Bend And Extend


Let’s visit that whacked-out part of the nation where demented separatists spend their days trying to get the Canadian flag out of the provincial capital. I mean, what else does the Parti Quebecois have to worry about? The provincial and federal debt load there is only 90% of the economy, which reminds us of a country that starts with ‘S’ and rhymes with ‘pain.’


So here’s Jean, with his question:

Love the blog. Please keep up the good work. My wife and I purchased our home in Montreal a little over 7 years ago for $460k.  We were able to put about half down and have an outstanding mortgage of about $180k at a rate of 4.4% locked in for the next 3 years.  We also have about $100k in liquid assets (in TSFA and “high interest” savings account).  The house suits our current needs and we plan to stay for the long term (call us crazy if you like).  The fact that interest rates will likely be higher by the time we renegotiate has me thinking about ways to lock in at today’s historically low rates.  I was wondering if there is some strategy similar to that you described in a recent blog that would allow us to convert some of our 4.4% 3 year mortgage to a 3% 5 year mortgage?  That is could we use the 100k to pay down some of the mortgage then borrow another $100k to repurchase our assets?  The mechanics seem doable but does that really do anything for me? I hope you can find the time to answer some day.  Merci.

This is a good one. There are tens of thousands of borrowers who have loaded up on cheapo rates over the last couple of years and know damn well the same deal will not be there upon renewal. Exactly when the cost of money starts to rise is unknown, but I think we’re not far off.

No, the Bank of Canada does not need to move one cadaverous, patrician little finger in order for mortgages to swell. The bond market can do that all on its own, which could start once this fiscal cliff nonsense is behind us. All it takes is the widespread realization stock markets have good days ahead of them for a torrent of cash to rush out of fixed income (where rates are pathetic) and into dividend-spewers.

After all, the S&P is ahead so far in 2013 by more than 12%. My own conservative portfolio, with its 40% fixed income (various bonds, preferreds) and 60% growth (REITs, ETFs, no stocks) is ahead more than 8%. And just looking at this week’s Canadian bank profits and US real estate market you can see what’s coming once the American federal peckerettes stand down.

So what? So money exiting bonds for equities means lower bond prices and higher yields. Interest rates go up. Since banks source mortgages here, they pop too. All of a sudden we have tighter credit restrictions, thanks to F, plus less mortgage insurance, beefed-up bank regs, no 100% financing or coverage for million-dollar homes, as well as more expensive home loans. This is why you want to be an investor in balanced, liquid portfolios in 2013, not bungalows or toxic condos.

But back to Jean. He’s right. Rates absolutely will be higher  – maybe a lot – when he comes to renew in three years. So, what to do? There are a couple of options.

First, he can approach his lender and ask to blend-and-extend. For a (usually) small fee, he can break his existing mortgage into a couple of hunks, the first being from inception to the day of blending, and the second extending out for five more years at the current rate. This means, in effect, he’s averaging down the rate paid over the future period, and buying a few more years of cheap money.

If you’re some kind of dweeb aroused at the sight of formulas, hold on to something. Here is how to calculate the blended rate:

New interest rate =
(A x B) + [(C x (D – B)]

A is Jean’s existing rate; B is the time left on his term in months; C is the new current rate; and D is the new extended term, in months. Or, you can let the kid at the bank with “Loans Officer” on his business card figure it out.

How about using his savings? Sure, he could dump the $100,000 against the mortgage (although it’s doubtful this would be allowed unless the loan is open), then use a HELOC to borrow back the money. If he invested the proceeds, the interest would be deductible from taxes. Sort of. Any money put into the TFSA would not qualify for deductibility, plus if the rest were put back in a high-yield savings account, Jean would deserve to be coated in poutine and fed to Gallic fire ants. The interest on the ‘investment’ would be less than the cost of the loan, and disallowed as a deduction. So, dump that.

Better to invest the hundred grand in assets that actually make money (like my portfolio above), and see it grow to $125,000 or so by the time the mortgage is up. Then it could be used to retire most of the debt, eliminating the fear of higher rates. However, why would Jean want to take 100% of his net worth and put it into his house, especially in a province run by Disney characters?


That might only work if he borrowed back half the value of the home at prime, put it in a stable and diversified portfolio, then wrote off all the cost on interest-only payments. Suddenly he’d have a house, liquid assets, plus a fully-deductible mortgage.

Or, he could move to Cornwall, commute and wait for Montreal to fry.

Trust me. It will.

avatarGarth Turner - The Greater Fool posted Thursday, December 6th, 2012.

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