Litigating a faulty RRSP mortgage

While not common today, it has long been possible to hold your own mortgage within an RRSP. Particularly in a high-interest-rate environment, there is certainly an appeal to feeding high monthly mortgage payments into your own RRSP — rather than to your favourite lending institution.

On a practical level, clients must still partner up with a qualified lender. This can be costly to establish, cumbersome to document and complex to administer — and even then, mistakes can arise. A recent Alberta case highlights just how much can slip through the cracks, and for how long. It also underlines the fact that failing to act diligently to correct an institution’s error may be fatal to a later claim in court.

RRSP mortgage rules

A mortgage on real estate in Canada can be held in an RRSP, and need not be a first mortgage, or even a residential mortgage. However, when the mortgagor of the property is the RRSP annuitant or other non-arm’s-length relation to the annuitant, special administrative requirements must be observed. In such circumstances, the mortgage must be administered by an approved lender under the National Housing Act (NHA), and carry NHA insurance or other approved private insurance.

So long as the interest rate is commercially reasonable and the mortgage is administered in an arm’s-length manner, the arrangement complies with RRSP rules.

A misplaced mortgage

In a trial before the Alberta Queen’s Bench early in 2011, a claimant sought compensation from the institution with which he had attempted to establish an RRSP mortgage in 2002.

The $181,000 mortgage advance mistakenly came from another business unit of the institution, rather than out of the individual’s RRSP. As a result, the monthly mortgage payments were directed to that other unit, at “an inordinately high 7.5% interest rate for nearly five years.”

In the interim, the individual claimed to have obtained confirmation from the institution that he was entitled to trade stocks with the balance showing in his RRSP. This balance should, in reality, have been advanced on the mortgage.

Much stock trading followed, with the account almost doubling before settling back to $231,000 (including a transfer-in of $31,000 from another RRSP) by mid-2007, when a new home was purchased. It was at this point that the mistakenly advanced mortgage error apparently came to light.

The institution admitted the error but defended the damage claim, in part based on the verification clause requiring customers to report statement errors within 30 days. The judge ruled that, in the face of its own negligence, the institution could not then demand strict compliance with that clause.

At the same time, the judge was not sympathetic to the claimant’s plight, underlining that “the duties of fair and accurate reporting go both ways,” including the duty “of an ordinary bank customer, which would be to report promptly and reasonably an obvious error on his monthly statement.”

The judge ultimately characterized the individual’s claim as an attempt to obtain “a ruling that the bank save him from his own investment decisions.” Other than reversing a prepayment penalty, the judge denied the claim, holding that had the individual “left the account alone and not manipulated it,” he would have been entitled to compensation for unpaid interest, which totalled about $63,000.

Oops, did I just say that?

As unfortunate as the litigation loss may have been for the individual, there may be more legal woes ahead. When pressed on examination as to whether a $298,000 single stock purchase was a risky investment strategy, he responded, “Not with the information I had. I had a friend that worked there.”

We’re left to wonder whether this also may have played on the judge’s sentiments in the final determination.

DOUG CARROLL JD, LLM (Tax), CFP, TEP, is vice president of tax and estate planning at Invesco Trimark Ltd.