We shouldn’t be making property investment decisions based on headlines.
Long before the stock market existed, before salt was considered as valuable as gold, and before humans first struck oil, the asset that was most sought after was land. Real estate investing has evolved, but today investors still seek out land as a way to diversify their assets, earn income, and increase their net worth.
These days, however, many are asking whether or not real estate is still a good investment. The question is timely given the recent governmental focus on the nation’s housing market.
Starting in 2016—when the Greater Toronto and Greater Vancouver market were thought to be in bubble-territory—governments began to introduce a series of taxes and mortgage rules. The aim was to slow down heated housing markets—and it worked. By 2018, the national average annual sales price dropped 3.9 percent to $488,668, according to the Canadian Real Estate Association’s data. During that same year, sales activity dropped by almost 11 percent.
But the biggest supporters of real estate, as an investment asset class, were unphased; investors like Jim Yih, an Edmonton-based pension and benefits expert and a personal finance blogger who runs the site RetireHappy. He admits he’s biased. His personal net worth grew significantly due to real estate investments.
“There are many ways to build wealth,” Yih says, “but not everyone is apt to do it through real estate. The question isn’t whether or not real estate is a good investment, but what is the best way to use real estate as an investment?”
Treat real estate investing as a business
For many, the first foray into real estate as an investment is through the purchase of a primary residence. The time and dedication required to research, investigate, and analyze this purchase helps people appreciate what is required to find a good investment property when they start to build their property portfolio—but they tend to focus on just two factors: purchase price and potential sale price. For seasoned investors like Yih, these are the wrong targets. “The key to successful real estate investing is positive cash flow—and that can work in any market,” says Yih.
While it can be harder to find a cash-flow positive property in higher-priced markets like Toronto or Vancouver, it’s not impossible, particularly if you have a strategy to increase your equity (such as making building improvements) or saving up for a larger down payment.
But the advantages of leverage and appreciation should not allow a person to ignore business fundamentals. “Gambling on a property’s future price is not the best way to invest in real estate,” says Yih. “It’s just speculation.” To be successful in real estate, an investor needs to treat it like a business.
“Concentrate on cash flow,” he says. “The income earned needs to cover all expenses, and there should still be extra left over each month.”
Manage the risks
Real estate investment offers passive income and a way to diversify your portfolio, but it’s not without risks. Here are strategies to mitigate the most significant risks an investor faces when investing in real estate:
Risk #1: Taking on additional debt
Most investors will require a mortgage to purchase rental real estate. This can alter your debt ratios which can impact whether or not you get the best mortgage or loan rates. To mitigate this risk, keep track of your credit score (you can review this on credit agency sites, such as Equifax or Transunion), pay all bills on time, and talk to an advisor before applying for new credit or renewing a current loan.
Risk #2: Spending on costly repairs and maintenance
As Yih mentioned, a rental property needs to be cash-flow positive. An investor needs to budget for a contingency fund (money used to pay for costly repairs and maintenance). If the anticipated monthly rent covers all monthly expenses, including a repair fund, then the property is cash-flow positive, which is fundamental for a good investment.
Risk #3: Dealing with bad tenants
It’s important to carefully screen tenants and create a detailed lease, preferably with the help of a real estate lawyer. Become familiar with local laws that apply to landlords and tenants. Also, consider adding insurance coverage to protect yourself from damage like vandalism.
You can potentially escape any long-term tenant headaches by establishing a short-term rental business; just be aware of how this will affect your mortgage and insurance. Lenders don’t like short-term rental income and won’t include this income in their mortgage qualification calculations, explains Ron Butler, owner of Ontario-based Butler Mortgage.
Finding adequate insurance can also be a problem, explains Kim Neilly, vice-president of corporate development at Surex, an online insurance brokerage based in Alberta. “Vacant rental units are about the hardest thing to insure,” says Neilly. Whether someone moves out mid-lease or the unit is left vacant due to a lack of bookings, a prolonged vacancy in your rental unit puts your insurance coverage at risk. “Generally, there is a 30-day grace period, but that varies by insurer,” says Neilly. Some providers will void your policy within 24 hours of a unit becoming vacant.
If you do decide to set-up an Airbnb-type rental business, talk to your insurance provider. “Many new and exciting changes have allowed more people to participate in programs like Airbnb and Vrbo without having to spend thousands on insurance,” explains Neilly. “Many companies have endorsements that allow a property owner to add extra coverage for as little as $200 per year.”
The key is to talk to mortgage and insurance professionals proactively so you know your options.
Risk #4: Getting hit with a lawsuit
Liability is a massive downside to real estate property investments. As the landlord, you are open to medical and legal suits should a person be injured on your property. The easiest way to mitigate this risk is to purchase adequate insurance.
Increased liability coverage—the portion of the insurance policy that covers medical and legal bills—is relatively cheap, given the potential damage a lawsuit can have on your personal finances. “A minimum of $2 million in liability coverage is highly recommended,” explains Neilly. “Lawsuits are creeping up over that $2-million mark on a more regular basis, and the cost difference between $1 million and $2 million in liability coverage is about $50 per year.”
Risk #5: Potentially losing your investment
Another risk is the potential to lose everything should a catastrophic event severely damage or destroy the property. A fire, overland flooding, hail, or even an earthquake are all possible disasters in Canada, and the result can be critical and expensive damage to the property.
Virtually all insurance policies will cover a catastrophic loss of a building, but as a real estate investor you must also consider the loss of income due to damage or destruction. A comprehensive rental policy will provide a landlord with income to replace lost rent at fair market value, explains Neilly.
Bottom line: Canadians can still confidently invest in real estate
Even with persistent headlines about an impending global recession, real estate is still a viable way to build and grow your investment portfolio. While 2018 numbers appeared bleak, by 2019 the climb out of negative growth forecasts was already taking place. According to CREA, the national sales activity was on target to increase by five percent in 2019 and forecasted to grow by 7.5 percent in 2020. The national sales price was also on track to climb with only a slight nudge up in 2019 (of 0.5 percent) and a return to historical norms of 2.1 percent price growth in 2020.
For investors, to key to making strategically smart decisions is to consider the underlying economic factors that impact your investment. As Douglas Porter, BMO chief economist, recently stated in a Bloomberg interview: bond yields are dropping, Canada boasts strong population growth, and government budgetary decisions are acting as stimulants for the national housing market, all of which point to a healthy future for Canada’s real estate market.
Article source: https://www.macleans.ca/sponsored/investing-in-real-estate-in-canada/
