Through using your home as a second source of revenue, you can make your Vancouver home ownership dreams feasible.
In this post, we will show and explain how you can afford a house in Vancouver by seeing your property as both a home and revenue generator.
With Vancouver being one of the most unaffordable places to live in the world, home ownership can seem like a mere pipe dream, leaving renting in Vancouver or buying in the suburbs as seemingly the only options.
However, this is not necessarily the case. For some qualified couples, one way you can attain your home ownership goals is by purchasing a property that allows you to earn rental revenue, which you can then use to put towards your mortgage payments.
Meet David and Sarah
Sarah, a teacher, makes $58,000 a year after tax, and David, a doctor, makes $128,000 after tax, for a combined total income of $186,000 after tax. They have two daughters, and are looking for a place to call their own to raise their young family.
Currently, they are renting a four bed, two bath basement suite in Mount Pleasant for $3,495 a month. They pay $180 in utilities, $225 in car insurance, $150 in gas for their hybrid car, and have average monthly living expenses of $4,350, which is the average amount for a four person family in Vancouver.
They have been saving for a few years, and have amassed $275,000 to use as a downpayment on a home for their young family. Wanting to take advantage of historically low interest rates, they feel now is the time to buy. Ideally, they want to live in Vancouver, as this is where their friends and family are; but, they feel like monthly mortgage payments on a Vancouver home would be infeasible.
Their Current Monthly Budget Resembles the Following:
Although Vancouver home ownership may seem out of reach, buying a property with a mortgage helper, like a basement suite, can allow David and Sarah to afford to buy a house in Vancouver.
How Would Renting Out Part of Their Property Make Home Ownership Affordable?
With the help of revenue from a rental unit, you are able to take the rental revenue each month and put it towards your mortgage payments. Also, by paying monthly mortgage payments instead of rent, you are investing in yourself and towards your own equity, whereas rent is essentially a sunk cost. You would have to pay rent regardless, so it makes sense to pay it to yourself rather than someone else.
With the help of their realtor at Icon&Co, they found this property that meets all their criteria for $1,375,000*:
- Three bedrooms, so their daughters can each have their own room
- Ready to move in
- In Mount Pleasant near their work, family, friends, and children’s school
- Large outdoor living and entertaining space
- Two-bedroom finished basement suite that is already tenanted at $1,950/month
*Note: This article was prepared in January 2021.
How Can David and Sarah, As First-Time Homebuyers, Afford a House in Vancouver?
First, they need to talk to their financial advisor for an understanding of how mortgages work, and what financing would look like if they were to buy a property.
By taking out a mortgage, the bank will give you the money needed to purchase your new property, in exchange for an agreement over the next however many years that you will pay them back for the money you borrowed each month, along with interest – the cost of borrowing the money.
In David and Sarah’s case, they need to pay $1,375,000 for this house. In Canada, on a property transaction worth $1,000,000 or more, there must be a minimum 20% down payment.
As such David and Sarah must pay $275,000 they have been saving upfront when buying their house.
With the help of their financial advisor, they decide on a 5 year fixed mortgage at 1.99%, with a 25 year amortization period to pay off the principal, i.e. what they owe the bank, which is the remaining $1,100,000. This will cost them $4,657 a month in mortgage payments.
What this means, is that for 5 years, David and Sarah will pay $4,657 a month, and then once those 5 years are up, they will renew their mortgage with a new interest rate. However, not all the $4,657 is going towards the principal, and in the beginning most of it goes to interest payments. But, as you pay more of the principal down, you will be paying less in interest and more to the principal. This is because interest is charged based on how much principal is remaining; for example, 10% of $100 is much less than 10% of $1,000.
David and Sarah can also pay directly towards the principal when they have money available.
They can either pay an additional sum each month that is equal to or less than their recurring monthly payments, or an annual contribution that is around 10% of the remaining loan value. These specifics however depend on the bank.
By directly paying off the principal with their extra cash flow, David and Sarah will reduce how much interest they will need to pay.
Within 25 years David and Sarah will have paid the bank back, be the sole owners of their home, and have an asset worth well over a million dollars in present value.
What if They Want To Move Within That 25 Years?
As they pay off their mortgage, David and Sarah will be building equity, and hopefully the value of their property will be appreciating as well. As such, when they sell their house they will have the total sum to pay the bank back and hopefully some profit that they can then put towards their next property.
But their mortgage payment of $4,657 is more than the $3,496 they pay in rent…
Yes, the mortgage payment is more expensive than their current rent, but with the rental unit bringing in an additional $1950 a month, that brings the amount coming out of David and Sarah’s pocket to $2,707 a month, less than they currently pay in rent.
However, with the responsibility of home ownership also comes additional costs that they would not have if they were renting.
We have created a budget for David and Sarah’s monthly expenses as homeowners:
Vancouver Home Ownership Costs:
Expenses and Taxes
Gross taxes were $5,400 in 2019, translating to $450 a month
Average annual homeowners insurance costs approximately $924 in B.C.. This is slightly higher than renters insurance which comes in at $588 annually, given the increased liability.
Utilities: Hydro, Natural Gas, and Internet
While some landlords include these fees in your rent, now as your own landlords and those of your new tenants, you are on the hook for all three.
Basic landscaping services cost approximately $1200 a year, to regularly come mow and ensure the health of your lawn and garden, translating to $100 a month.
Rainy Day Fund
The general consensus is that 1-4% of the property’s purchase price should be set aside each year for maintenance, depending on the age of the home. You don’t want to be caught completely off-guard if your plumbing fails, or you need a new roof. These costs can be unpredictable and quite pricey so it is best to be prepared. Also, if you want to resell your property later down the road for a profit, buyers will want to see that the home has been well maintained, adding value in the long run.
For David and Sarah, given that the home they want to purchase is older, we will set aside 2% of the purchase price each year, which translates to $2,292 a month. This money can be put into a high-interest savings account, so it is growing and not just sitting waiting to be used.
The Rainy Day Fund Can Help Pay Your Loan Faster
If at the end of the year the money has not been spent, or there is a significant amount remaining, David and Sarah can decide to put part of their rainy day fun towards the principal on their loan.
By doing so, they will be able to pay off their mortgage faster, plus they will be paying less interest as well; for the amount of interest is proportionate to the amount left of the principal.
Closing Costs (Property Transfer Tax and Sometimes GST)
When buying a home in British Columbia, you need to pay Property Transfer Tax (PTT) to officially seal the deal on your new home. If the home is a new build, then you also have to pay 5% GST on the sale price. However, that is not the case for David and Sarah, so they just have to pay PTT.
PTT is charged at a rate of 1% on the first $200,000 of the purchase price, then 2% on the remainder over $2 million for residential properties. For David and Sarah, that would equate to an additional $25,500 in taxes that they have to pay before the possession date.
Although homeownership is still considerably more expensive than renting, there are other factors, tangible and intangible, that contribute to real estate being worth it:
Real estate appreciates
With David and Sarah’s property, it was sold in 2015 for $925,000, and in just 5 years it appreciated to David and Sarah’s purchase price of $1,375,000 in 2020, leaving the sellers with a profit of $450,000.
While appreciation is not guaranteed, especially of that magnitude, using a skilled realtor can help mitigate the risk that you may lose money on your investment. But, the beauty of real estate is that if the market value drops below what you paid, it is likely that the market will bounce back and you can eventually make a profit; thus making real estate a reliable investment.
Also, if the value of your property rises above what you paid for it, you can take the equity you have accumulated, and purchase something of higher value, in turn climbing the real estate ladder.
As a principal residence, the capital gains are tax exempt
When you sell your property and the value has appreciated, you do not need to pay tax on your capital gains. With David and Sarah’s house, the sellers are pocketing capital gains of $450,000 – none of which they will have to pay taxes on.
You are building equity
Home equity is the current market value of your home minus what you still owe, as such as you pay down your loan and your property (hopefully) appreciates, your equity will grow.
That means that every month that you pay your mortgage payments you are increasing your net worth, whereas when you pay rent you will never see that money again.
Long Term Stability
Mortgage payments end, rent does not.
With a fixed mortgage, you have certainty for the length of your term what your monthly payments will be. Also, there is light at the end of the tunnel, for you know at the end of your amortization period that you will own where you live.
Home ownership gives you a sense of permanence and certainty as well, for when you move it is on your own terms, not the landlord.
The Bottom Line:
Everyone is different, so it is up to you to decide whether homeownership is for you. While it is not for everyone, there are proven long-term benefits to owning property.
If you are looking to become a homeowner, you can mitigate your risk by using a qualified realtor to help you find the property that is perfect for you and will act as a good investment in the long term.
Thanks to the help from David and Sarah’s realtor, they were able to find a property that ticked all their boxes, and are now establishing their family’s roots in their new home with the monthly help from their basement rental suite.
If you too are looking to become a homeowner in Vancouver, contact one of our agents at Icon Marketing at firstname.lastname@example.org.
We can help you make sure one of the biggest transactions of your life is the right one for you and your family.