On this day 25 years ago a five-year mortgage cost 13.75%. Seriously. And that was an improvement from where it had been a few months earlier. Discuss that with your basement-dwelling, condo-lusting Millennial spawn over dinner tonight. They’ll think you’re a scaremongering old fossil.
I mention this because RBC did, sort of. The bank’s latest non-affordability report says Vancouver’s insane (we knew that) while buyers in Toronto are “approaching 1990” conditions. That means it’s almost as hard for folks to buy digs in 416 today as it was back when Linda Ronstadt could still wear Levis.
Of course high rates aren’t the problem now. Five-year, fixed-rate mortgages are available everywhere in the 2.5% range. The problem is price. In 1990 the average Toronto house traded for $255,020. Ten years later the same house was worth less – $243,255 – because rates stayed high. By 2010 it had mushroomed, to $431,276, as our current era of cheap money began. Today the GTA average is $609,236, and rates have bottomed.
Logic then dictates the negative correlation between house prices and the cost of money is bad news for the next decade, as we head towards rate normalization. (The US Fed kicks this off in the next few weeks.) It also means when RBC uses a word like “risky” regarding home ownership, this is probably the time to be doing anything with your money except buying a house – at least in the bubble markets.
Well, here’s Ed. I include his note to prove that even the 1%ers among us can sometimes lose their way. Fortunately, they all read this pathetic, free blog. It’s a cult thing.
“You don’t seem to have a shortage of these emails,” he says, “but thought I would throw my hat into the ring. Here’s my story…”
So Ed took my advice and sold his McMansion plus six rental properties in BC, and now has $3.5 million, “in a fully diversified GT-style portfolio” managed by two smart guys he pays 1% to. In his late fifties, he earns $200,000, rents for $2,300 a month and is starting to mull retirement. “We might buy in a couple of years when the current lease runs out, maybe a 20-year house, leaving feet first.”
So why is Ed writing, other than to piss off all the little socialist, Norway-loving, Millennial underachievers who stumble in here by mistake just because Stephen Harper hates me? Family, of course.
“Our son earns $100,000 a year and our daughter-in-law has a classic case of house horniness, which is somewhat reined in by her husband, by watching their investment portfolio of $250,000 grow, and by reading GreaterFool.
“So here’s the question. Part of the reason for the current situation is that my wife and I have been (I think) diligent about not cultivating a sense of entitlement – either in our own or our kids’ lives. Of course we can afford to lend/give significant $ to our kids to give them a leg up in the housing market (and want to) but feel that in order to be productive and useful to society we (all) need to be a bit “hungry” as well. Where’s the balance? Any ideas as to how much, when, etc.?”
First the legal stuff: there are no restrictions in Canada on gifting money or property to your adult children. We have no gift tax (unlike in the US) so none of this money will be hung on them as income nor any investment proceeds considered capital gains. You’re free to slide your adult kids all the cash they need to max out their TFSAs, for example, with all the tax-free gains going to them. Or you can hand over your real estate without attribution or consequence, for that matter.
But should you?
First, there’s the incentive argument. Gifting a million bucks (or half that) to your kid so he can move his family into a luxe house is not exactly an exercise in building character. This is not akin to handing over equity in the family business, of course, or even cutting your adult son into half-ownership of your scallop boat. It’s simple, unadorned largesse delinked from financial merit.
Second, Ed, why would you finance a real estate purchase for your horny DIL when you yourself have decided this is an abysmal time to be invested in property and a great time to be on the sidelines? How’s it doing them any favours to grab an asset with a precarious future?
Third, does the kid really need it? Just because he’s your seed? After all, the couple seem to be doing fine in terms of income and savings. Perhaps the best path is to leave them with their own accomplishments and rhythm, instead of blowing it up with parental moolah.
Finally, is there nothing better to do with money you don’t need than give it to someone who doesn’t deserve? How about saving homeless donkeys? Or those poor Syrian refugees throwing babies over barbed wire fences? The mutts in the local shelter? The humanity on the Lower East Side? Terry Fox?
Dammit, Ed. Now I’m all misty and altruistic. Kills me.
Karly’s shopping for a better rental in Vancouver and she’s not a happy babe. “While I agree with you renting is the best financial decision can we also agree it really sucks sometimes? Our apartment building had a fire a couple of months ago and we were forced to leave our essentially rent controlled apartment. When we started looking at other places I was flabbergasted at how much rents had increased, I mean I knew they were on the rise but this is crazy.”
To get a decent two-bedroom unit in YVR these days, Karly says, will cost her $2,500 a month (apparently she hasn’t heard of Kijiji).
“One of my theories is that the rents have increased because the people renting them need to cover their bloated mortgages. Some friends of ours just bought a two bed in our neighbourhood for $480k, now I’ve been reading this blog long enough to know that this isn’t a great financial decision but could you help me crunch the math? How high can we go in rent before buying isn’t such a bad idea? We make about 120k/yr combined and have 130k invested with a financial planner (not [email protected]) <—see I follow your advice.”
Good question. Vancouver’s one of the best condo markets in the country at the moment, with year/year sales ahead 42% in July. Easy to see why, when detached houses have gone into ludicrous mode, requiring buckets of money, a love letter to the owner and at least one kidney to purchase. The average beater SFH commands seven figures, while condos have a median price of $400,000. Even so, while detached prices rose 16% in a year, condo values climbed by only a third of that.
By the way, what happens to condos when a market runs out of hormones?
Let’s look at Calgary, where the pain has only started. In August apartment sales have crashed almost 40% from last summer, and the average sale price has taken an 11% dive, down to $296,300. Compare that to a more modest 20% rout for detached sales, and a mere year/year 1% drop in values, to $541,000. (In surrounding areas, it’s a far worse story, however, with prices off more than 9%.)
The lesson? If you’re going to buy real estate, make sure it includes some dirt.
Anyway, back to Karly. Does it make sense to buy a $480,000 apartment instead of handing over $2,500 a month to lease it?
Well, with closing costs that condo chimes in at about $500,000 and to avoid CMHC insurance you need a hundred grand down. The mortgage costs $1,900 a month (5-year, closed), with strata fees and insurance adding $500 and property tax at least another hundred. The $100,000 downpayment is not without cost, either, since if invested at 7% over five years it would grow by $580 a month. Total nut for owning is $3,080 a month.
Over five years, then, ownership costs are $184,800 as opposed to rental costs of $150,000, for a $34,800 premium. Now let’s say the condo retained its full value and was sold in five years for $500,000. After commission, HST and mortgage repayment ($343,000 remaining on the loan), plus getting the deposit back, the owner would walk away with $28,450.
So, Karly, it almost makes sense to buy since you’d lose only $6,350. That’s the cost of a used Kia and two mani/pedis at the Absolute Spa in the Hotel Vancouver (don’t ask). But it doesn’t end there.
Let’s talk about risk. Owners might make money if the condo they buy appreciates in value, but they face an equal risk of losing. Given the country’s swampy economy, the spreading impact of the oil collapse, crappy job creation, higher mortgage rates over the years to come and the fact young people are being priced out of YVR (not to mention the advancing hordes of socialists), residential real estate faces heavy headwinds. As Calgary proves these days, it’s condos – not detached houses – that are the first casualties.
There are other factors to consider, Karly. If the fire that forced you out of your rental unit had toasted a condo you owned, it’d be the worst news possible. Sure, insurance might have covered living costs and repairs, but you can be sure the resale value of your unit would be forever impacted, along with the monthly fees. With a condo, in fact, you have no control over the regular levy imposed by the condo corporation. You can’t control property taxes. You can’t have a mortgage without insurance, the premiums for which increase annually. If the building is not brand new, there could be a special assessment levied for new elevators, repairs to the parking garage or (shudder) leaks.
Of course, if the guy who buys above you is a flamenco dancer who practices all night, you’re screwed. The only way out is to sell. And what if the market is bad? What if you land a great job in Lillooet herding alpine goats and have to move fast? You already know you can’t rent out the condo for enough to cover your monthly costs.
In short, it’s no slam-dunk. People who rent expose themselves to potential inconvenience. People who own embrace risk – with the potential of return. So there’s your answer, Karly. And you expected clarity from a free blog?