Should she pay her mortgage off?

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Apr 28th, 2020 8:25 pm

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Apr 26th, 2020 9:08 am

angryaudifanatic [OP]: Deal Addict; Nov 10, 2018; 3961 posts; 4142 upvotes

Apr 26th, 2020 9:08 am

Should she pay her mortgage off?

I know that this topic has been discussed a few times but I never really understood it - finance is not my forte! This is for my niece who had a disagreement with me. The more I think of it, the more I have no idea who is right.

Let's assume that I have a 5 year mortgage of 2.25% (fixed closed), and I have 10 years left. Please do not take into any consideration what the following 5 year mortgage rate will be for the purposes of this question. (yes, I realize this is a 'real' variable, but please bear with me).

Let's also assume that I have a TFSA that pays 2.25%. Let's also assume that money that would be going towards the mortgage is going purely towards the TFSA and that there is no appetite here for trying to beat the 2.25% by investing.

Is there any advantage from an interest perspective to pay off the mortgage as opposed to pile all that money into the TFSA?

My immediate thought is that paying off the mortgage would have an advantage, again, purely from a total interest payable perspective as it's compounding (or whatever). Finance gurus - can you please share your thoughts? TIA

For legal topics and discussions, the opinion, guidance, and thoughts provided are my own and are not considered to be legal advice, in any manner.

17 replies

Apr 27th, 2020 3:55 pm

alanbrenton: Deal Expert; Apr 21, 2004; 54618 posts; 19417 upvotes

Apr 27th, 2020 3:55 pm

I thought you were doing well with the trading portfolio?

+1

Apr 27th, 2020 4:21 pm

Furcorn: Sr. Member; Jun 7, 2017; 964 posts; 720 upvotes; BC

Apr 27th, 2020 4:21 pm

They are equivalent in your example . In the real world, you cannot borrow at a rate less than guaranteed tax-free return.

+2

Apr 27th, 2020 4:35 pm

ipanda: Member; Jun 19, 2009; 424 posts; 99 upvotes; Ottawa

Apr 27th, 2020 4:35 pm

From an interest perspective only with all factors being equal, then there's no difference. But putting money in the TFSA does grow the contribution room and the interest earned is tax free as added bonus.

+2

Apr 27th, 2020 5:07 pm

skeet50: Deal Addict; Jan 15, 2017; 3901 posts; 3356 upvotes

Apr 27th, 2020 5:07 pm

You hot the nail on the head. With all things being equal, you look at the compounding. Mortgage interest is compounded semi-annually. If the TFSA is compounded more frequently than semi-annually, you will be further ahead with the TFSA.

+2

Apr 27th, 2020 5:18 pm

tsingoo: Sr. Member; Aug 20, 2015; 514 posts; 303 upvotes; Toronto

Apr 27th, 2020 5:18 pm

The amount of money earned/saved is equivalent if the rate is the same.

However, the disadvantage in your hypothetical is that if you pay down the mortgage, you lose the added contribution room you would've gained by putting it in TFSA. IMO, this is a pretty big disadvantage and I would stick the money into the TFSA. The other plus side of the TFSA is that if anything changes, like TFSA savings rate or interest rate on renewall you can always use the money from the TFSA.

+1

Apr 27th, 2020 8:04 pm

licenced: Deal Fanatic; Jul 3, 2011; 5781 posts; 2954 upvotes; Thornhill

Apr 27th, 2020 8:04 pm

Can you clarify for me as the outcome will differ depending on how it is treated.

What money going towards the mortgage is going purely towards the TFSA?

Are you speaking of the amount you're allowed to contribute annually t oa TFSA going to that as opposed as a pre-payment against the mortgage?

If so, at what intervals would the contribution to the TFSA be made?

angryaudifanatic wrote: ↑ Let's also assume that I have a TFSA that pays 2.25%. Let's also assume that money that would be going towards the mortgage is going purely towards the TFSA and that there is no appetite here for trying to beat the 2.25% by investing.

Is there any advantage from an interest perspective to pay off the mortgage as opposed to pile all that money into the TFSA?

Apr 27th, 2020 8:08 pm

angryaudifanatic [OP]: Deal Addict; Nov 10, 2018; 3961 posts; 4142 upvotes

Apr 27th, 2020 8:08 pm

alanbrenton wrote: ↑ I thought you were doing well with the trading portfolio?

My niece does not get my money, even after I pass! My family, extended even, don't get a nickel.

For legal topics and discussions, the opinion, guidance, and thoughts provided are my own and are not considered to be legal advice, in any manner.

+1

Apr 27th, 2020 8:44 pm

Furcorn: Sr. Member; Jun 7, 2017; 964 posts; 720 upvotes; BC

Apr 27th, 2020 8:44 pm

tsingoo wrote: ↑ you lose the added contribution room you would've gained by putting it in TFSA

Can you elaborate on this?

+1

Apr 27th, 2020 8:53 pm

angryaudifanatic [OP]: Deal Addict; Nov 10, 2018; 3961 posts; 4142 upvotes

Apr 27th, 2020 8:53 pm

skeet50 wrote: ↑ You hot the nail on the head. With all things being equal, you look at the compounding. Mortgage interest is compounded semi-annually. If the TFSA is compounded more frequently than semi-annually, you will be further ahead with the TFSA.

Dammit. Yes, you hit the nail on the head better than I did.

Looks like the savings account is compounded annually, and mortgages, to your point are compounded semi-annually.

The specific example she's facing is:

mortgage is roughly 2.17% compounded semi-annually (After tax deductions for her mortgage amount as she is self employed so she can write off a portion), and her savings is in Motive's TFSA account as per my recommendation so it's 2.2% compounded annually.

What maths process do I need to use here to figure out which one is 'ahead'? Thanks!

For legal topics and discussions, the opinion, guidance, and thoughts provided are my own and are not considered to be legal advice, in any manner.

Apr 27th, 2020 9:22 pm

tsingoo: Sr. Member; Aug 20, 2015; 514 posts; 303 upvotes; Toronto

Apr 27th, 2020 9:22 pm

Furcorn wrote: ↑ Can you elaborate on this?

Sure let's assume that the OP's sister never contributed to their TFSA for simplicity. So they have the choice to either lump sum $69,500 into either the mortgage or into TFSA. With the mortgage you would save roughly $1500 in the first year in interest, and in the TFSA you would gain roughly $1500 in interest. If you put the money into the mortgage all you get is interest saved and the benefit ends there. If you put the money into the TFSA your total inside the account would be $71,000 (effectively increasing your contribution room).

Apr 27th, 2020 9:34 pm

Furcorn: Sr. Member; Jun 7, 2017; 964 posts; 720 upvotes; BC

Apr 27th, 2020 9:34 pm

tsingoo wrote: ↑ Sure let's assume that the OP's sister never contributed to their TFSA for simplicity. So they have the choice to either lump sum $69,500 into either the mortgage or into TFSA. With the mortgage you would save roughly $1500 in the first year in interest, and in the TFSA you would gain roughly $1500 in interest. If you put the money into the mortgage all you get is interest saved and the benefit ends there. If you put the money into the TFSA your total inside the account would be $71,000 (effectively increasing your contribution room).

That makes no sense. But, thanks for the reply.

+4

Apr 28th, 2020 8:43 am

cloak: Deal Addict; Sep 2, 2009; 1547 posts; 1288 upvotes; Ottawa

Apr 28th, 2020 8:43 am

One benefit, although possibly small, is that keeping a mortgage makes it harder for someone to commit mortgage fraud. Since there is an existing mortgage on the property, the potential fraudster will have a harder time getting the second mortgage.

Apr 28th, 2020 8:45 am

cloak: Deal Addict; Sep 2, 2009; 1547 posts; 1288 upvotes; Ottawa

Apr 28th, 2020 8:45 am

Furcorn wrote: ↑ That makes no sense. But, thanks for the reply.

What he is trying to get at with the hypothetical is:
- deposit 69,500
- get 1,500 interest
- withdraw 71,000
In the above scenario, you can put back in 71,000 at a later date. Paying off the mortgage, the future contribution room is 69,500 (you don't get that extra room from the interest).

+1

Apr 28th, 2020 2:42 pm

gahafa: Member; Mar 26, 2015; 201 posts; 71 upvotes; Richmond, BC

Apr 28th, 2020 2:42 pm

cloak wrote: ↑ What he is trying to get at with the hypothetical is:
- deposit 69,500
- get 1,500 interest
- withdraw 71,000
In the above scenario, you can put back in 71,000 at a later date. Paying off the mortgage, the future contribution room is 69,500 (you don't get that extra room from the interest).

I don't think he should have used TFSA as an example, he should have used a gain is equal to gain after taxes.

Apr 28th, 2020 3:18 pm

cloak: Deal Addict; Sep 2, 2009; 1547 posts; 1288 upvotes; Ottawa

Apr 28th, 2020 3:18 pm

gahafa wrote: ↑ I don't think he should have used TFSA as an example, he should have used a gain is equal to gain after taxes.

Technically, both the gain in the TFSA and interest saved on the mortgage is after taxes. Interest saved would match interest received in TFSA. The difference would be the extra future contribution room in the example he was trying to portray.

Apr 28th, 2020 4:18 pm

alanbrenton: Deal Expert; Apr 21, 2004; 54618 posts; 19417 upvotes

Apr 28th, 2020 4:18 pm

angryaudifanatic wrote: ↑ My niece does not get my money, even after I pass! My family, extended even, don't get a nickel.

Here's to hoping...

+1

Apr 28th, 2020 8:25 pm

licenced: Deal Fanatic; Jul 3, 2011; 5781 posts; 2954 upvotes; Thornhill

Apr 28th, 2020 8:25 pm

angryaudifanatic wrote: ↑ What maths process do I need to use here to figure out which one is 'ahead'? Thanks!

The mortgage has 10 years left. Presume the initial amount was for $100,000 amortized over 25 years

The balance to be paid off is $46,793(CV) and that's the same amount to go into a TFSA in a lump sum

To continue monthly payments at 2.25%(R) at the end of 10 years(T):

$51,128 would be paid toward the mortgage including interest of $$5,478
$58,478 would be the TFSA balance including interest earned of $11,685

Although the mortgage interest is compounded semi-annually, because it's front loaded it's a declining balance charge each month.

The gap between the mortgage interst paid and TFSA interst earned would increase each year in favour of the TFSA. The contribution to the TFSA becomes the better better choice at the time the mortgage interest amount equals the interest mount on the savings.

Provided that the TFSA is calculating interest monthly and on the account balance, in Excel, the formula would be CV*(1+R/12)^(12*T)

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