Rent control will increase prices and not help tenants
Over the years working with real estate investors, I have come across very interesting answers when I ask "How many investment properties do you need to buy?" I have heard from 1 property to 40 properties, 1 every year for the next 5 years, don't know... Most stumble when I ask why? It starts with why. Simon Sinek explains the importance of starting with why in his TED Talk
There are many reasons for buying investment properties, here are some:
- Retirement income
- Fund children's post secondary education
- Job replacement (one spouse might be considering leaving their job)
- Supplemental income
- Family legacy
- Full time real estate investor
- Investment diversification (real estate and stock market)
Once a reason or multiple reasons are chosen, determining how much monthly income the investment properties are to generate is the next step. This goal can be achieved via different investment properties options (single family, duplex, multi-family, commercial....) and various geographic locations.
To complete "why invest in real estate" analysis, reverse Engineer the number of properties you need and have your personalized "how and where" plan developed, click here.
There have been many changes with respect to mortgage qualifications in Canada. Above and beyond the 4 major changes announced by the Minister of Finance over 4 years, there have been changes on the backend on how lenders qualify applicants. The most recent one is mind boggling!
Investment Property Mortgage Qualification
For an applicant reporting a surplus on their T1 general (line 126), the surplus (line 126) is added to their income.
Example: Applicant's income is $100,000 and line 126 is showing $5,000, total applicant's income is $105,000. If the applicant owns other investment properties, here is the part that makes no sense: The principal portion off the annual mortgage statement is deducted from applicant's income!
Example: Applicant has paid down $10,000 of mortgage principal in the previous year, total income: $100,000 plus $5,000 less $10,000 = $95,000. This rule effectively penalizes real estate investors who build equity in their investment properties. Last time I checked statements made by Minister of Finance, Bank of Canada, Bankers..... they all advocate paying down debt and building equity now while interest rates are low (Canadians are at record high debt to income ratio).
This rule effectively encourages not paying down mortgage principal. Had the applicant paid more interest than principal in the previous year, the mortgage principal deduction would have been less and therefore their net income higher!
If you are thinking of showing a loss on line 126, it's even worse: Income less loss on line 126 less mortgage principal.
Are you confused and frustrated with all these guidelines? Rest assured this is what I do on a daily basis and I am here to help you navigate through the mortgage qualification land mines to build your real estate investment portfolio. It's all in the setup.....Happy Investing!
- The days of 5% downpayment and 40 years amortization are long gone
- Some lenders have a minimum square footage requirement
- Some lenders require more than 20% downpayment
- Some lenders require borrower pay for insurance premium above 65% loan to value
and the list goes on. But don't be discouraged. Here is mortgage underwriting 101 and a road map to help the investor mortgage 8 Toronto investment condos:
1. Start With The End Goal
The mortgage setup of each investment condo plays a critical role in helping or hindering the qualification of the next investment condo. Knowing what the investor's ultimate goal (8 condos or 3 condos) requires a different mortgage financing strategy. Some investors approach investment properties with "I'll buy another one" which is a problem in today's financing world. Over the years, I have come across many situations where the mortgage was setup with a short amortization period or the wrong mortgage product which restricted qualifying for another property.
2. Focus On Cash Flow
Setting up each condo to positive cash flow helps to qualify the next investment condo. There are 4 methods of cash flow analysis lenders would consider in mortgage qualification:
T776 Statement of Real Estate Rentals
Some lenders would use line 9946 to add to investor's income if the figure is positive. This is where many investors go wrong. They try to show a loss which reduces taxable income however it hinders qualifying for the next investment condo since the negative figure translates into a liability on the mortgage application. Showing a positive figure and paying some taxes is not a bad thing!
50% of Rental Income
This method is a deal killer. For example, assuming the investment condo is rented for $1600 per month, the lender would only use $800 as revenue then deduct 50% of condo fees and mortgage payment. Good luck getting a positive number without a large downpayment.
Rental Surplus Calculator
Lenders use the rental income generated by the condo and deduct mortgage payment, condo fees and 15% of the rental income figure.
The Wash Method
This is where the lender would look at the rental income being generated and as long as the rental income covers mortgage payment, condo fees and property taxes, the investment condo would not help or hinder in qualifying for a mortgage.
Stretching the amortization to 30 or 35 years and getting a variable mortgage would increase cash flow and help qualify the next investment condo. In real estate it is location, location, location and in the investment property mortgage world it is cash flow, cash flow, cash flow which sometimes means a greater than 20% downpayment.
Keep in mind today's qualification guidelines could be different next month. The mortgage financing landscape changes frequently based on government requirements and lenders' risk analysis. So what works today, might not work tomorrow!
Mortgage Broker or Bank
Most, not all, lenders have a cap of 4 investment properties per borrower. Understanding where the investor wants to be long term helps in structuring the mortgages appropriately and placing them with lenders who accept a portfolio of more than 4 investment condos. Choosing an experienced mortgage professional who knows where and how to place these mortgages can save the investor tens of thousands of dollars. No investor wants to be in a situation where they walk into the bank to finance their 5th investment condo and get "sorry, we can't help you since you are capped". Then what?
Looking to invest in Toronto condos or have an existing portfolio? Please contact Nawar to help you achieve your long term goals.
Basement rental apartments are popular in Toronto and make homes affordable for many in the city since they have the potential of generating $1000-$1500 per month in rental income. Legalizing a basement apartment requires meeting electrical, fire and building codes. It seems daunting initially but working with a knowledgeable architect can alleviate lots of headaches. As a real estate investor, I have viewed many properties and found the most challenging part of legalizing a basement apartment to be the ceiling height requirement. There are 2 building code requirements; one for existing basement units and one for new basement units. If the basement rental apartment is existing, the code requires at least 50% of the floor area to be 6'5" high. If the basement rental apartment is new, the code requires at least 50% of the floor area to be 6'8" high. The majority of homes' basements built in the city of Toronto were used as utility /storage areas and not as living space. Nowadays, basements are considered part of the living space for in-home offices, guest bedrooms, children's play area and entertainment space. Lowering the flooring to achieve legal height can be accomplished through underpinning or benching. Both methods can be costly depending on the house foundation conditions, soil conditions and existing interior walls. In cases where the basement ceiling height is 4"-6" below the required height, there is a third more cost effective option: lowering concrete slab (see image below).
A bonus of this option is installing new PVC drains since the old ones are made out of clay and over the years have deteriorated in condition. This method requires drilling holes into the existing concrete slab to locate it relative to the wall footing. In my experience, I had to underpin one property and managed to lower the concrete slab on another to achieve required legal basement height. The cost of underpinning can range between $50-70,000 where as concrete slab lowering $15-20,000.
References For Adding A Secondary Unit in Toronto
- Carson Dunlop Basement Apartments Untangling the Web
- Second Suites
- Basement Accessory Apartment Specifications
If you are looking for an experienced mortgage broker to help you navigate through adding a basement rental apartment and analyze the investment property, please contact me.
**Disclaimer: The above information is for reference only and it is best to consult with a professional architect and a licensed basement lowering company as part of your due diligence**
Quietly during the dog days of summer, the Ministry of Municipal Affairs and Housing released its allowable rent increase for the period between January 1, 2014 to December 31, 2014. The rent increase for 2014 is capped at a maximum of 0.8%, yes zero point 8 of a percentage point. Click here for the Ministry of Municipal Affairs and Housing news release.
2014 Ontario Rent Increase: The Good
There are a few exemptions to rent control if one of the following conditions is met:
- If you are real estate investor who owns a condo that was built after June 17, 1998, then it is not subject to rent control which means the real estate investor/landlord can increase rent to an amount the market can bare without the tenant moving out.
- If the rental unit has not been rented since July 29, 1975. A good example if one decides to convert their basement into a separate rental apartment. Again in this case, the rental unit is exempt from rent control.
2014 Ontario Rent Increase: The Bad
When was the last time property taxes, hydro rates, heating prices, water & sewers and insurance costs all went up by a total of 0.8%? It is important as a real estate investor to have utility costs (heat, hydro, water & sewers) paid for by the tenant. Having the tenants pay for utilities puts the responsibility on the tenants' shoulders to conserve energy and pay for what they use.
Controlling rental increase at 0.8% reduces the real estate investor's cash flow as expenses rise. No business owner (real estate investor) would be happy with less cash flow from their business venture.
2014 Ontario Rent Increase: The Ugly
One phrase caught my attention in the news release: "This year’s rate will be the second lowest in history". Is this something to be proud of? I will leave that for you to decide.
Keep in mind, if your tenant moves out, you are allowed to increase the rent to what the market can bare. However, if the tenant is staying, an N1 or N2 must be provided with 90 days notice of the rental increase per the Ministry's guidelines.
If you are looking to start investing in real estate and not sure where to start or an existing real estate investor looking to grow your positive cash flow portfolio, please contact Nawar.
The mortgage lending landscape has changed considerably in the last few years and investment properties qualification is more stringent nowadays. A few years ago, one can qualify for an investment property mortgage with less than 20% downpayment. Nowadays, 20% is the minimum downpayment not to mention the amortization has been reduced to 30 years (Note 35 years amortization is available but at a rate premium). Understanding how investment properties are qualified with various lenders can sometimes be complex, however here is an explanation to help the first time real estate investor what they are up against. The examples below are based on the following:
- Purchase price: $625,000 (duplex)
- Mortgage: $500,000 (80% LTV)
- Monthly mortgage payment: $2,127 (based on 3.09% amortized over 30 years)
- Monthly rental income: $3800
- Monthly property tax: $275
This is the most penalizing rule used by lenders where it only accounts for 50% of the rental income. Based on the above numbers, the net monthly result is a shortfall of $502 (50% * $3800 - $2127 - $275 = -$502). This figure is added to the liability section of the mortgage application hence reducing applicant's qualification amount.
This is more favourable method, where 70% of the rental income is accounted for. The above example would net in a surplus of $258 which is added to the applicant's income which strengths the mortgage application. At the time of writing this blog post, this method will be scrapped in a few days.
T1 General Line 126
Some lenders allow the applicant to use line 126 in the T1 general for existing investment properties when qualifying for a new property. Typically, real estate investors maximize capital cost allowance (CCA) depreciation and expense deduction to show a loss. This might be advantageous from a taxation perspective, however the negative figure on line 126 would be added to the liability section of the mortgage application. Having a positive line 126 figure would strengthen the application since it is added as income (Disclaimer: Please consult a professional accountant to provide tax advice as I am licensed a mortgage broker only).
A calculator is used with set figures for vacancy, repairs & maintenance, insurance and management. This is the most favourable method as it nets $638 monthly which is added to the applicant's income.
If a real estate investor is buying a home to for personal occupancy, the above methods are used by lenders in assessing the the applicant's qualification. Qualifying for a mortgage when one owns an investment property can be a daunting task and stressful. It is important to work with a mortgage professional who is well versed in investment property qualification guidelines to avoid future disappointments. How would one feel if they can't buy their dream family home because they own one or two investment properties?
To avoid disappointment in buying your family home or investment property, please contact Nawar.
There are 2 types of mortgage registration in Canada: standard charge and collateral charge. Homeowners usually don't inquire about the type of mortgage registration due to lack of knowledge or lack of disclosure by the lender/broker arranging the mortgage. Mortgage registration is an important fine print detail. There are pros and cons associated with collateral mortgages:
Collateral Mortgage Pros
- It allows the homeowner to access equity as they pay down the mortgage
- Legal fees are not required (saving of approximately $1,000) to access further equity
- Good product if homeowner intends to refinance/access equity prior to mortgage maturity
Collateral Mortgage Cons
- Due to registration, homeowner will incur legal fees (approximately $1,000) to move the mortgage to another lender at renewal
- Homeowner loses negotiation advantage if they need to access additional equity since they can't leave the current lender without paying a penalty (3 month interest or IRD) plus legal fees
- Homeowner might not qualify with existing lender leaving no options to access needed funds
- Some lenders register the collateral at 125% or 100% of home value, effectively blocking the total amount and restricting the homeowner from accessing equity
Collateral mortgage registration is designed to retain clients at renewal. With slowing real estate market, less sales therefore less new mortgage originations, lenders want retain more clients. Homeowners will be faced with a decision to renew at a less competitive rate or pay legal fees to move their mortgage to another lender at renewal. CBC marketplace did a show on collateral mortgages where they focused on one banking institution. Be aware that other lenders employ similar strategy as well.
Understanding the costs of getting into a mortgage and out of the mortgage at renewal, is important in deciding which mortgage product makes financial sense. There is more to mortgages than just rates.
As many of you know, I got into mortgage brokering after I purchased my first investment property (triplex) in Hamilton in July 2006. I recently exited the business venture and sold the property. Overall, the investment was a great one; it appreciated by approximately 50% over 6.5 years, generated strong cash flow from day 1, had great tenants and it provided capital for more investments. You might be wondering why I sold if it was such a great investment property. The reality is I live and conduct my business in Toronto, I have 2 young children and I want to focus on buying more properties in Toronto's east end (Leslieville, Upper Beach, The Beach, East York...) where I have a duplex. Selling an investment property can be a tricky ordeal especially when all 3 units are tenanted. Here are 3 things you need to know when selling an investment property:
You might ask why would the seller care about the tenants if the property is for sale. What if the property doesn't sell or the deal falls apart at the last minute, then how will the relationship with the tenants be repaired? As much as investing in real estate is about numbers, it is also about the people. If the landlord takes care of the tenants who are paying customers, they will take care of the property like it is their own home. The tip here is to speak to the tenants in person to let them know your intentions of selling the property and understand their working hours (you don't want to show the property at 10am if the tenant is a night shift nurse). Giving the tenants a Starbucks or Tim Horton's gift card is a nice gesture.
2. Period Between Sale Going Firm And Closing
The period when the sale goes firm to closing day is a transitional period where the property has to be kept up and all issues have to be addressed by the landlord such as furnace malfunction and electrical repairs. The property has to be in "working condition" when the ownership is transfered to the buyers. Otherwise, the buyers can come back and request reimbursement.
3. Closing Day
I found closing day to be the busiest day of all due to 2 tenants moving out. The property had to be handed over in clean condition and free of debris. Having many tenants over the years, certain items were left in the storage area which took 2 trips to the city dump to discard of. I am lucky to have my realtor who has a pick up truck (he is a real estate investor as well) who helped me purge the garbage.
Everyone's experience will be different depending on the property owned: condo apartment in Toronto, multiplex building or duplex. Falling in love with the numbers is one aspect of real estate investing, but getting your hands dirty is another part of the business that many don't talk about. Happy investing!
The US Federal Reserve announced on September 13, 2012 that it will embark on a third round of stimulus (QE3) to improve the employment numbers in the US. What does this announcement have to do with Canadian mortgage rates? Mr. Carney, the governor of the Bank of Canada, has to keep the benchmark rate which sets prime rate relatively close the US Federal Reserve benchmark rate, otherwise the Canadian dollar would appreciate and have downward pressure on Canadian exports due to the higher cost of Canadian goods. This would be bad for the Canadian economy and force the Bank of Canada to hold its benchmark rate at or close to its current level to late 2015 along with its US counterpart.
If you are variable mortgage holder who has a prime minus mortgage, this announcement is great news since prime would probably not move dramatically in the next while. However, the risk is as central bankers "print" money to stimulate the economy, inflation will become an issue sometime in the future. The message here is to take advantage of your current variable mortgage but plan and prepare for the future.
Depending on owner's intentions, there are 2 downpayment requirements for investment properties depending on whether the owner intends to live int the investment property (duplex, triplex, fourplex) or not:
- 5% downpayment if owner is planning to live in one of the units in the duplex, triplex or fourplex with maximum amortization of 25 years
- 20% dowpayment if the investment property will not be occupied by the owner and maximum amortization of 30 years
However, it is important to review one's goals over 5-7 years and understand the downpayment requirement if planning to buy additional properties. The number one challenge for real estate investors is running out of capital (downpayment). It is important to plan ahead and divide the monies accordingly to achieve the long term goals. I have met with too many investors who had the need to restructure their mortgages since the focus was on the next deal and not the long term plan.
To discuss your investment property plans, contact me.