Home prices in Toronto are falling. Is it time to invest?

Brayden Hooper has ambitious plans to grow his real estate investments over the next five years.

The Toronto mortgage broker bought its first investment property, a three-bedroom, three-bathroom condo in Cambridge, Ontario, in October 2021 for $489,900, with a 20% down payment. By renting it out for $3,000 a month, Hooper is able to make a monthly profit of $300 in what’s called a cash flow positive transaction, meaning the investor isn’t bleeding money. silver.

He hopes to buy four more long-term and short-term rentals, including diving into Airbnb and a mixed-use commercial property (a store on the first floor and an apartment on the second).

Now the biggest question for Hooper remains: when is the best time to buy his second investment property?

“We’re still waiting for the spring of 2023 for prices to come down even more,” Hooper said. “We have another rate hike from the Bank of Canada in December, which will continue to put downward pressure on house prices.” (Economists predict house prices could fall by 30% from the February 2022 peak to spring 2023.)

But if a good deal comes along, Hooper is ready to buy property sooner. As a mortgage broker, he is constantly on the lookout for deals, which is his biggest tip to clients.

“Whether we’re in a busy or slow market, if you’re not constantly looking for deals, you might miss something,” he said. “It’s good general practice if you want to be a good investor.”

It’s an investing adage that the time to invest is usually when the market is down because it’s easier to enter the market when the asset is cheaper to buy. Since peaking in February 2022, home prices have fallen more than 15% in Toronto. However, mortgage rates have also tripled over the same period, meaning higher rates are offsetting lower house prices.

But higher rates don’t last forever, said Ralph Fox, registrar (director of a brokerage) and founder of Fox Marin Associates.

“We have higher interest rates to help offset soaring inflation and we know that will cause the economy to slow down,” Fox said. “When that happens, interest rates will also go down because it’s not sustainable.”

It’s unclear when mortgage rates will drop, but when they do it will be a good time to invest, property experts say. Or, if house prices fall another 10-15% by spring, costs could be low enough to lessen the impact of higher rates.

According to Fox, what makes the market attractive now is that buyers face less competition, with sales activity having fallen 49% in October 2022 compared to October 2021. It is becoming less and less of a sellers’ market – when there is high demand and inadequate supply – and become a more balanced market for buyers, as there is currently less demand, Fox said.

“Buyers don’t have to compete as much as the market frenzy of January and February 2022 did,” he said, adding that buyers can place more conditions on their offer, such as a home inspection, and may have more time to negotiate with the seller.

An investment property should be purchased with the intention of renting it out, not flipping it, said Tom Storey, sales representative and team leader at Royal LePage Signature Realty in Toronto.

When prices drop, it is not a good idea to flip a property as it may fetch less money on resale. But if it’s a rental and is seen as a long-term investment — that means owning the property for at least five years, but ideally 10 — then it will be a worthwhile investment, Storey said. .

Currently, the average rent in Toronto is $3,360 for a two-bedroom apartment, which is up 27.7% year-over-year. And it doesn’t look like the rent will be dropping anytime soon, experts say. Soaring rents can help investors cover higher mortgage payments, Storey added.

However, although rent is rising dramatically in Toronto, that still won’t be enough to make an investor’s cash flow positive – at best they can be cash flow neutral, meaning they don’t no profit from the property at the end of each month, he said. That’s because higher mortgage rates make it difficult to charge a rent that will cover the monthly mortgage cost in addition to making a profit — the rent would be too high and above market value.

If the rent is too high, potential tenants will look for landlords who charge less and risk taking a financial hit.

“In Toronto, it’s a market where you’ll see more property appreciation over time, so it should be a long-term investment,” Storey said. “You typically lose money every month, but your goal is to build substantial capital over the long term.”

Ron Butler, mortgage broker with Butler Mortgages, warns that even being cash flow neutral is dangerous. Investors should carefully consider the economics of renting before buying.

This includes: the monthly mortgage payment; the property tax and the annual rate of increase that the municipality imposes on the tax; about one percent of the property’s value should be set aside for repairs (if the home is valued at $1 million, you should set aside at least $10,000 for repairs); and 30 days of vacation should be set aside in case the renter leaves, Butler said.

Buyers should also assess their capitalization rate, which is the cash yield you get from the property after taking into account all expenses but before mortgage payments. It is calculated as the ratio between the annual rental income and its current market value. The rate must be higher than the interest paid on the mortgage, otherwise the money will not be earned.

About 10 years ago, the target cap rate would have been 6 to 7 percent, Butler said. But now southern Ontario has strayed so far from capping rates that it’s about 3%, he added. During the pandemic, when interest rates were as low as 1.5%, it was possible to make a profit. But now, with interest rates close to 6%, it is difficult to obtain a capitalization rate higher than the interest rate in urban centers.

To be cash flow positive, Hooper said buying property outside of Toronto is a safe bet. That’s why he bought property in Cambridge and is looking for places like Ajax or Oshawa where real estate prices are cheaper.

It’s a trade-off, as homes farther from Toronto don’t appreciate as much, but it means you can make a monthly profit, he said.

“You have to analyze the numbers and see if your cash flow is positive. If the answer is no, you must be wondering, can I afford to lose this money? Hooper said.

That’s why Hooper has insisted it’s willing to buy outside of Toronto and look at growing communities that have the potential to increase in value over time.

“I really encourage investors to look elsewhere because places like Cambridge have lower land transfer taxes and ‘cheaper’ prices,” Hooper said. “You can have better cash flow and sell it later for a higher price than you bought it for.”

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