July 23, 2007, 6:00 am

Is The Smith Manoeuvre a Secure Way to Create Wealth? Part 4

by: The Financial Blogger    Category: Smith Manoeuvre
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In this series, I outlined several points considering the Smith Manoeuvre strategy. I think that even many people think that there is a huge risk to leverage against your property; The Smith Manoeuvre does not implicate much risk. Any type of risk is related to your own concept and perception of what is risky. There is nothing real about a risk as it relates to a possibility of something happens in time. Risks are not real. Therefore, if you change your perception, if you play around with your mind and your childhood concepts, you will fin out those risks related to the Smith Manoeuvre are not that bad.

In today’s post, I suggest we change our perception of our own property for a few minutes. Imagine that you never bought this house and that you are just paying a rent. View your property for what it is; a source of expenses. You make your monthly payment and pay for maintenance costs and taxes. Forget about the idea of paying off your mortgage, this is not happening as you are renting your property. Your rent is related to the interest paid on your mortgage. No capital, interest only payment. Remember, you are simply renting this property.

Your rent (minimum requested payment) will be minimal compared to a regular payment. Therefore, if you loose your job or if your income decreases for any other reasons, you should be able to keep up with you rent payment. You will also notice that interest only payment on your property will likely be the equivalent of renting a 5 ½ condo in your area. Some will say you can’t compare an apartment to a house as you don’t benefit from a yard, basement and extra storage. I personally changed my perception to look at the worst case scenario. If I ever loose my job and I could not keep up with my mortgage payments, I might have to downsize from a house to a smaller apartment. In any cases, I rather keep my house and pay the same thing as I would pay for a smaller apartment! Keep in mind that taxes and maintenance cost must be added to your interest payment in order to keep the same scale of comparison.

In the United States, banks already have changed their minds as 100% or 125% financing and interest only payments are part of financing options to purchase a property. You might say that there is a sub-prime lender crisis. However, several banks are doing just fine with this kind of high risk financing. They calculate that overtime, the clients will have a property that will grow in value and they will be able to reimburse their mortgage whenever they sell the property. Several people are “renting” their property by paying interest only on their mortgage. Therefore, they free up some cash flow to do something else.

Unfortunately, this cash flow is rarely used for the good reason; to create assets. The Smith Manoeuvre is part of the “pay yourself first” technique. By setting up automatic withdrawal from your HELOC and investing this money directly in your investment account, you will avoid wasting the extra cash flow on some other goodies.

In the end, by changing your perception of risk and of your mortgage, this is where you are going to end up: RICH! On a more serious note, you will pay your “rent” while your investment is growing up. You will also build equity within your property as your house will gain in value over time. After 15-20 years yours house should have more than doubled in value and your investment should worth much more than your mortgage. Try to keep your parents’ voice away and shut down that “pay your mortgage first as it is your biggest debt” mentality for a minute. You might find out another world of financial possibilities.

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Comments

[…] is a real dream. Well this dream is partially realisable through a leverage technique called the Smith Manoeuvre. However, setting up this investment strategy could hurt other part of your financial situation. […]

by: Brian Langner | August 17th, 2009 (10:43 pm)

Which lenders are best to structure the Smith Manoeuver?

by: The Financial Blogger | August 20th, 2009 (1:34 pm)

Brian,

you need to find a financial institution offering a HELOC (home equity line of credit) with multiple account. Manulife One, BMO, National Bank, Investors Group and many other offer this type of products.

Look if they charge a monthly fees, or additional fees per account and be careful about the lending rate (it is usually a prime + 1 right now).

Good luck!

TFB