, and the loan balance of the investment properties is relatively low compared to their market value, and you still have a mortgage on your own home, you can borrow private loans to pay off your own home, then mortgage the investment properties to free up funds and transfer your home loan to the investment properties. This approach requires careful calculation and planning, but the effect is remarkable, allowing you to repay your home mortgage aggressively within a few months.
04 There is a huge difference in the prepayment limits allowed by banks
Most people, when applying for a loan and comparing the differences between banks, do not take the loan prepayment limit as a factor for comparison. For example, Bank A's prepayment limit stipulates that an extra 10% can be repaid every 12 months, so over a 5-year contract, a total of 50% of the principal can be repaid ahead of schedule; Bank B's prepayment limit stipulates that 20% can be repaid ahead of schedule each year, so over a 5-year contract, a total of 100% of the principal can be repaid ahead of schedule. When encountering a rising floating interest rate or a falling fixed interest rate, and the loan is for a self-occupied home, the difference in prepayment limits between banks A and B becomes significant. Friends who intend to accelerate the repayment of their mortgage for a self-occupied home must understand the prepayment regulations of each bank.
Some banks allow early repayment on all working days, as long as the total repayment amount does not exceed the annual limit; some banks stipulate that early repayment can only be made on a specific date of the year.
Some banks allow you to immediately reduce the monthly payment after early repayment; some banks require that the loan monthly payment can only be reduced on a certain date.
I have met many people who, when choosing a mortgage, completely ignore the prepayment limit and the differences in the monthly payment adjustment policy, and only know to compare interest rates. Some realize it too late, and the cost is very high, but when making the decision, they are completely unaware, and even if reminded, they don't take it seriously.
05 Is it reasonable to use an owner-occupied house for business?
Everyone has the right to choose their own lifestyle. Accelerating the repayment of a self-owned home, buying investment properties, and accelerating financial independence is a lifestyle; working hard to get a bigger house, owning only one house at any time in life, living happily, not paying taxes when selling the house, and selling the big house after retirement to move into a smaller one is also a choice. The difference lies only in how quickly financial independence is achieved. But there is a lifestyle that ties the self-owned home with business, and I don't see any advantages to this lifestyle. For example, buying a property with a shop on the ground floor and living on the upper floor to facilitate managing the business. Such properties are usually commercial properties facing the street, with high mortgage rates, property taxes, and utilities. With the development of internet e-commerce, the traditional idea of 'one shop supporting three generations' is likely to face extinction. I suggest readers avoid this lifestyle if possible. There is another lifestyle beyond my understanding: buying a self-owned home far beyond one's financial capacity, showing off a high-status lifestyle to 'friends' in order to get those 'friends' who visit the house to join some business cooperation, while silently shouldering tens of thousands of yuan in annual mortgage interest. This lifestyle is far beyond my understanding, and I don't know how to evaluate it.
Conclusion: Fixed ways of thinking do not make a person's life extraordinary, but the average life condition of the public is definitely not the best. When people begin to notice that a small number of individuals have a living standard and condition that surpasses the general public, their reaction is not to find the cause and make changes, but to make excuses. Robert Kiyosaki, who discovered the differences between a poor dad and a rich dad, is not an economist, let alone eligible for a Nobel Prize in Economics. However, his discovery that 'your primary residence is not an asset' has put many families, who were originally at the average public life level but willing to make changes, on a fast track to financial independence. Financial independence means not relying on a job, not relying on the government, and solving financial problems on your own. The world recognized Robert Kiyosaki’s contribution by awarding him the title of 'bestselling author'; the world also rewards families who read the Poor Dad, Rich Dad books and are willing to make changes, with the prize being the accelerated achievement of financial independence through hastening the repayment of their home mortgage.
Since the publication of 'Rich Dad Poor Dad' in 1997, the number and proportion of poor dads in the world have not decreased. Over the past 22 years, countless poor dads have continued to work hard, buy big houses, keep working hard, keep running in the strange cycle of changing to bigger houses, while giving their limited savings to financial advisors in hopes of unexpected gains, rather than relying on themselves to accelerate paying off their mortgages. Wang Yangming said, 'It's easy to defeat the thieves in the mountains, but difficult to defeat the thieves in the heart.' The idea in the hearts of poor dads that they could get rich through a self-occupied home that 'can be enjoyed and sold without tax' has long been proven too naive and unrealistic. Yet poor dads refuse to give up and instead seek external help in hopes of improving their financial situation. While busy trying to defeat the thieves in the mountains, the thief in their heart steals their future financial independence.