The media has been predicting doom and gloom for the Toronto real estate market for a long time now.
In fact, pundits have been making the claim as far back as 2006 when the financial calamity that ultimately skewered the United States housing market – and many other countries around the globe – first started showing signs of cracking. Even we wrote about the potential impact in one of our HomeWatch newsletters three years ago called “From Boom To Balance In The City Of Toronto”, which offered an explanation for why Toronto might hold its own amidst tumultuous market conditions. You can click HERE to read our insights, all of which have proved to have merit.
Since then, the Toronto real estate market has continued its stratospheric rise both in the volume of real estate traded and in the setting of precedent prices. Right now it seems we’re hovering in limbo, where the pendulum might swing either way. On the one hand, there’s a shortage of freehold listings making bidding wars a regular practice and, on the other, many of the ubiquitous point town condominiums are now languishing on the market.
Which brings us to this month’s Dear Urbaneer post which answers a question posed by one of our clients:
“Dear Urbaneer,
I’m a single professional male in my late 20s who has been living with my parents while I pay off my student loans and save my down payment. Now that I’m becoming more financially grounded, I’m considering jumping into the housing market. As a first time buyer on a limited budget, I’m trying to weigh out the pros and cons of getting into real estate.
How do I determine whether I should buy or rent real estate?
Signed,
Home Buying Jitters”
Here’s our response:
“Dear Jitters,
Given that homeownership in Canada is at an all-time high, mortgage rates are hovering around their all-time lows, and a personal residence can be bought with five percent down plus the cost of the high-ratio insurance premiums, it’s no wonder you might be questioning whether or not you should jump on the homeownership bandwagon. However, before you do, you should ask yourself a few questions to determine whether homeownership in the current environment is an appropriate fit.
What is your motivation behind your property purchase?
A generation or two ago, the objective of purchasing real estate was to find a place to put down roots for the long term with the additional benefit of building equity over the long run. But then things changed. After 1995, when the Toronto real estate market stabilized after a disastrous decline that saw values drop upwards of 35%, real estate values began an unprecedented rise that has generally continued for 17 years. For Buyers who were young enough to have avoided being slayed in that real estate market crash, and savvy enough to spin a five percent down payment into their first of multiple purchases, the perception of the property market changed. Real estate began morphing into an investment vehicle that just happened to have the added benefit of an ever-changing address to lay your head. For shrewd opportunists, masters of timing, and property ladder vagabonds, this real estate boom has built a great number of fortunes.
It is noteworthy to mention that this approach to real estate engages a different thought process than that your grand parents might have used with real estate. Despite all those financial real estate success stories you keep hearing about, even cheerleaders of the housing market who have witnessed huge jumps in market values warn double-digit price gains for property values are no longer realistic. In fact, cautious investors aim for a healthy gain of 4 percent to 6 percent a year, keeping their asset value just beyond inflation.
What does this mean?
There are many variables which impact your ability to make money in real estate. If you’re looking for a sure-fire profit, the key is to choose property which can serve your needs for the long term. Because even in strong markets, timing is everything and you may not break even if you sell too soon.
Let’s say you buy a $350,000 condominium with 5 percent down and then sell it two years later for 10 percent more than you paid, which a reasonable return by historical standards. After you account for your original purchasing costs (lawyers fees, bank charges, cmhc insurance, moving costs) and the ones you incur when you sell (like financing penalties, legal costs, real estate fees and movers again), you could potentially walk away with less than $7,000 – which is probably what you spent decorating your digs to swankify your pad. If your objective is to truly make a profit in real estate, be cognizant of all the ancillary expenses associated with property ownership. Accept that it takes time to recover these costs.
Are you rushing to purchase because you think “you’re throwing your money away on rent?”
All buyers believe home ownership is better than just paying rent. But the truth of the matter is, for the first few years, most of your monthly mortgage payment is paying the interest cost associated with borrowing the money, rather than going towards paying the actual debt (if you borrow $100,000 at 3.69 percent – 25yr amortization – with a payment of $510 a month, you’ll owe the bank $97,500 at the end of the year). If you look at the real costs associated with incurring a mortgage – especially those which are high ratio with an insurance premium – then you’ll see that it requires several years of mortgage payments to build a solid equity position. Until that happens, those mortgage payments are pretty much on par with rent. Except that homeownership is not as fluid, in the sense that you just can’t give notice and move.
Have you reconciled that the investment of ownership is more expensive than renting? Because it is.
A lot of prospective buyers figure they’ll translate whatever their monthly rent is into the equivalent of a mortgage payment, knowing that there will be some additional expenses to cover. But they often don’t fully account for what and how much these additional property expenses will be. With a freehold house you’ll likely have bills for gas, hydro, water/sewage/garbage, property insurance and property tax. Plus you need to be prepared for repair and maintenance expenses which can amount to several thousand dollars a year. If you buy a condominium you’ll have a monthly common fee., but don’t assume that the fee will cover all the building expenses. The failure of a major building system could drain the collective reserve fund account and require everyone to pay a special assessment to cover the shortfall. And don’t forget to include your phone, internet, and cable costs, which can quickly eat up your disposable income.
Buying a property still takes money even if you manage to keep your mortgage payments low and save on closing costs. By the time you pay for a home inspection and make your hundredth trip to Home Depot – and we’re speaking from experience – you could spend thousands of dollars in incidental expenses. And no matter how much you’re leveraging yourself, you should also have a cash reserve of six to eight months of expenses in the bank to carry you through any personal crisis that impacts your income stream.
What else are you invested in?
Home ownership is about shelter, yes- but be aware of the place that the investment component plays in your overall portfolio. What else are you invested in, and how liquid is the rest of your portfolio? How subject are you to market corrections, or movements in interest rates? Although many think of their property as a separate asset from their stocks and bonds, it is actually part of the greater whole, and requires examination in that context.
Have you crunched the numbers to get a clear picture of owning vs. renting?
In the city of Toronto, the gap between the cost of renting and the cost of owning has widened. Although rents have increased, be cognizant that all those ubiquitous highrise developments which were purchased by investors in their pre-construction phase are now being built and nearing completion (some 60,000 units are slated for delivery in the next few years). As a result, we could begin to see a large supply of rentals flooding the market soon enough. If you’re weighing the pros and cons of buying, you might find it useful to take the pulse of the local rental market for a couple of reasons.
First of all, you might learn that you can actually save more money renting over the course of a year or two than you would leveraging yourself to acquire a property and waiting for it to escalate in value. In the downtown core you can rent a one bedroom and den condominium for about $1800 a month (I’m citing a listing in West Harbour City on Fleet Street), when the cost of owning the same property (95% mortgage on $360,000 purchase price + property taxes, insurance and common fees) would cost about $550 a month more. With your paying $6600 a year just for the investment of owning versus renting the same unit, the condominium would need to appreciate more than 10 percent in a year (assuming you sell with a realtor) for you to walk away with more than you saved renting. Alternatively, you could save an additional $13,000 in two years to beef up your down payment.
Second, the relationship between rent prices and the cost of owning is one way to gauge the health of a real estate market. There is an underlying relationship between property prices and rents in close analogy to the stock market’s price-to earnings ratio. Analysts believe if the cost of owning is significantly higher than renting a similar property, it indicates the housing market may be overvalued relative to its economic fundamentals. Of course, this is dependent on the type of property you’re purchasing and its location, so a detailed analysis is critical to assess the market. The point is, you want to ensure you’re making a prudent and profitable purchase, keeping in mind not all properties escalate in value the same, as some offer better opportunities over others.
Ask yourself…are you ready to commit?
Before buying, you should weigh the pros and cons of owning, take a close look at what you can afford and research the area you want to live in. But, at the end of the day the answer to the question “Should I buy real estate?” isn’t going to show up on a spreadsheet or be revealed by a survey of friends and family.
Emotionally, you need to be ready to commit, and accept being tied to one place for an extended period of time. And when I say time, you need to be comfortable with the fact that it could be for a long time if the market changes and you find yourself in a position with no gains or a negative equity position. Owning a property is a huge emotional and financial commitment. For many, instead of taking that trip of a lifetime they’ve always dreamed of, they’ll be renovating their washroom and shelling out thousands of dollars to fix their leaking basement. For some that prospect is a horror, and for others it is part of building long term security. Ultimately you’ll know when the time is right for you. As the saying goes: “You want to own the property. You don’t want the property to own you.”
Do you have questions? Seeking the answers to these questions can be a challenge- especially for first timers, and it makes sense to align yourself with someone you can trust to help navigate the market.
At urbaneer.com we’re here to help, all without pressure or hassle. We simply love what we do. With a multi-disciplinary education in housing, sound knowledge of the mechanics of real estate and a sharp skillset in evaluating properties for over two decades, we’re here to guide you through all the factors which play into establishing the value of any property.
Did you see our Spring / Summer 2013 Real Estate Forecasts? Click HERE to read the one of the Freehold Housing Market, and click HERE to link to the one on Toronto’s Downtown Condominium Market.
If you, or someone you love, needs assistance, insight, or guidance maneuvering today’s market realities as they pertain to you, just pop us an email or pick up the phone at 416-322-8000.
Like what you’ve read? Consider signing your email address in the box below to receive our FREE monthly e-newsletter, all without pressure or hassle.
~ Steven and the urbaneer team
earn your trust, then your business
your Bosley TOP TEN realtor
Dear Urbaneer
Real Estate
