Real estate investing in Canada is an interesting topic, and especially in times of incredibly low interest rates, either someone is making money renting out their property increasing the amount of equity they own, or complaining about foreign investors.
The complaining part is especially true for those in the Vancouver (GVA) or in Toronto (GTA), but amid the conversation on the prices and affordability, there is a lack of knowledge on what people can afford, and the mechanisms on which home ownership hinges both for personal and investment.
The ways to invest in property come from 3 sources, buying an apartment or house and renting it out, developing a piece of land, or obtaining commercial property. For this article “real estate investing” will focus on buying homes and apartments, even though the term is much more broad than that, and how that is more affordable that you think.
Real Estate Investing – What Can I Get Approved For?
Ever wonder what the representative behind the desk in the bank is doing when they are approving you? The two numbers you need to remember are 32% and 42%.
Gross Debt to Service Ratio (GDSR – the 32%)
Your GDSR is what is called your housing related costs. This matches up with the Canadian CPI index, which typically includes home ownership as 33% of your income. What the banks are looking for is that all your housing related costs are 32% or less of your monthly income. This will include your mortgage, property tax, strata fees (if any) and a basic cost for heating.
Total Debt to Service Ratio (TDSR – the 42%)
Your TDSR is the GDSR plus external debt. This is preferred to be at the 42% max of your monthly income. This would include all housing related monthly costs in addition to thing like a car loan payment, credit card payments, all home service invoices and lines of credit.
Canadian Mortgage and Housing Corporation(CMHC) Fees
Now, there are a couple of things to mention here. The first is the amount of down payment; If you have less than 20% down payment, your mortgage is considered insured, and it is mandatory to be insured by the Canadian Mortgage and Housing Corporation (CMHC), this is an escalating percentage added to your mortgage the smaller your down payment is. If your mortgage is insured, then the 32% and 42% ratios are strict and must be in line.
If you have 20% or more as a down payment, you are considered a less risky borrower and these ratios become more like guidelines and are influenced by what is known as the 5 C’s of credit:
Credit worthiness – do you have a good credit score (mortgage minimums are usually a 600 Beacon score), and what is your payment history
Character – are you financially mature?
Collateral – do you have any assets backing up your purchase (emergency funds, savings), and what is the quality for the property to be mortgaged.
Capacity – this goes back to the ratios – i.e how stretched are your monthly payments
Capital – how liquid are you, and how much are you putting towards the property purchase
These characteristics are different for everyone, and there is a human on the other end making a case as to why this loan should be approved.
Maximizing Real Estate Investments
Now for the fun part, how do you maximise these investments?
The key thing here is rental income, the goal of real estate investing is two-fold , a) Get somebody else to pay your mortgage and b) Increase equity for yourself.
When you are doing a mortgage application, you can include rental income in the calculations, all of a sudden you are able to be approved for more and you are considered less risky. Specifically, the best two ways to approach this are the following:
Buy an apartment as an investment property, including the rental income (some institutions take 50%, some take 100%) – make sure the mortgage is within limit, and aim to get a renter who can either break even on those costs, or perhaps even have extra income per month.
If you are buying a home in Canada, and you want to take advantage of renters, the best way to do this is find a home that has a basement, upper level and a coach home, of course within reason. The best usage I have seen of this is a couple whose combines income was $70K. These two bought a house for $700k in the lower mainland of Vancouver and their mortgage was around $2500 a month. Here’s the kicker, they stayed in the basement, they had the top floor rented for $2000 a month, and their coach home was rented at $900 a month. That’s free rent for them!
So that covers the ‘getting people to pay your mortgage for you’, the second topic I wanted to cover is equity. There is no cheaper source of funds than home equity, and typically this is Prime +0.5% at most major institutions, in an interest only payment. Why is this important? As your balance is being paid off by yourself and your renters, you now have access to this extremely cheap source of funds which can be used for a) Consolidation b) Future investment c) Renovations and misc. expenses. To put this interest only payment in perspective (assuming prime is 2.70 %), if you borrow $30,000 , your yearly payments are $30,000 x 0.032 = $960.00, divide this by 12 and you get a payment of $80 per month – try to beat that!
So yes, homes are expensive, but there are renters available and you should be able to invest in something reasonable, without being bogged down every month. Do the calculations and go to a financial institution and get your self on track to either buy your first personal property or your first investment property – you can afford more than you may think! Below is great calculator from Ratehub that can help you determine what you can and cannot afford. And keep in mind, the sale of a secondary rental property can become subject to capital gains.