Borrowing to invest can be risky. It can magnify your returns, as well as your losses. The best candidate for leveraged investing is someone with a high risk tolerance, a long time horizon and low investment fees.
Leveraged investing for the short term can be risky, because stock prices can fall several years in a row, even if they rise most of the time.
If you’re a balanced investor buying stocks and bonds, particularly if you pay high investment fees, it can be hard to earn a profit over and above the interest costs.
Borrowing to invest
You can deduct interest on money that you borrow for investment purposes if the investments are taxable. So, you cannot deduct interest on money borrowed to invest in a registered retirement savings plan (RRSP) or tax-free savings account (TFSA).
When you borrow money to invest in stocks, you can deduct the interest on line 22100 of your personal T1 tax return. You can also deduct other expenses or carrying charges on this line, such as fees for investment management or for certain investment advice, or accounting fees if you have income from a business or property.
If your investments produce only capital gains, you cannot deduct your interest. If you are in Quebec, you may be limited provincially from deducting interest that exceeds your investment income for the year.
What is a HELOC?
HELOC stands for home equity line of credit, a type of loan secured by your home—meaning that your home is collateral for the loan. HELOCs provide revolving credit, so you can borrow money as you need it, up to a certain amount—usually a percentage of the value of your home. Most HELOCS have no fixed repayment schedule, although you will have to pay interest monthly. In contrast, a home equity loan is a lump sum with a fixed repayment schedule for the full amount.
Read the full definition in the MoneySense Glossary: What is a HELOC?
HELOC vs. mortgage
You mentioned you borrowed using a home equity line of credit (HELOC), Jackie. Most HELOCs have interest-only payments, so that ensures your payments are all tax-deductible when you borrow to invest in eligible investments. However, HELOCs tend to have higher interest rates than mortgages.
A typical HELOC rate is the prime rate, plus 0.5% or 1%, whereas a variable-rate mortgage may have a discount to the prime rate of 0.5% to 1%. It may make sense to consider converting a tax-deductible HELOC to a mortgage to reduce your cost of borrowing. This would increase your payments, since mortgage payments include principal and interest, so it might slightly increase your cash-flow requirement. However, paying lower interest may make the leverage more beneficial overall.
Can you port a HELOC?
If you are moving to a new home that you are buying, Jackie, you could consider porting your HELOC to the new property. This way, the debt can be preserved, as well as the tax deductibility.