Financial advice/opinions needed - please!

In My Humble Opinion
1

Our vehicles are ancient (1990 and 1992) and requiring a lot of repairs to keep running. We expect to need to buy something newer within the next 12 months.

Our financial advisor recommended re-doing our mortgage. We currently owe $111,000 on our house. With today’s property values our house is worth, conservatively, $240,000. Our biweekly mortgage payment is $390.

We have a couple of other debts, totalling $16,000. We have back taxes owing on our property (due to the city’s error) - they have given us until December to pay $3,000.

Currently our monthly payments for the mortgage and the other debts total $1,100. This is all we can afford, we are stretched fairly thin as it is.

Our financial advisor recommended that if we know we will need money soon for a new car, we should refinance 75% of our house’s value. He calculated this at about $176,000.

He said to pay off our debt, our existing mortgage, the city taxes, then set aside $28,000 for investing, and using the remaining $16,000 towards a vehicle. The money left over ($2-$3,000) would pay the penalties, fees, etc.

He said by investing the $28,000, we could have as much as $94,000 in 15 years, if we invest aggressively and are ready to take that risk. In 15 years that could be enough to pay off our remaining mortgage.

He also said we can write off the interest on the loan on our income taxes.

What are the risks / drawbacks to his plan? There must be some because it seems too good to be true!

Help - my husband and I are going around in circles with this decision!

2

Drawbacks: The stock market does not perform the 8.5% or so the finance guy thinks it will, and you don’t have the 94k. Particularly if you invest aggressively…big returns require big risk. 8.5% isn’t a crazy % and 15 years is a while, but you can lose money. Ask all the people with aggressive tech stock portfolios not too long ago.

A BIG drawback: if you can barely afford the current loan payment on a 111k loan, how can you afford the payments on an 180k loan that you’ll have after this next loan? This alone makes me distrust this plan.

What is your interest rate for the 111k loan? Is it a adjustable rate mortgage? Will the proposed new rate be lower?

3

I don’t know why people ever consider buying a car with a refinance. It means you’ll be paying off that car for the term of the loan, at least 15 years, probably 30, long after the car will probably be gone.

4

You could cut back on the extravagant lifestyle that requires 2 cars, or a $16k car.

What he is proposing is called the Smith Maneuver (google it). It’s not a bad idea overall, the risk would be if property values took a dive and you need to sell the house for less than you owe on it, and remember with the new loan you owe more on it than you did before. You would have to liquidate your investments to pay off the loan.

5

…and why is that a bad thing? You pay for the car one way or another - less now, or more later. Whether the car is gone or not is hardly relevant from the borrower’s perspective.

6

I should add, many people don’t realize that the above events do not occur independently, the chances of it happening are generally correlated with each other - If the economy in general goes to the tubes, then it might become likely that you may need to switch jobs, which might entail selling the house and moving to Calgary, but of course, in a general economic downturn, EVERYONE will be doing what you’re doing, and your house will be worth less, and the value of your investments would also have declined.

You could in turn mitigate this risk by investing your loan proceeds in something counter-cyclical, say, maybe shares in Campbell Soup, that do well in an economic downturn.

7

“Extravagant lifestyle”?!?! My husband and I have jobs in different parts of the city, so we require two vehicles to be able to get to work and back (we also work different hours).

Our lifestyle is so far from extravagant it’s ridiculous.

We are actually hoping that if we go through with this plan, that we can maybe use the $16K to buy TWO newer vehicles and sell both of our junkers while they are still running and maybe pick up $2-$3,000 total in that way.

It’s not that we can’t afford our current mortgage payment, we can afford that plus our loan payment, plus our credit card payments. It’s the kicker from the city that we don’t know how we’re going to handle, even though it’s only $3K, we don’t want to take on more debt. And we definitely cannot afford a car payment every month.

The whole point of this is to get a newer vehicle (or two) without increasing our monthly payments.

Sorry, Gaudere - to answer your other question, our mortgage rate is currently 5.65%, and our new rate would be 5.75% I believe. Both are based on prime rates, and are variable. Our new mortgage term would be 25 years, just like our current one.

8

Can you handle the loan payments on 176k if it resets to its highest level? Here in the US it would probably reset every year; with a max of 2% variance except for the first year, where it could go up to 10.75%. I’m not sure how ARMs usually work in Canada.

9

Well, OK. But I’m just saying, if you spend less money, you’ll have more at the end of the day. I seem to do OK with public transit, and Calgary is well know for having a poor transit system. I don’t know which city you’re in, but I’m told the transit system in Vancouver is world class. IMO there’s no reason why anyone would need a car if they’re stretched financially (I’m also one of those tree-hugger types who would like fewer cars on the road, so I’m biased).

Credit card companies give away free money fairly often, could be something to look in to. I myself just got a $8k loan, 0% interest until Oct 2008, just by calling and asking (Actually I just extended the 0% interest rate for another year for my current credit card loans, but same idea).

10

Looks like refinancing the $176,000 would result in a new bi-weekly payment of around $550.
All the refinancing is doing is consolidating all your debt (new cars, mortgage, back taxes, investing cash, etc.) in one place, giving it a rate of 5.75%, and giving you 25 years to pay it off.

Is your financial advisor suggesting you should go out on your own and get refinanced,
or is he suggesting you refinance through him?

If he wants you to refinance through him then it’s obvious he’s in it for himself and want’s his commision off of creating a new $176,000 loan.
And let me guess, that extra $28,000 he wants you to invest,
I’ll bet he wants to help you invest that through him also?

11

All of the above may be true, and it still may be the best course of action. “Being in it for the commission” and “giving good advice” are not mutually exclusive.

12

What rates are you other debts at? What rate is your mortgage at right now? Are you financially disciplined?

If you are responsible with your money, then refiancing high interest debt into low-interest may be a good idea. Taking money out of your house to put in the stock market strikes me as a very risky idea. Why not do all that stuff that you were talking about, but now with the $20K for the markets?

It sounds to me like you guys have no savings or emergency fund. It can be hard to build one up when you’re going paycheck to paycheck to pay for loans. But you need one. It will keep you from having to do this kind of thing in the future. Whatever you do, make sure that your future payments are lower than your current ones, and pay every cent of the difference into a savings account and or very conservative investments until you’ve got some money saved up.

13

In Canada, mortgage interest is not tax deductible, but interest for investment related loans are. What the OP is proposing is turning the non-deductible interest into a deductible one.

14

In my (admittedly limited) experience with commission based “financial planners”, their advice to others has always benefited them personally at the expense of those they are purporting to advise.

The book “Personal Finance for Dummies” states unequivocally that any financial planner that one hires should be a fee-based (not commission based) financial planner.

Commission based financial planners cannot and should not be trusted to give you the best financial advice. Commission based car salesmen also cannot be trusted to give you the best advice about which car to buy. They are only interested in selling you the product that pays them the best commission. It is just common sense and human nature.

15

I don’t think it’s a bad plan, overall. My main concern is the variable interest rate. By refinancing, you’re consolidating all your debt into your mortgage. You say you’re already stretched pretty thin to pay $1100/month, which means a significant increase in the interest rate could be financial disaster for you.

Rather than gambling, I’d suggest you pay a bit more and get a fixed mortgage. To keep the payment from exceeding your current means, refinance for less. I’m not wild about borrowing extra to invest in the stock market in any case, but that goes triple if you have a variable interest rate loan and money is already tight. So, I’d refinance just enough to pay off your other debt and tax bill, along with a chunk to keep in savings as a cushion against the unexpected and maybe get a reasonable used car or two. Avoid getting tempted into ditching your cars too soon, though – provided you don’t have major mechanical trouble in the near future, driving an old used car into the ground can be a very smart financial move.

16

If you are talking about a US-style fixed rate mortgage, with terms of 15 or 30 years, they are not generally available in Canada and other Commonwealth countries. Canadian mortgages rarely have terms longer than 5 years.

17

Really? I did not know that. Do Canadian interest rates fluctuate as much as and/or with the U.S. rate?

18

I’m not an expert on the matter, but from what I understand, it is possible to have mortgages with interest rates fixed for long periods, up to 25 years. You will paying handsomely for the privilege. I don’t personally know anyone with such a mortgage.

I don’t have an answer off hand for your question about interest rate fluctuations, but I imagine a look over at the Bank of Canada website will give you historical movements in mortgage rates.

19

If you really don’t want to take on more debt, then this is only a way to trick yourself into thinking you don’t have more. You may have fewer cheques to write, but you’re essentially taking out one giant loan to pay for cars and cover other debts.

20

But what are you going to do in 5 years when these cars need to be replaced? People often get into trouble because they use home equity to pay of credit cards and such, then buy cars and charge up the cards again.