Typically, the summer and winter months account for a slower paced real estate market distinct with a higher number of active listings and a fewer number of motivated buyers seeking to purchase real estate. This year; however, the real estate market has been on a tear over the past couple months. This summer we have experienced a pronounced jump in sales activity, fifteen consecutive months of year-over-year appreciation in the average price of resale properties, and a sales-to-new listings ratio that is encroaching on a market that favours sellers. While there has not been much relief for buyers overall, let alone first-time homebuyers, in terms of competition and inventory, slack has been given to prospective property owners by way of more favourable interest rates.
According to the Canadian Hombuyers Insights produced by the Canada Mortgage and Housing Commission (CMHC) in October 2018, the majority of first-time homebuyers in Canada are millennials. As delineated by Statistics Canada, a millennial is someone born between the years of 1981 and 1996 and this cohort now represents the largest generation in the nation. This generation; however, faces many headwinds impacting their buying power with a significant effect on millennials in some of Canada’s largest cities.
A 2019 report by Statistics Canada states that the median household income of millennials in Canada was $66,500 after taxes, as of 2016. With the same token, millennials carry a debt burden greater than their predecessors. The median debt held by millennials in 2016 stood at $35,000 with a debt-to-after-tax-income-ratio of 216 per cent. It has been found that approximately three quarters of millennials have some form of post-secondary education and nearly a quarter of the households within this cohort carried a student debt with a median value of $12,000.
Moreover, a closer look at the newly introduced first-time homebuyer shared equity incentive initiated by the CMHC shows that it may fall short of the mark for many first-time homebuyers, since those in Canada’s largest cities already face a significantly high price-to-income ratio and early analysis by TD Bank suggests that sales could be pushed up by two-to-five per cent through 2020 and further inflate the price of condominiums in the GTA and freehold properties in smaller communities outside of the GTA.
So, what is a first-time homebuyer in Toronto and the GTA to do? If you are not looking to take advantage of the federal government’s First Time Home Buyer Incentive program or your annual household income is greater or less than $120,000, you will likely need to increase the boundaries of your search or consider condominiums. Don't want to branch out? It is time to get creative with your approach to homeownership and consider the alternatives: (a) co-ownership, (b) co-operatives, (b) pre-construction, and (c) alternative lending.
Alternative Homeownership Structures
Many millennials will have family or friends in a similar predicament – unable to qualify for a mortgage or come up with a sizeable down payment to purchase a property due to high property values. A simple house hack to consider combining your resources with others in order to increase your purchasing power by mustering a larger down payment and better mortgage terms. This form is commonly experienced by way of a marriage, but need not be limited to this type of union. Whether you decide to own with family, a friend, or another like-minded investor, ownership would be placed either under joint tenancy or tenancy in common.
On the one hand, joint tenants represent a unity of interest, time, title, and possession. In other words, joint owners obtain have an equal undivided right to the entirety of the property and each owner may not sell or pass their interest without the consent of the other joint owners. This house hack is replete with benefits:
- Clear, Concise, and Simple. Your lawyer registers title to reflect this type of arrangement.
- Financial Security. Rather than paying down a landlord’s mortgage, joint tenancy makes more long-term financial sense. Home ownership is an investment that can provide financial security for both partners and even help fund you’re your future goals. As joint tenants, each person can leverage their equity in the home in case you need arises.
- Shared Asset. Equal ownership of assets can create a balance of power in the relationship.
- Shared Debt. Neither owner is saddled alone with the debt associated with the property and they each owner equally shares in the financial burden.
- Avoids Financial Hardship. If the relationship does not stand the test of time, neither party can simply walk away and leave the other solely responsible for the corresponding mortgage, since they are joint debtors and share that financial obligation equally.
In the future, you can collectively can sell the property and use the cash for the purchase of another property, buyout the other owner or owners, or take out an equity loan to finance a further down payment.
On the other hand, owners’ rights as tenants in common may be arranged in equal or unequal proportions. For instance, Tenant A and Tenant B may each own twenty per cent of the home, while Tenant C owns eighty per cent stake. Moreover, subject to the terms of the agreement owners have entered into, any owner may sell, gift, or bequeath their beneficial interest in the property to any person at any time. Because of this, tenancies in common, unlike joint tenancy, may arise at different times; therefore, an individual may obtain an interest in the property years after one or more other individuals that have entered into this type of ownership structure.
The primary distinction between joint tenancy and tenancy in common, is the right of survivorship associated with the former. When one joint tenant dies, title to the property automatically passes to the surviving owners.
Condos and Co-Operatives
Standard condominiums provide homeowners the same bundle of rights of freehold property owners. The Condominium Act, 1998, enables owners the rights of: possession, control, exclusion, disposition, and enjoyment. Individual owners receive their own deed along with a proportionate yet undivided interest in the common areas, such as the lobby and other building amenities, which may include, but not limited, to fitness facilities and lounge. The common areas are maintained by a property management company hired by the directors that sit on the board of the condominium corporation.
Conversely, co-operative ownership structures do not provide individual owners a deed for a separate and distinct unit or suite, rather you purchase shares in a corporation that owns and manages the building. Attributed to these shares is the right of possession to a specific unit called a leasehold interest and the ownership of the unit remains with the corporation. Akin to condos, co-ops are governed by its own incorporation documents, by-laws, and rules and regulations; however, shareholders are not offered the same statutory protections in the Condominium Act, 1998. For instance, co-ops are not required to have a reserve fund.
Condo owners pay their own property taxes and maintenance fees ascribed to them based on the size of their suite, their proportionate share of the building insurance, and the utilization of parking and locker. A portion of the maintenance fees from each unit are set aside as a reserve fund which is a form of “savings account or insurance policy for special expenditures that may come up in the future.” Individual unit owners are not liable for the inability of other owners to maintain their monthly mortgage commitment or share of maintenance fees.
Owners in a co-op also share greater expenses a such as property taxes and are liable for the unpaid expenses of other owners. Unlike condos owners share in the liabilities of the corporation; thus, other owners. Such expenses include property taxes and insurance. A further barrier to entry arising out of shared liabilities is that board approval is required when buying, selling, or mortgage their shares to entering a leasehold agreement with a tenant.
On the one hand, condos afford owners a deep pool of lenders when seeking mortgage financing. On the other hand, this divisible interest in ownership also enables lenders to foreclose and go power of sale in the event the mortgagor (or unit owner) defaults on their monthly commitment. The marketability of co-ops is encumbered as a result of there being less competition for these types of loans, since lenders face greater difficulty foreclosing on these types of ownership structures in the event an owner defaults on their mortgage because lenders may have to agree to be second in line, and, ultimately, there is shallow pool of buyers to sell to. Liquidity is also hindered because board approval is required to purchase in a co-op, the board of directors usually require a down payment larger than the conventional uninsured mortgage and sometimes being as high as thirty per cent.
In effect, co-ops will have a greater share of owner-occupied units and lower turnover rates than condos where marketability is much higher since owner-occupiers can purchase with a minimum down payment of five percent and a significant share of units are used for long-term leasing.
Co-Ops and older condo buildings presents an affordable alternative to newer condos and freehold properties. They are typically in established and mature neighbourhoods with units that have a larger footprint, as they exhibit larger principal rooms at a fraction of the cost of new condos. Due to the high cost per square foot to build, new condos are smaller and at a greater cost to the buyer, but typically offer more in terms of building amenities that older buildings.
Multi-family residential starts, units under construction, and completions continue to outpace single-family residential development. Multi-family residential development far exceeds the cumulative total of detached, semi-detached, and townhouse construction.
There are a few major benefits of new multi-family, or condo, buildings over older resale units. For instance, a creature of legislation, the Ontario government empowers Tarion to administer the Ontario New Home Warranty Plan Act, 1990, in order to ensure seven years of consumer protection on new homes. This warranty feature affords the homeowner peace of mind in purchasing new construction in the event that there are any deficiencies. A further benefit of new construction conferred to you is customization. Owners have the ability to select the finishes from the builder’s options to suit their taste. Upon initially signing a contract to purchase new condo construction, you are afforded a ten-day rescission, or cooling off period, which extends the ability to seek financing and have your lawyer approve the contract and condo documents or suggest any changes to the original contract. New condo construction is typically in close proximity to urban features and amenities like major transportation infrastructure and professional services, such as medical and financial; since developers can increase the density on a smaller footprint as compared to single-family development that requires larger swaths of land in order to fit similar numbers of families in a geographical area.
Lastly, pre-construction becomes an appealing option for those who can not wait years to save for a down payment with the stark rise in property values over the past twenty years. Pre-construction typically requires a minimum down payment of twenty per cent of the purchase price; however, new developments feature a tiered down payment structure which equips you with greater time to save money for your down payment. For example, a five per cent deposit at the time of signing, with several additional payments at set time intervals afterwards. This option allows for an individual to enter the market without the need to set aside a complete down payment.
While new condo developments have become more about creating a well-integrated community, it does now come without its own set of barriers to entry. As outlined above, even owner-occupied units usually require a minimum down payment of twenty per cent, homeowners of new construction must consider additional closing costs, such as occupancy fees and the possibility of Harmonized Sales Tax (HST). The builder may or may not choose to include HST in the purchase price. If the HST is not included in the purchase price and the onus is on you as the buyer, whether you are an end-user or an investor-landlord, you can apply for an HST rebate from the federal government. Lastly, in multi-residential developments, owners are required to pay interim occupancy fees. Occupancy fees are paid to the builder for the period of time between the date you take possession of the unit and the date that ownership is registered for all unit owners and individual mortgages commence.
There is a correlation between the experience level of a developer and the length of interim occupancy. Typically, more experienced builders, like Tridel, have shorter occupancy periods than lesser experienced builders. While there is no way to absolutely know how long an occupancy period will be for each development, experienced developers can complete the transition in fewer than three months; whereas, the time to completely for inexperienced builders can sometimes exceed one year. Occupancy fee calculation may include the following:
- Interest calculated on a monthly basis on the unpaid balance of the purchase price at a prescribed rate;
- A reasonably estimate amount for municipal property taxes on a monthly basis attributable to the unit; and
- The projected monthly contribution of common expenses for the unit.
It is important to note that while the developer notifies you to obtain a firm mortgage commitment from a lender three to four months out from closing, no part of the payments during the interim occupancy period counts toward your mortgage.
Lenders can be categorized as ‘A’ lenders which includes federally regulated chartered banks like, CIBC, RBC, Scotiabank, National Bank, and TD; credit unions; monoline mortgage lenders which typically do not have brick and mortar locations, provide only one product, and have a lower prepayment penalty than the previous two types of lenders; to ‘B’ lenders, such as B2B Bank, XMC Mortgage Corporation, Equitable Bank, Home Trust Company, Lendwise NPX, to name a few.
For those of you unable to receive approval for a mortgage due to more strenuous lending requirements or not approved for a loan large enough to purchase the product you want, alternative or private lenders remain an option.
Unlike traditional lenders like the big five banks here in Canada, alternative or private lenders are not subject to the same rigorous lending rules set forth by the federal government. For instance, federally regulated lenders are required to administer the stress test. The stress test is required for both insured and uninsured conventional mortgages. If you are seeking a new first mortgage from a federally regulated lender or switching to another federally regulated lender, you will be tested at two hundred basis points (or two per cent) higher than the mortgage qualifying rate.
Alternative lenders may include trust companies and mortgage investment corporations. In 2018, alternative lenders made up nearly twelve per cent of transactions in Ontario and approximately fifteen per cent in the Greater Toronto Area. That is an increase of two per cent rise since the federal government activated stress test for traditional lenders.
Since private lenders do not take deposits from consumers they are not subject to the stricter rules governing how banks and credit unions can lend money. As a result, private lenders have more relaxed guidelines and able to make riskier loans, but this comes at a cost to the consumer. Mortgage commitments from a private lender have higher interest rates and lenders are quicker to foreclose than a federally regulated lender. Loans from alternative lenders typically have terms between six months and two years. In 2018, private lenders offered interest rates between 7.3 and 11 per cent, with an average of 8.99 per cent. Banks, by contrast, offered 3.3 per cent to 5.4 per cent rates on mortgage loans with terms that generally last several years to even as low as 2.39 per cent in today’s competitive market.
Alternative or private lending schemes are beneficial for the right consumer. For instance, self-employed individuals face tougher scrutiny at federally regulated lenders; whereas, alternative and private lenders have greater flexibility in terms of financing the purchase of real estate. Moreover, alternative and private lenders work well for scenarios that require a solution for short-term problems are evident or for those that seek to acquire, renovate, or cash out equity of an income producing property in the near term and even real estate investors who need immediate financing without the demanding financial documentation required by traditional institutional financiers.
When purchasing a resale property, you may consider additional financing from the seller in the form of a vendor-take-back mortgage (VTB). The seller typically sits second in line and enables you to purchase with even less money down.
Lastly, if you may elect to go with a rent-to-own scheme. Rent to own programs afford you the time you need to overcome obstacles currently preventing you from qualifying for a mortgage today. Whether you need to improve your credit, save a larger down payment, or require a longer history of income, this alternative is quite flexible and can help you address any of these problems.
So, whether done through trust companies, mortgage investment corporations or directly through the property owner in terms of rent-to-own or a VTB, your monthly costs will likely be higher, but your buying power will increase, since you can be approved for a higher total mortgage than those offered by traditional lenders.