Podcast - July 19, 2023
If your mortgage is up for renewal, or your variable rate has been more variable than you expected, things might be a little stressful at the moment. (Or you might already be stressing about some renewal date in the future because linear time is a human construct, and so is anxiety…) Check out what Colin and Josh say about the options you may have before you and what they mean long- and short-term.
Announcer:
You’re about to get lucky with the Barenaked Money Podcast, the show that gives you the naked truth about personal finance. With your hosts, Josh Sheluk, Portfolio Manager with WLWP Wealth Planners, iA Private Wealth, and Colin White, Portfolio Manager with Verecan Capital Management Inc.
Colin White:
All right, all right, all right. Standby for the next incoming episode of Barenaked Money. Colin and Josh here, driving the ship. Well, actually, Josh just told me he’s giving me the keys to the bus to this one. So apparently Josh is going to be in the back of the bus for this particular episode, because this one’s my idea. I guess it’s the first time in a while I’ve had an idea, Josh.
Josh Sheluk:
It’s a novel thing for us, for you to have an idea.
Colin White:
Well, I can’t say it’s my own idea. It was an article that I read in The Globe, which triggered a LinkedIn post that I made earlier today … or yesterday, it was. And it’s the whole conversation about the mortgages coming up for renewal. This is a bit of a big deal. We’re starting to see clients struggle with conversations about what do you do when your mortgage payment jumps by 25% and you get an extra $1,000 a month in the mortgage payment. What do you do about that? Josh, do you think this is scary?
Josh Sheluk:
Yeah, it is scary. I would say so, for a lot of people out there. For us looking at financial situations, it can be scary too. And I think a lot of people are living with this in real time because they are on variable rate mortgages, and the last year and a half, they’ve seen this happen, slowly but surely. Death by a thousand cuts.
Colin White:
Yeah. And there’s other people who locked in at lower rates that are coming up for renewals and they’re now being faced with a financial decision. We in the accounting world would call this a material amount of money. This is an amount of money that is going to change your path, I think is a fair way to describe this.
So there’s some writing out there about how to minimize this or get by or put a bandaid over it, but we’re going to take a little bit of a deeper dive and talk about the actual choices that you can make at a time like this. Because this is material enough that it may cause you to change some of your spending priorities, some of your goals, because again, your mortgage is going to cost you more.
So I think fundamentally, Josh, at the beginning, there’s basically two choices. Either you are going to take the short term pain and keep on your existing path to amortize things the way things are going, and take the extra mortgage payment out of other discretionary spending and keep the boat on the same path. Or you’re going to make the choice to increase the amortization on your mortgage and continue to pay the same amount longer and keep your current lifestyle intact. Do you think that’s a fair comparison or a fair fork in the road?
Josh Sheluk:
Yeah. It almost comes down to a short-term versus long-term thing. Where do you want the pain to be? Do you want it to be in the near term by tightening your belt a little bit now and making the increased mortgage payments? Or do you want it to be a long-term thing, kick the can down the road? 20 years from now when your mortgage should be up for renewal, you still have payments for another five years, just to make up a number.
So where do you want the pain to be, now or in the future? Most people, I know what the answer is going to be. That might not be the right answer or the best answer for them though.
Colin White:
Also, we’re going to pass judgment. I love this part. So Josh, which is the right way to do it?
Josh Sheluk:
It depends. It depends.
Colin White:
Oh.
Josh Sheluk:
Yeah. Look-
Colin White:
You’re going to allow people free will?
Josh Sheluk:
Well, I think you have to understand that if you’re doing the kick the can down the road type of approach, the can is going to grow over time. It’s not going to be the same size can. It actually kind of snowballs a little bit because now you’re paying more interest on your debt over time than you would be if your amortization is left at the same length. So it’s hard for us to say what’s right and wrong because it is very individual.
Maybe you’re just really tight … I’ll give a more tangible example for people. Maybe your kids are going to be out of the house in five years. Right now, you’re paying for a lot more. You’re paying for university, you’re paying for your 20-year-old son to eat you out of house and home. You’re paying for a whole bunch of stuff. You’re supporting them by giving them car payments, or whatever it is. And five years from now, your cashflow situation changes dramatically.
Well, in that situation, it could make a lot more sense to say, “You know what? I’m just going to kick the can down the road, because it’s too hard to tighten my belt right now. But it’s a lot easier … we have visibility that it’s going to be a lot easier in the future.” What you don’t want to be is in that situation where you say, “Well, I’m just going to kick the can down the road and hope it gets better at some point in the future,” without any real plan or visibility on that happening. Because that gets you into a bit of a spiral.
Colin White:
Well, it could be five more years of creating memories with the kids while they still want to travel with you, doing family vacations and stuff like that. I mean, again, this is … and Josh, this is a big moment, because I know Josh’s personal to this. Josh is all about the pain now. That’s hardcore where Josh lives. So this is a big moment that he’s willing to accept that there’s other paths forward. So I’m proud right now. I was giving him the rope, I was afraid of where he was going to go with it.
Josh Sheluk:
I’m a bit sadistic that way, Colin, but I know most other people aren’t.
Colin White:
There you go. No, it is a very personal choice, which is why I get a little bit frustrated and perhaps short with the, Five Things You Need to Do Right Now, articles that are out there about telling people that … either side. There’s articles out there that are going to say, absolutely, you have to increase your amortization, or absolutely, you’ve got to tighten your belt now. Because it is a deeply personal choice, and there can be effective ways to do it both ways. But I think the danger would be to kick the can down the road and not change your expectations for what down the road looks like.
Because at the end of the day, this is an expectations game. If you’re saying, “Oh, this isn’t a problem, I’m just going to increase my amortization,” and you don’t follow it up with the next sentence. If you don’t follow it up with the, “But I will have to deal with this,” if you don’t have that expectation, now you’re creating yourself a problem. But who knows? Five years now, maybe the interest rates are going to go below 1%, Josh. You ever think of that?
Josh Sheluk:
I actually have thought about it. And it wouldn’t be totally unprecedented, because during the last five years we’ve heard about negative interest rates on mortgage in other areas of the world. But I would be … we often say we shouldn’t be surprised about things. But that’s one thing I will go on the record, is I would be surprised if your mortgage rate five years from now is under 1%, because I don’t think policymakers want to go back there with interest rates.
Colin White:
No. Well, the other thing I would say is, yeah, it could happen. I’m not going to count on it. I’m not going to say that that’s my base case scenario going forward. Because that, I think, is delusional. You can accept the possibility of something, like somebody may walk in today and drop off $50,000 of small unmarked bills, non-sequential, as a gift.
That’s possible. I’m not going to count on it. I’m not going to make any plans around that event happening. But again, what’s possible versus what you should hope for or plan for, those are two different things.
Josh Sheluk:
And you’re also not going to accept it because you know that as an investment advisor, accepting cash is a big no-no.
Colin White:
Yeah. Well, I wasn’t going to invest it in their name. I’m accepting as a gift for myself, just from a random stranger. A complete random … complete random.
Josh Sheluk:
Okay. Well, yes, we can still hope for that, I guess.
Colin White:
Yeah. But again, some of the products that come out of this … and this is another part of the conversation. The financial industry can see this as an opportunity to launch different kinds of products that seemingly give you the best of all worlds. Josh, what … negative amortization? What was the term that was in that article you just read?
Josh Sheluk:
Well, yeah. This is the article that you posted, is asking or talking about negative amortization. So what is amortization? We should just go back to amortization. Amortization is you’re paying off the principle and the interest of your loan over time. So in 20 or 25 years or 30 years from now, whatever your amortization period is, that loan’s done. You’ve paid everything off.
Well, negative amortization, it means the duration of that loan just extends. And it extends and extends and it extends, because you are not paying enough on a monthly basis to even cover the interest costs.
Colin White:
And that could be positioned as, hey, you can keep the same monthly mortgage payment. And your mind says, “Ooh, as long as I’m making a mortgage payment, I’m getting better off.” When in actual fact, your mortgage is just getting bigger and bigger every month.
Now, that has a whole other level of risk to it. I mean there’s the, yeah, you’re not paying anything off, so you’ve got nice comfortable payments for the rest of your kids’ lives. But you’re also opening yourself up to being over levered. And financial institutions are a little bit particular over lending more money on something than it’s actually worth. And that’s the kind of conversation that can be pretty abrupt. Like, “Give us our money back.”
Josh Sheluk:
Just for the record, you are not the government of Canada. So you can’t just continue to borrow more and more money and have your debt burden grow and grow and grow in perpetuity. At some point, this is going to become an issue for you. So again, this is something that needs to be paid back at some point over your lifetime. Over your lifetime.
And at some point, if that debt burden continues to grow … which essentially is what a negative amortization is. That can be problematic for you if there’s not something that changes along the way.
Colin White:
So we should revisit the conversation that you are not the government of Canada. You are not the Canada pension plan. You’re not Sidney Crosby, you’re not Warren Buffett. So do not behave as any of those entities. You have mortality. You actually have a mortality. There’s going to be a point when you cease to exist. And leading up to that point, you’re going to have to square … or the lenders in your life are going to expect that you square up your debts. So there’s a timeline on this, and timelines do change everything.
Josh Sheluk:
Yeah. And just for the record, I’m pretty sure Sidney Crosby is mortal as well. Not so sure about Warren Buffet. That guy’s 90 and still going to work every day, so he might truly be immortal, but I’m not sure. But the other thing that I said to you about this negative amortization thing … it’s absolutely terrifying for me. Is this was a big thing in the 2006, seven, eight real estate collapse in the US, negative amortization.
I don’t know how big it was. I don’t know what percentage of loans were negatively amortizing. I do know it was something that was prominent back then. It made no sense to me at the time and still makes no sense to me. The one difference I would say now versus then is at that time, they were actually issuing these loans as negatively amortizing, which is insane. At least today, to my knowledge, we’re not issuing any loans that way.
Colin White:
The other interesting thing from back in the day is interest rates actually went negative because there was all this prime minus mortgage out there. And the prime dropped to the point that the minus turned to negative. And apparently it broke some computers in the UK, because it actually happened over there. And then the computer was trying to calculate a negative interest rate on a mortgage and it didn’t work. So there was lots of odd things. Hopefully we’ve learned from what we went through in 2008.
Josh Sheluk:
I hope so too. I hope so too. I’m not sure that we have, but I think we have.
Colin White:
Well, listen, I don’t think there’s been a more real palpable example of the role that good financial advice can play in making financial decisions. I think that it would be very dangerous now because again, the financial industry will respond with products and or simplified solutions that are appealing at a time like this. There’s a lot of stress out there, there’s people that are feeling the pressure. They’re sitting at home going, “Oh my God, everything that I have is going to blow up. I can’t afford another $900 or another $1,000 in my mortgage payment. The kids won’t be able to go to hockey, or whatever.”
So there’s some very, very real pain that people are feeling right now. And therefore, that’s creating a market for very, very comfortable solutions. And comfortable solutions can hide a lot of problems. And you could even make the case that if you’re feeling that much pain because of this happening, that maybe you’re running too close to the edge anyway. Because the interest rates at five or 6% we’re seeing right now are not obscene. If you look historically, it’s actually a fairly normal interest rate that we’ve gotten back to. You can argue that yes, the inflated amounts that were borrowed make this worse, you can absolutely make that argument.
But the fact that the interest rate environment changed to this point is not completely out of left field. This is not just a complete, oh my God, we’ve never seen this before. It’s like, yeah, this is more standard. So it should hopefully give people pause to say, “Well, how much slack do I have in my plan? What other kind of events going forward?” And it’s an opportunity for a reset. It’s like, “Okay, maybe my expectations on my last plan were unrealistic. Maybe I need a new plan.” Okay. Are you going to learn from that and come up with a new plan that is a little bit more realistic?
And don’t treat it as a guarantee. Don’t treat your plan as, “Well, if I do everything right, this is how my plan’s going to turn out.” No, you can do everything and your plan’s not going to turn out the way you expect it to. And that doesn’t necessarily have to be the fault of anybody. But this is huge, in my opinion. If you have any kind of a serious amount of debt, in the hundreds of thousands of dollars … and it can be serious two ways. You can be a 50-year old who, you’re trying to get your mortgage paid off before you retire. So this is a really, really important thing. And you need to manage that because your choices would be to work longer, change your lifestyle earlier, or carry debt into retirement.
All three of those things, that’s a big deal. That’s a different plan. That takes a different mindset, that takes some different execution. That can change whether TFSAs versus RSPs make sense. That can change a lot of other things. That’s an important reality. Or you’re 30 years old and your first mortgage is renewing and cashflow is a much bigger deal, maybe. Because you got young kids and all the rest of it. So that’s a different kind of tightness. So it really depends on where you are and what your life situation is, as to all of the variables that go into it.
This is probably one of the more complex events that’s really impacted, in my career, the individual person’s financial plan in a pretty short period of time. Over the last two years, the trajectory on everything has dramatically changed. And it takes a lot of brainpower to sit down and try to figure out, okay, what does this really mean to me? What’s sustainable? Because all of the shortcuts you have in your head, all of the things that a lot of people have been brought up conditioned to think, are failing you now. How much money you owe matters now.
For many, many people, they’ve existed in the low interest rate environments for so long that it’s never really been that painful. So they don’t have a frame of reference to even begin to conceive of this. And having an independent thought on all of these issues is exhausting. Trying to figure out what the new reality really is, and then behave accordingly. And to try to do that without having solid financial advice and somebody in your corner, and not somebody that just manufactured a new product to make you feel good about yourself is more important than I think I’ve ever seen it.
Josh Sheluk:
Yeah. So a couple of things, just coming back full circle to what we were talking about before. So one, this is material. And we just ran a couple of quick numbers here before and said, well, if you were on a 1.8% five-year fixed rate mortgage before, and you’re renewing at a 5% five-year fixed rate mortgage on a $500,000 mortgage, that’s going to increase your monthly cost by $900 a month almost. That is material. We’re talking about over $10,000 a year for people. People don’t have that money … a lot of people don’t just have that money sitting around. So this is, to your point, it’s very noticeable. And it’s going to require some real serious thought into what do you do about it?
So to me, there’s just three options, if you can put it at a really high level. You either spend less on other things and put more towards your mortgage. That’s one option. You can either save less and put more towards your mortgage. Or we can do the wonderful, extend your amortization thing where you save the same amount, spend the same amount, and deal with it down the road. Which likely means down the road, either spending less or saving more, or working longer or delaying your other goals or priorities at some point.
So that’s what you’re faced with. And with so many of these things, it doesn’t need to be one or the other. You can do all these things, and that might be the right approach for you. But this is where really understanding what your priorities are is going to help you decide what to do with it.
Colin White:
One thing I always do when I’m talking to clients about goal setting … people will give you a list of goals. “We’re going to buy a cottage and we’re going to pay for the kids’ education, and I want to retire at 52.” And so just to understand what their priorities are, I’ll ask, “Okay. Well, if you get a choice between either you educate the kids or you have to work to 57, which would you pick?” Because that’s what it comes down to. You can oversimplify it a little bit because yeah, you’re right, Josh. The answer is always a combination. But sometimes it helps to oversimplify just to see where your head is.
So if you ask yourself that question, if I had a choice between this goal and working another five years, which would I pick? It’s a bit of a helpful exercise for you to go through and line things up in your own head as to what’s really important. Because we ask people what they want, what are your goals? And we treat it as if it’s come down from the mountaintop on a stone tablet, when actually if I ask you the same question six months later, you’re going to give me a different answer. We should just agree on that as human beings, that your priorities change.
The number of people I’ve watched become babbling fools the first time a grandkid shows up, it’s almost guaranteed. I’ve got people going into retirement and they get everything all laid out. And I’m nodding my head up and down going, “Until your first grandkid shows up.” I’ve had people move across the country, completely abandoned a lifelong dream of doing hot air ballooning, because their grandkid showed up. So the human condition does change. That doesn’t invalidate the conversation about what your current goals are, because you need to be marketing in a direction. But sometimes challenging yourself and saying, if I had to make a change … and this is a change. Work more, work less. Have goal, don’t have goal. You can help in your own head begin to order things and understand things a little bit better, because this is a very nebulous thing.
And again … I’ll go back to say it again. This is not a simple equation. This is not just about your mortgage. This will impact every other financial aspect in your life. This is material enough that it is going to move the needle. And you didn’t do anything wrong. This is not a mistake that you made. It doesn’t matter whether you did a fixed or a variable mortgage. Yeah, you can look back and do a calculation as to which one might’ve been better, but the decisions were made based on what was known at the time. And now we’re waking up in a new reality, so you should behave differently. So it’s not about I made a mistake and now I have to pay for it. The world has changed. Expectations have changed. Yes. Even if you had a fixed mortgage, it’s now going to get more expensive. The variable mortgage got more expensive quicker.
The other side … it may be true on the other side. When interest rates start to come back down, it may be the other one wins for a while. So I don’t personally classify that as making a mistake. It just didn’t turn out. But there is a new reality and you should behave differently. But do you think there’s any more simple way to put this, Josh? Have we gone down all of the roads to …
Josh Sheluk:
I think there’s one road that we haven’t gone down. And that’s maybe turning around, doing a 180, and going back the way that you came. And when I say that, metaphorically, what I’m really referring to is maybe you’re not in the right home. Maybe you’re not in the right piece of real estate.
Colin White:
You said it out loud.
Josh Sheluk:
I know, I did. I had to. I had to, unfortunately. Look, I think it needs to be said because I think this is a reality for some people. If you look at these three forks that I laid out before and you’re like, “Well, I don’t like that one. I can’t do that one. I can’t do number two, and I don’t like number three, being maybe I can’t find anywhere to tighten my belt right now. Maybe I didn’t have any savings to begin with, so I’m right up against the edge. And maybe I hate the idea of working longer.” Well, guess what? You’re going to need to reduce your debt payment somehow.
And the way to do that would be downsizing, selling and renting, perhaps. Finding a different place to live. I know these are more dramatic lifestyle changes, but the dramatic increase of interest rates has, I think, necessitated in some situations, some dramatic lifestyle changes at the same time, unfortunately.
Colin White:
Well, and it’s interesting because typically, people would say, if they’re forced. If there’s absolutely no way to make it work and their house gets repossessed, they’ve got to find … they’ll take it right to the edge. Because that’s such a non-starter for them, to voluntarily give up your home. Because to make a rational decision and say, “Well, here are the goals that I’m chasing. Here’s how important they are to me.” And to get down list and go, Yep, I can’t afford this house if I want to be this person.” That takes a lot of gumption. You look around and you don’t see a lot of people behaving that way.
But this is a change of a material enough nature that yeah, maybe you do need to downsize. And there’s challenges with that. There’s not a lot of inventory on the market right now. You may be backed into a corner because you’re not going to be able to get enough out of the host to even pay off the mortgage, so it may or may not even be possible. But in the effort to actually put everything on the table, yeah, I think that is a calculation that should be done. Even if you just do the cold hard math, and emotionally you’re going, “Oh, I would never do that.” Okay. Well, fine. Let’s accept you’ll never do it. But let’s just do the math, and see if that information changes the emotion.
Now, it’s not often … and Josh, I’ve said this to you many times. Don’t bring facts to an emotional conversation. But every once in a while it’s like, wow, those facts are so compelling that … yeah. And sometimes it’s a matter of trying to make it real. Just to dismiss it out of hand, I think doesn’t do it justice. To, “Well, you know what? Let’s do a what if. Let’s pull up realtor.ca and take a look at housing prices in different places. What would it look like if we had a smaller house or a less expensive house?” And play the game for a little while just to see if it catches your imagination. Because you may wake up and say, “Holy crap. I didn’t know I could get that kind of property for that kind of price in that area. And I could do X, Y, and Z and make that work.” It could be that it’s just never occurred to you.
So that’s the benefit of not getting pigeonholed in a particular direction saying, “That’s a sacred cow. I could never sell this house.” The other thing I watch people do is like, “Oh, I can’t sell this house because this is where the kids were raised.” Meanwhile, the kids are going, “Mom and dad, you got to sell the house. That’s way too much. You guys are too far away. That’s too much to handle. I don’t believe you guys are still there.” The emotional attachment of one generation doesn’t always get reflected in the next generation. And that’s another family conversation that you need to bring body armor to.
Josh Sheluk:
Yeah, yeah. The kids might not want your 150-year-old China. I don’t know. Maybe they do, but I’m just saying, maybe not.
Colin White:
Just throwing it out there as an idea. Maybe something to consider. The kids loved the cottage. I hated the cottage. There was no wifi. I didn’t have my friends there. I had miserable times at the cottage, right?
Josh Sheluk:
Yeah. My Snapchats were so delayed at the cottage, I couldn’t even handle it.
Colin White:
Oh, there you go. Playing that millennial chip. So look, is there any other roads that you can think we should go down, Josh?
Josh Sheluk:
I think that’s it. I guess I would revisit the thing where you said, “There’s been no mistakes made here.” I think if we can take anything away from this, not that it was a mistake, but take anything away, it’s just give yourself a little bit more cushion than you think you might need. Give yourself some outs if something happens that’s unexpected.
Because to your point, it’s not totally shocking to see this. But even if you thought it was totally surprising, you want to build some type of contingency into your plan, into your future so that you’re not right up against that edge if you can avoid it. Because then you get into a situation where we have to start talking about, “What does it look like if I sell the family home?”
Colin White:
Yep. Well, and the other thing I’ll say is people do so much in the name of keeping up in the expectations of the family. So they cause them such immense financial stress in the name of maintaining a lifestyle that they think everybody wants, but then they’re on medication and they’re miserable and they’re cranky all the time. So one of the things I say to clients at the right time is that, Hey, listen. The most important thing to your kids is that they’ve got relaxed, happy, and content parents.” To drive yourself around the bend chasing a whole bunch of things, and taking away … being cranky all the time and not being around all the time and chasing things isn’t the path to long-term happiness.
So the financial comfort in your world matters to everybody around you, much more so than any of the material things in your world. It’s difficult to get there, but financial comfort, and therefore planning to allow for bumps that don’t completely discombobble you is a big deal. And don’t try … it’s very difficult, because everybody gets caught on the wheel of trying to keep up. But try to get that part right.
And going to a mortgage specialist to solve this problem is not going to give you the full solution that you’re looking for. This is one of those issues that transcends any individual discipline. It takes an approach that includes tax planning, goal planning, priorities, and retirement planning, all of those various things. You’re trading off between different types of investment accounts versus debt versus lifestyle choices. So this is one of those things that’s bigger than you can really deal with with any one specialty.
There you go. I think we finished it.
Josh Sheluk:
Can’t say it any better than that.
Colin White:
Thanks everybody for hanging out. Subscribe, like, give us suggestions for other things to talk about. And we’ll be back soon, because Kathryn makes us.
Josh Sheluk:
Thanks, Colin.
Colin White:
If you’re breaking a sweat trying to figure out what your financial advisor is talking about, you’re not getting the service you need. You probably hate trying to get an answer from them, but you also think moving your accounts will be a headache, and it might be. But working with don’t rock the boat wealth planning.com … or .ru. Isn’t exactly stress-free, is it? Call us. We will demystify the world for you.
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