Debt Swapping: Make debt work for you!
Not all debt is created equal. Interest expenses incurred for the purchase of non-registered income generating investments are generally tax deductible. Interest on loans to purchase personal assets, pay personal income taxes or buy your home, however, are not. What is Debt Swapping? Essentially, it is converting non-deductible debt into deductible debt. How? Sell your non-registered assets to pay off your non-deductible debt. Next, take out a line of credit to repurchase non-registered securities and deduct the interest! Your after-tax cash flow increases, but your overall level of debt remains the same.
Assumptions:
• Under current income tax legislation, case law and CRA assessing policy, interest incurred on money borrowed to purchase non-registered income-producing investments is tax deductible. Income for the purposes of the
Income Tax Act (Canada) does not include capital gains. Further restrictions on the deduction of interest apply in the Province of Québec.
• Taxable capital gains may be realized when selling investments.
• Capital losses realized on a disposition may not be fully deductible if the same non-registered investments are purchased within a period that begins 30 days prior to their disposition and ends 30 days after the disposition.
• Individuals must qualify for a line of credit/investment loan.
• Lump-sum payments on a mortgage may incur penalties.
• The after-tax cost of borrowing on the Line of Credit (investment loan) must be less than the before-tax interest
charged on the mortgage loan and car loan for this strategy to be effective.
• The CRA has commented positively on the implementation of basic debt swap transactions; however, the CRA is not legally bound by their policy statements. In some circumstances, particularly those involving transactions between non-arm’s length parties, the CRA may consider debt swap transactions a misuse of the Income Act and apply the General Anti-Avoidance Rule to deny any resulting tax benefits. We recommend that clients discuss this matter with their accounting or legal advisor if they have concerns.
Feel free to contact me or visit my website for more information.
Douglas J. Bodtcher
Investors Group Financial Services Inc.
780-448-1988 ext. 284 Douglas.Bodtcher@investorsgroup.com
Tags: investing, money tips
