Mortgage Option

[JoefromTO]

QUOTE (Millions @ Oct 17 2009, 01:04 AM) haha, yes lots to think about...I always loved the notion of investing and learning all about it but maybe its just the market but its got me thinking a little differently lately. I bought a couple properties in 2007 and 2008. I put a total of 75K down all together plus on going costs, and with the market down, all of that is gone. Until it comes back, but that takes time and effort.

Had I gone with a savings account, I would be better off and still have the 75K and my sanity haha JK

It seems every 10 years or so there is a recession, so maybe best to time them? I dont know..

Just some things to ponder as now I need to work twice as hard just to get the money I had back..

Lessons learned......thankful I have this site to help, thats forsure!


I wanted to just make a general comment here. Everything you said suggests "short term" thinking. We have all put money down on property and have seen values drop. It will come back up, in time. The reality is, as interest rates climb, it will definitely affect the market values, possibly suppressing them further. As the market absorbs the new rates, and people stop panicking, the market will restabilize. Values will climb, but at a slower rate. Some external factors other than interest rates will help, but these external factors have more of an affect on a "top ten town", than random areas. In time, you will see the value of your property come back to what you paid, unless you over paid.

But here`s the thing... IF you bought a cashflowing property in a good location at a decent/fair price...AND you have a long term vision, then selling shouldn`t be a concern. You will continue to own and carry the property for a number of years, and the rent will/should carry it plus provide some additional income. So you shouldn`t be concerned about selling... therefore you have nothing to worry about.

If you overpaid and selling would materialize a true loss, then you need to consider a few things. The mortgage term will end at some point. If its 4-5 years away... that`s not bad. If its less than 2... and the current value is less or close to what you owe, you may run into an issue with the bank when the time comes to renew/refinance. If what you owe is more than what the bank says its worth, you will have to cough up the difference. This could pose a significant problem.

Many people put the least amount down (for example 5% or less), and use CMHC, which increases the amount you owe cause its added to your debt, and take long amortization periods (like 40 years), so that the property still provides a small but positive cashflow (say $100.00 per month). The problem is, after the 5 year term is over(provided thats what you chose), you will still have allot of debt, especially if you didn`t accelerate the payments. If the interest rates are up 1% or more, the values have dropped, you will have a hell of a time qualifying for the mortgage you had for the past 5 years...you could lose the property.

That`s why I don`t believe in putting as little as possible down and taking really long amortizations. You COULD take a long amortization, but just realize that the amount of debt paid off will be very little over 5 years.

No matter what, you will have to pay back the money to the bank. If you stay in control of the potential future costs, you will ok.

Something to think about. I chose to be more conservative... but that`s me. To each their own.

 

[gwasser]

QUOTE (JoefromTO @ Oct 17 2009, 09:04 AM) .

That`s why I don`t believe in putting as little as possible down and taking really long amortizations. You COULD take a long amortization, but just realize that the amount of debt paid off will be very little over 5 years.

No matter what, you will have to pay back the money to the bank. If you stay in control of the potential future costs, you will ok.

Something to think about. I chose to be more conservative... but that`s me. To each their own.


Joe, I could not have said it better.

A supplementary comment:
Real estate is not safer than the stock market. A real estate investment is as safe as you make it.
Both real estate and stock markets experience price fluctuations over the short term. This is called volatility. When prices fall over the short term people panic and sell at a loss; hence volatility is often confused with risk.

Over the long term stock markets return (including dividends) approx. 11% per year and real estate (including net income) around 9%. But real estate is a lot less volatile than the stock market and thus you can augment your profits by using leverage while that would be too risky in the stock market. Leverage is adding real risk to both investment types because when you borrow money your bank is becoming your JV partner and partners are known to panic and may want to get out at the worst possible moment even when you don`t want to sell.

So if you have a lot of leverage on your real estate investments a small price drop may cause an infinite percentage of losses (especially with zero or little down). So the higher your leverage the more volatile your real estate investment (even more volatile than the stock market) and the higher the risk that your banker or partner or you call it quits and force a sale at loss.

Hope this clarifies the risk you`re taking

 

[Millions]

QUOTE (gwasser @ Oct 17 2009, 10:52 AM) Joe, I could not have said it better.

A supplementary comment:
Real estate is not safer than the stock market. A real estate investment is as safe as you make it.
Both real estate and stock markets experience price fluctuations over the short term. This is called volatility. When prices fall over the short term people panic and sell at a loss; hence volatility is often confused with risk.

Over the long term stock markets return (including dividends) approx. 11% per year and real estate (including net income) around 9%. But real estate is a lot less volatile than the stock market and thus you can augment your profits by using leverage while that would be too risky in the stock market. Leverage is adding real risk to both investment types because when you borrow money your bank is becoming your JV partner and partners are known to panic and may want to get out at the worst possible moment even when you don`t want to sell.

So if you have a lot of leverage on your real estate investments a small price drop may cause an infinite percentage of losses (especially with zero or little down). So the higher your leverage the more volatile your real estate investment (even more volatile than the stock market) and the higher the risk that your banker or partner or you call it quits and force a sale at loss.

Hope this clarifies the risk you`re taking


I always thought at the end of 5 years, when it comes time to renew, you just select a new rate and continue on...Do you actually have to re-qualify?

Matt

 

[JoefromTO]

QUOTE (Millions @ Oct 18 2009, 03:39 AM) I always thought at the end of 5 years, when it comes time to renew, you just select a new rate and continue on...Do you actually have to re-qualify?

Matt

If the market is in a recession and the value of the property is less than the mortgage amount, the bank can and probably will except you to make up the difference.


So here`s an example of what could happen.

You find and buy a property (today) worth $400,000.00 with 5% down($20,000.00). So you have a balance of $380,000.00. You will have to qualify for CMHC( that could be around $10k, someone correct me if I`m wrong here). Assuming you do, that fee is added to the total debt. Based on the income and expenses on the property, you decide that you will need to get a 35 or 40 year mortgage (if its available at the time) and you decide you will also need a variable interest rate (2.25% currently from some lenders) and you get a 5 year term.

You did all this just so you can net a bit of cashflow per month, lets say its $50.00 or worse, to break even!

If you do the math, after 5 years, you will still have roughly $350,000.00 principle remaining.

If there is a recession, and the value of the property drops to below that amount...the bank will expect you to make up that difference.

Put more money down and/or accelerate the payments, regardless of what others suggest...again this is my opinion here, but some people like risking everything...cause thats what is equates to.

How would you feel if YOU were the JV partner and you had lent out $ to an investor who needs more money just to requalify?

Yes it can happen.

So all the calculations that people may post about the ROI if you put no money down...numbers like 1000% or more...seriously...I don`t beleive that for a second. If you put no money down and you neted $2,000.00 per year, your making 2,000 % ROI....really?

Personally, I`m happy with getting some cashflow, not having to worry that the values will drop and having to pay the difference, paying down debt over time, watching the property appreciate of time(years)...thats how it should be done...but again, that`s my opinion and to each their own.

Sorry if I seem extreme with words, its only because Iv`e seen some people make the +1000 ROI comments. To me, that sends the wrong type of message to new investors. It`s kinda R. Kiyosaki`ish.

I expect some people to contradict me...

 

[invst4profit]

QUOTE (Joe from TO @ Oct 17 2009, 11:04 AM) I wanted to just make a general comment here. Everything you said suggests "short term" thinking. We have all put money down on property and have seen values drop. It will come back up, in time. The reality is, as interest rates climb, it will definitely affect the market values, possibly suppressing them further. As the market absorbs the new rates, and people stop panicking, the market will stabilize. Values will climb, but at a slower rate. Some external factors other than interest rates will help, but these external factors have more of an affect on a "top ten town", than random areas. In time, you will see the value of your property come back to what you paid, unless you over paid.

But here`s the thing... IF you bought a cashflow property in a good location at a decent/fair price...AND you have a long term vision, then selling shouldn`t be a concern. You will continue to own and carry the property for a number of years, and the rent will/should carry it plus provide some additional income. So you shouldn`t be concerned about selling... therefore you have nothing to worry about.

If you overpaid and selling would materialize a true loss, then you need to consider a few things. The mortgage term will end at some point. If its 4-5 years away... that`s not bad. If its less than 2... and the current value is less or close to what you owe, you may run into an issue with the bank when the time comes to renew/refinance. If what you owe is more than what the bank says its worth, you will have to cough up the difference. This could pose a significant problem.

Many people put the least amount down (for example 5% or less), and use CMHC, which increases the amount you owe cause its added to your debt, and take long amortization periods (like 40 years), so that the property still provides a small but positive cashflow (say $100.00 per month). The problem is, after the 5 year term is over(provided thats what you chose), you will still have allot of debt, especially if you didn`t accelerate the payments. If the interest rates are up 1% or more, the values have dropped, you will have a hell of a time qualifying for the mortgage you had for the past 5 years...you could lose the property.

That`s why I don`t believe in putting as little as possible down and taking really long amortizations. You COULD take a long amortization, but just realize that the amount of debt paid off will be very little over 5 years.

No matter what, you will have to pay back the money to the bank. If you stay in control of the potential future costs, you will of.

Something to think about. I chose to be more conservative... but that`s me. To each their own.


What we are really talking about here is risk tolerance. A experienced investor knows what a good property investment is and can then risk having a very high or 100% leveraged property with little fear of the future. The protection is built into the cash flow.
It boils down to risk tolerance, Again the higher the risk the greater the potential reward.
Paying down a mortgage is a conservative approach to investing that a experienced investor need not do. Money makes money, the rich get richer etc. Paying down a mortgage is little more than saving money which in my opinion is not money earning it`s keep.
In addition if your plan is to pay down a mortgage so as to draw it out in the future it sits stagnant during that time and might as well be working rather that waiting to be invested at some future date. What is is waiting for? Why wait? You are waiting because you are a conservative investor. There is nothing wrong with that if you need it to sleep better at night.
My approach when I started was somewhat different. I began with the attitude that if I was going to make money investing I was prepared to lose it all to get ahead. I`ll put my wealth in GICs when I start to lose my nerve.

The difference to me is educated investing verses conservative saving.

 

[gwasser]

QUOTE (Millions @ Oct 18 2009, 02:39 AM) I always thought at the end of 5 years, when it comes time to renew, you just select a new rate and continue on...Do you actually have to re-qualify?

Matt


I am pretty sure you normally do not have to requalify upon renewal - at least that was never brought up when I renewed mortgages.

From what I understand at the end of the term, an investor has the choice to renew , to refinance, or to switch to another lender or pay off the entire mortgage and live happily afterwards. However, the bank also has the right to call the mortgage, set different rates or ask for partial repayment when e.g. the property has significantly falling in value.

Hoewever, you don`t see many banks call a mortgage or demand partial repayment. Most are happy when the mortgage is not in arrears because they have, especially in bad markets, bigger fish to fry. I am not sure of all the in-and-outs of mortgage renewals for that you have to ask a mortgage broker (many are here at the REIN forum).

 

[Thomas Beyer]

QUOTE (Millions @ Oct 18 2009, 01:39 AM) I always thought at the end of 5 years, when it comes time to renew, you just select a new rate and continue on...Do you actually have to re-qualify?
you usually have to re-qualify to get a good rate .. as otherwise the bank will use their "rack rate" which is 1.25 to 1.5% higher for a 5 year fixed term !!

The banks usually automatically renew you on this new, higher rate .. but they can demand their money back as all you have is a 5 year term

 

[Greatful]

Great thread!

 

[jkcomm]

Can`t agree more! It is a great thread and I have it several times with interest.

Thomas & Godfried - Thanks for all the info!

On the re-qualify issue, let`s say at some point in the distant future when my wife and I are retired and have 15-20 properties (all with a mortgage attached of course)... would the banks give us the cold shoulder due to the absence of employment income? If this is the case, then is it worthwhile to sell one property a year at that point to gradually reduce all mortgages outstanding?

I welcome all creative (or practical for that matter) suggestions!

James

 

[gwasser]

QUOTE (jkcomm @ Oct 19 2009, 02:49 PM) Can`t agree more! It is a great thread and I have it several times with interest.

Thomas & Godfried - Thanks for all the info!

On the re-qualify issue, let`s say at some point in the distant future when my wife and I are retired and have 15-20 properties (all with a mortgage attached of course)... would the banks give us the cold shoulder due to the absence of employment income? If this is the case, then is it worthwhile to sell one property a year at that point to gradually reduce all mortgages outstanding?

I welcome all creative (or practical for that matter) suggestions!

James

Of course I do have an opinion but I am not sure whether it is correct.
My understanding is that when independant or retired you still have your pension income and investment income and of course your rental income. The bank probably treats these the same as when you are self employed and so they want to know how stable/predictable your income is and how much you make. This is usually done through submitting your tax returns and/or your corporate financial statements (prepared by your accountant) for the last three years.

Then you can qualify on mortgages that way. Banks seem more concerned with your income than your networth. The problem with this approach is that, as is the case for myself, my tax return does not disclose all income. For example it does not disclose my RRSP income, neither does it disclose my rental income which is reduced to the max using CCA. Neither does it properly reflect capital gains because in one year near the top of the market I may cash in a lot of profits and the next year during a crash I don`t. Etc., etc.

Another problem I have with this approach is that I do not wish to disclose all my holdings just to get a $5000 loan. It is just not worth the trouble nor do I feel comfortable to show all I am doing to a young twenty-three old who just happen to be the `loans officer` at the local branch or a mortgage broker whom I never met before.

Finally, although leverage means increased ROIs it also means a lot of volatility and you may not be able to sit out that volatility;then it becomes outright risk (because you may be forced to sell at a loss). As such, I do not consider high leverage appropriate when one retires. That is the same as in the stock market where asset management theorie suggests you increase your fixed income and reduce exposure to stocks because fixed income is more predictable and may not force you into an unattractive sale so you can pay groceries next month.

Overall I do not agree witht the banks methods of qualifying self-employed income, however I think their rules are the rules and somehow you have to comply or find other sources of financing such as JV funding or private lenders. Finally, finally, if you keep your leverage conservative then your retirement income maybe sufficient to qualify with the banks unless you feel your privacy is worth more than the opportunity to borrow.

Hope this helps.

 

[Thomas Beyer]

QUOTE (jkcomm @ Oct 19 2009, 01:49 PM) Can`t agree more! It is a great thread and I have it several times with interest.

Thomas & Godfried - Thanks for all the info!

On the re-qualify issue, let`s say at some point in the distant future when my wife and I are retired and have 15-20 properties (all with a mortgage attached of course)... would the banks give us the cold shoulder due to the absence of employment income? If this is the case, then is it worthwhile to sell one property a year at that point to gradually reduce all mortgages outstanding?

I welcome all creative (or practical for that matter) suggestions!

James

they could .. and they might .. likely they will AT LEAST offer the rack rate ..

BUT: in many cases the properties carry themselves from rental income so with a good mortgage broker you should be able to get excellent rates ..