Real Estate

Getting Started With Investment Real Estate – Part 8

To start at the beginning – please see part 1 of this series.

As detailed in the previous posts of this series, I bought a condo in late 2006, fixed it up (new floors, new electrical sockets and a heavy paint job) and found tenants. All the gurus and real estate TV shows use funny math to show how “you can’t lose at real estate”, so here I’d like to lay out, as close to the penny as possible, what my investment has looked like over the last 6 months.

In retrospect I wish I’d kept a journal of how much time I spent, as that’s obviously a consideration. I’d give a rough estimate that I’ve put 40-80 hours of work into finding the condo, supervising the contractors, showing it to tenants and doing repairs. This is a VERY rough guess. The hours weren’t in discrete blocks (1.5 hours here, 3 hours there), so don’t consider it work “equivalent to a work week or two”.

I purchased the condo for $126,000. I made a down-payment of $34,160.57 which includes a 25% down-payment, and closing costs, which were $2,308.19 (legal fees mostly). $34,160.57 is more then 25% down plus the legal fees, which I’m not 100% where the extra $352.38 went (maybe mortgage fees, I’m not 100% sure right now – I know I got a small check back from the lawyer, the SOB made me pre-pay his fees, but it was certainly less than $352.38). Renovations (including labour, materials, condo fees during rehab and mortgage interest) were $10,551.41. As percentages, closing costs were 1.66% of the total purchase, and rehab costs were 7.6%. Ignoring the cost of selling (5% agent commission plus legal fees), my break even sale price would have been $138,859.60. Given that comparable units have been ASKING for $155-165K over the last few months (the rule of thumb supposedly is that condos in Toronto sell for 96% of asking), I’m quite pleased with the cost of purchasing/fixing this unit.

In case you’re wondering how I got such a deal, the place looked REALLY bad when I first saw it. There wasn’t any floor (bare concrete), the walls were an electric blue colour, and had gashes in them. The seller took the perspective “why put more money into something I’m trying to sell”. While I understand that perspective, the condo had sat on the market for over 6 months (and he’d moved, so he was losing $500 / month in condo fees), and everyone who looked at it just viewed it as buying a problem they’d have to fix. He had to drop the price far more then repairs would have cost in order to sell it to me, and he shelled out quite a bit of money over the time period when it wasn’t selling. I’m not a “flipper” at all (I’ll probably post more about this in the future, but I basically think its a suckers game where people convince themselves they’re making more then they actually are), but if you can accurately estimate the cost of repairs (not as easy as it sounds unfortunately), there are certainly deals to be had on run-down properties.

I saw another condo recently that was in even WORSE shape, and I put in a low offer, hoping to pick up another “fixer-upper”. The seller kept insisting on wanting market value for the unit (even though it would have cost $15K to get it into “market value” condition), so I obviously walked away from that deal. So the other factor to keep in mind is that not all run down properties are a good deal. You’re a sucker if you pay market price for a property that needs extensive work. You’re a sucker if you pay market rate – cost of repairs for a property that needs work (you’re accepting the risk of repairs being more expensive then expected and doing the supervision of the repair work without compensation).

I tried to rent it at higher amounts, but in the end rented it for $1300 / month. My condo fees, insurance, mortgage INTEREST and property taxes come out to $1,042.87 / month, so I have a positive cash flow of $257.13.

When I calculated JUST the down-payment and reno costs, I came up with a cost of $43,811.68 over the first 6 months. Using the $257.13 monthly profit (which already accounts for the mortgage interest, condo fees and other ongoing expenses), this gives me a ROI of 3.51%, which would work out as an annualized ROI of 7.03%. This assumes I was making the $257.13 since purchase, which I obviously wasn’t, and also assumes there will never be any unexpected costs in the future (which is equally absurd).

This may not seem so great, but firstly this was a learning project for me (so part of the costs/benefit is my “tuition”). Secondly, this ROI is JUST based on the monthly cash flow, if I bought at a bargain price (which I believe that I did), I should also get a satisfactory return on the sale price. Thirdly, if real estate appreciates, this will increase the difference between my purchase price and the sale price. Fourthly, there will be positive tax implications (I can depreciate the property in order to defer taxation). Fifthly, inflation should increase rent, which will increase the monthly cash flow (and decrease the cost of my mortgage). And finally, as my mortgage gets paid down, less of each payment goes to interest (which also increases the monthly cash flow).

In case you read the previous paragraph and are planning to run out and buy all the real estate you can find, the risks in this investment include: future vacancies, difficult tenants (damaging the unit or making demands which will cost lots of time/money), legal liability for any problems resulting from the property, a real estate market crash, and high interest rates when my mortgage comes up for renewal (in 4.5 years).

With my current cost of living estimate, I believe that I could cover my living expenses with 4 more similar properties. If it was possible to get a better deal, or to get a similar deal with less cash invested, I might be able to do it with less. Therefore I am potentially $175,246.72 (4 x $43,811.68) away from retirement.

This concludes the “Getting started with investment real estate series” – feel free to check out the real estate archives for more article on real estate.

Real Estate

Price-Rent Ratio

A valuable number in real estate investing is the price to rent ratio, which is simply the purchase price dividend by the rent received. For example, the condo I purchased for $126,000 and rent for $1,300 / month would have a Price-Rent Ratio of 96.9 (monthly) or 8.08 (annualized).

The annualized ratio is comparable to the P/E of a stock (for which 8.08 is considered quite good!).

The only real problem with this approach is that you can’t really look up ratios for different areas easily. For example, what’s the average Price-Rent Ratio for Toronto? I have no idea! I’d love to know if Kingston or Waterloo have a better Price-Rent Ratio, but that’s not something I can easily look-up, unfortunately.

If you COULD determine this Canada-wide, a community with a very low Price-Rent Ratio, a decent population size and a low vacancy rate (say under 5%) would be an EXCELLENT place to purchase / build rental properties (the other info can be easily determined).

People sometimes talk about properties being cash-flow property from day 1 with 0% down, and I can’t imagine that very many deals like this are possible! As I’m writing this, I did some calculations. Given the fact that my property is $250 cash-flow positive. At the interest rate I’m paying (5.05%), the property could afforded an additional $250 / month in interest, which means I could have afforded to borrow another $59,405.94 (250*12/5.05%). Since I’ve put less than this into the property, if I could somehow have gotten the interest rate I got with 0% down (say with a VTB or something), I could have had this property cash-flow positive with nothing down, so I guess it IS possible.


EDIT: FinancialJungle wisely pointed out that the ratio I’ve calculated is more like the Price:Sales ratio then the price to earnings.

Real Estate

Next Property, Using a Mortgage Broker This Time

People joke that real estate investing is like a drug, once you start you want more and more. Its somewhat true (and can be a good comparison, as you can ruin your life going crazy on drugs or real estate investing).

My original idea is that I’d follow my buddy’s example and try to get 1 property per year. Since I closed on my first property last December, I still have 7 more months, but I’ve definitely been keeping my eyes open.

I always worry about getting approved for mortgages / lines-of-credit because I’m not a salaried employee. The banks can be difficult if you don’t fit into their cookie-cutter process (basically my income was super low the last few years as I was at school then trying, and failing, to start a business). I’m earning good income now, but its contract work.

Finally I figured it’d make sense to check in with a mortgage broker (like people are always suggesting) and see if they’re better then the bureaucrats I’ve dealt with at the banks so far. Wow, what a difference!

Once I told her my stellar credit rating and that I had claimed business expense over the past few years, all the problems went away. I’ve been approved for pretty well any property I might want to buy (I’m not going to go nuts and get a mansion) from 5-20% down, with rates comparable to what regular people get. Nice!

It always amazes me when organizations throw money away because they’re unable to smooth out their own inefficiencies. Basically they’re paying mortgage brokers big bucks to help them accept clients that they would have rejected if approached directly. Too weird! I had the same experience trying to get insurance, ING Direct wouldn’t insure me, and then I got insurance through a broker, and it was (yup!) ING Direct!

If you’re at all unusual and have had trouble getting a reasonable deal from the banks, I’d definitely talk to a mortgage broker! Just make sure you’re getting a rate that’s a good discount compared to those posted at the big-banks (unless you have crappy credit or no down payment).

Real Estate

Getting Started With Investment Real Estate – Part 7

To start at the beginning – please see part 1 of this series.

So I had a 1st and last month’s deposit from my screened tenants, a signed lease and was happy to have the condo go from costing money to making money. Shortly after they moved in I got a call from the tenants saying that the washing machine was leaking water. I went and had a look, and quickly determined that the problem was the plumbing behind the machine rather then the machine itself.

I hit it with a couple of types of liquid plumber, and played around with an auger, but couldn’t get it flowing fast enough to let the washing machine drain. I contacted the condo corporation, and luckily enough they said this was their responsibility. The superintendent hit the drain with his auger and that seemed to get it working (he’s clearly better with his auger then I am with mine).

Next day the tenants call me and say the dryer isn’t working. It tumbles and heats up but the clothes don’t dry. They assure me that one of their fathers is a mechanic and that I need to replace the dryer. I come out and find that the vent is obstructed (so replacing the dryer would have been a waste of money). The condo corporation assures me that this ISN’T their issue to fix (go figure). After calling a duct cleaning company and getting a quote for $400 to clear the vent, I go at it myself with the auger (I’m not a “right tool for the job” type of guy) and 30-45 minutes later I’ve pulled a bird’s nest out of the vent and now have a steady stream of hot air coming out of the exhaust.

Next day another call comes in. They had done a couple of loads the day before and it had worked fine, now the dryer wasn’t drying any more (and wasn’t heating up). I talked to a few people and looked on the internet and had the idea that there are TWO fuses for the dryer, and the theory is that one of them had blown. I wasn’t able to really figure out the fuse panel (its all the old style plugs instead of the flips I’m used to). An electrician I talked to was positive that the heating element was blown and I needed a new dryer, so I head out and bought one for $400 (after taxes, delivery and paying to get my old dryer taken away). The dryer that came with the place didn’t look that old, so I was sad to see it go, but I figured it must have burnt out working away at the bird’s nest (although it seemed suspicious to me that it burned out AFTER the nest was cleared).

The delivery and installation wouldn’t go through since my ducting wasn’t metal. I had to buy duct materials from Canadian Tire, hook it up myself, and after I plugged it in and pressed the start button, nothing happened. I had a sinking feeling as I pulled out the multimeter that I’d been afraid to use before, get a battery for it, found the fuses for the dryer (sure enough there were two) and found that one of them was a 25 Amp (should have been a 30), and sure enough that was blown. I replaced it, and the dryer started working immediately.

Therefore I’d spent $400 on a new dryer, replaced the ducting to accommodate that new dryer and paid Future Shop $20 to take away a perfectly good dryer (and I could have avoided all that by testing the fuse and replacing it for $4).

Live and learn, this was an expensive lesson, but one I hope I won’t need to repeat – don’t be afraid to learn new things with home maintenance. Ignorance is VERY expensive.

My next (and final for this series) post will detail all the financial elements of the purchase and the first 6 months of operation.

(continued in part 8).

Real Estate

ROI on Investment Condo

As I’m coming up on the 6th month anniversary of purchasing my investment condo, I thought now might be an interesting time to have a look at the ROI (Return On Investment) on my investment.

How to calculate this had me scratching my head a little, so I’ll present the results and my methodology, and if this seems weird to anyone, please feel free to suggest other ways to calculate this.

After *ALL* regular, on-going costs (including condo fees, property taxes, insurance and mortgage INTEREST) I clear $256.62 / month. I took all the money I’ve put into the condo that WASN’T related to these expenses (e.g. ignoring mortgage payments, insurance payments, etc since I’d already accounted for them) and it adds up to $43,811.68 (remember this includes the down payment, legal fees, renovations, maintenance, etc). Therefore I’ve had a ROI of 3.51% (256.62*6/43,811.68) over the last 6 months, which is an annual ROI of 7.03%.

Just for interest’s (pardon the pun) sake, I calculated my ROI WITHOUT mortgage interest factored in and it was 8.88% (17.77% annually). This is interesting just because the interest rate will probably be the largest variable that will change on future deals (it should be a lot more volatile then rent, labour/material costs or other fees involved).

So 61% of the cashflow is going to the bank, and 39% is going to me. I’m not sure if that’s good or bad. Certainly I couldn’t have done the deal without the bank’s capital, and this should shift as time goes on (as the mortgage gets paid off, more of the cashflow will go to me each month). Additionally, any increases in the cashflow will go to me (just as any decreases would come out of my share, not the banks).

Ignoring the mortgage, my ongoing costs are about half the rent I’m collecting. I’ve read that the non-mortgage expenses of a rental property will usually be 45% of the market rate rent (in a normal, balanced rental market). This includes management fees (and people who claim to be running a property for a lot less than 45% usually are doing the management themselves and ignore the value of their time). Property managers usually charge 10% of the gross rent. Therefore I’m either significantly under-charging for rent (which I don’t think is the case as I tried to rent it out for more and couldn’t) or my expenses are very high compared to other rental properties (which I believe IS the case, people often say renting condos isn’t very cost effective).

Certainly not amazing, but nothing to sneeze at either (and I’ve learned quite a bit while earning that 7.03%).

This ignores vacancies (I’m assuming the tenants moved in the instant I bought which wasn’t the case), any maintenance expenses beyond the condo fees (which I’m hoping will be minimal), and my time and effort.

It also ignores appreciation of the value of the property, tax implications (postive and negative) and the discount I purchased the property at.

As much as I love condos and feel much more comfortable investing in them, perhaps I should be looking at a more lucrative form of rental property going into the future…

Q at $1 Million to My Name: You need to hold my hand while I buy my first apartment building! 😉

Real Estate

Getting Started With Investment Real Estate – Part 6

To start at the beginning – please see part 1 of this series.

Its amazing to me how this series of posts has grown. I’m half-tempted to work them into a more coherent essay format once I’m finished and have a permanent link on my side-bar.

I needed to find tenants at this point, which was suddenly a totally new (and totally scary) activity. I joked with my friends and family going through this process that each time I felt I had become somewhat proficient in a part of the process (condo hunting, negotiating, renovations, tenants screening, landlording) I then moved on to the next stage which required totally different skills and had me starting as a novice again.

My buddy who already owned buildings was good enough to keep advising me throughout the process. His feeling was that many property owners got scared when a unit was vacant and would jump for the first potential tenants. Often this just lead to problems down the line, which would cost more than having the unit sit vacant for a couple of months. He said EVERY time he’d accepted a tenant in haste, he had regretted it later, so I decided to learn from his experiences and hold out for a tenant that passed his screening process.

I signed up for Rent Check Credit Bureau (, which certainly wasn’t cheap ($75 annual membership, $20 per credit check), but it was a necessary part of the process. I got applicants to fill out an application form (that I got from my buddy) and had a standard lease (also from my friend).

Basically if you get someone’s SIN or their driver’s license you can look up FAR more information about them then you’d ever imagine (things like current balance on their Mastercard and student loans, it made me uncomfortable what I was able to look up).

You also need to collect references and whatnot on the application form. These aren’t QUITE what you think they’re for, but they’re quite important. The previous (current) landlord must be contacted. If they had late payments to them, they’re cut. I was going to rent to one small family, and their current landlord had 2 late-payments on record and they HADN’T GIVEN NOTICE (yet they wanted to move into my place in 1.5 weeks). That’s going to be a great situation when they move in to my place, then stiff their old landlord. If they lose the court battle, they’re going to be short paying me, and if they somehow weasel out of it, they’re going to leave me without proper notice. Forget that!

I also had a woman who gave me her current landlord’s contact info. While we were talking she mentioned that her father did engineering work for the government and was a property owner. I did a Google search on her “current landlords” phone number (always do this), and sure enough, it was an electrical engineer’s company with the same last name as her (hmm, quite a coincidence). When I called up and talked to her “landlord” I got a glowing reference. I asked if they knew her before she’d moved in, and they promised me, “no, no, she’s a great tenant and we first met her when she moved in”. If someone needs to use their MOTHER as a reference (AND lie about it), you’re going to have trouble with them.

The personal references are mostly just names / contact info that you can use to track down people who know the tenant if needed (e.g. if they run off without notice or payment).

I started advertising my unit at a price that was average on I showed it to about 10 people and not one of them filled out an application. My buddy told me that if 1/2 the people who view it don’t fill out an application there’s a problem (usually its overpriced). If people don’t fill out an application ON-THE-SPOT they’re not interested. They’ll say they’ll think about it and get back to you (but they’re just being nice).

I dropped the price, showed it some more (and still wasn’t getting anyone to fill it out). I was starting to feel a little desparate, so I talked a woman who worked at the condo corporation office and she told me what the average 2 bedroom was renting for in the building. I added a little bit extra to this (assuming her experience was over a longer time and the current rent should be a bit higher). I also charged a little bit extra for smokers (since I’d have to repaint) and pet-owners.

One line of thought is that its worth underpricing your unit. My experience is that renters are VERY savvy about what the going rate is (more then I am probably, since they’ve been looking at lots of units). If you charge a little bit below market, you’ll get a TON of applicants. Being able to pick someone who looks really good (great credit history and reference from past landlord) and get them in there quickly will easily make up for losing $50 / month on rent. The last place I rented, I eventually moved because the landlord increased the rent $50 (I was paying $650 and he raised it to $700). I was thinking about moving anyway, and the increase just got me to move sooner. He wasn’t able to rent it for 2 months after I moved out, so from trying to get an extra $50 / month, he lost $1300 (it’d take him over 2 years to recoup that if he was able to get the new higher rent from the next tenant.

Having a unit sit empty is expensive, but putting a bad tenant into it is far worse. Renting under-market is the best way to quickly get a good tenant (the good tenants will also know when a place is a deal – paying your bills on time and understanding the cost of things go hand-in-hand).

In the end I found a delightful young couple with excellent credit, who paid $1300 / month for my condo (they had a cat so they paid the “pet premium”). So far so good (they’ve been there for 2.5 months so far).

In the next part I’ll talk a little bit about the repair issues that came up after they moved in.

(continued in part 7).

Real Estate

Getting Started With Real Estate Investing – Part 5

To start at the beginning – please see part 1 of this series.

Should I hire a contractor?

I talked to various friends and family and scoured the web looking for the best way to find contractors. I found so many horror stories about contractors gone out of control, that I was almost as stressed out about hiring contractors as I was about trying the work on my own (and actually wasted a week and a half flip flopping between the two ideas). I had intentionally avoided taking on any work during this period (the theory was originally so that I could do the work myself, but in the end it turned out just to be so I could supervise the work myself).

Deciding which renovation to do first

Since I figured getting the walls painted before getting the new floors put in made sense, I decided to start with that. I got a recommendation from a friend and my girlfriends father recommended getting a painter through Sears. In the end the prices were the same, except that the recommended guy was going to take 3 weeks (and the painter was going to come in with a crew and do it in 3 days) and the Sears job came with a 1 year guarantee. Easy decision, I hired the Sears guy.

Renovation gone bad?

The Sears guy actually recommend a flooring man to me, and I got the guy in to do my floors after the painting was finished. Initially the paint was peeling, and I was freaking out that the whole $1800 job was going to come down in strips, but the painter assured me that that was normal and that they’d come in to do touch-up (which they did) and that it’d be good after it had dried for a month (which is was – live and learn).

For the flooring I went with Ikea laminate (TUNDRA, maple effect). The costs seemed to keep jumping up on me (I was quoted $1 / sq. ft. for installation, but then it turned out quarter round and baseboards were extra. Picking up the wood ended up being another extra ($50 for 2 of his friends and a truck) and another $50 to get their help to bring it up to my condo. He offered to redo the tiling instead of laminate in the kitchen, and for some reason I had to pay twice for this area (I’d already paid to have the laminate installed there, then when were were doing tiles instead, I had to pay $1 / sq. ft. AGAIN, so the tiles cost me $2 / sq ft.).

In the end I got about 800 sq. ft. of flooring done (700 sq. ft. of laminate, and 100 sq. ft. of ceramic tiles) for $4000 ($2000 labour, $2000 materials) which I was quite happy with. I called one place that quoted me $2.50 / sq. ft. for the work (which may have included quarter round and baseboards, I’m not sure) and I got Empire Today to come in and give me a quote (which the guy told me it would be a minimum of $10K for their cheapest laminate – no thanks!).

It’s quite funny, as before I did this job I couldn’t care less about “home improvements” and the general state of my living environment. Since I’ve done this, I’ve actually developed an eye for things that are roughly done around peoples houses or in restaurants and certainly appreciate a nicely done living space in good repair. I also enjoy watching the reno shows on HGTV (although I still prefer the Real Estate hunting / haggling shows).

I’m putting in an offer on another “fixer-upper” condo, and the work I had done on this unit definitely has improved my ability to estimate costs of renovations (I hope, otherwise I might be in trouble! 🙂 ). Its amazing the wide array of skills you develop just buying and fixing up a small 1000 sq. ft. living space.

My girlfriends father, an electrician, was good enough to help me replace a few of the light fixtures (they were pretty awful) and all of the electrical outlets (the painters messed them up by getting paint in them – I guess they couldn’t be bothered to cover them).

With the space glowing and fresh (and nicely smelling of fresh paint) I showed the place off to my local friends and sent pictures to my family and distance friends. Now I just needed to find someone to pay me rent every month!

(continue to part 6).

Real Estate

Real Estate as an Inflation Hedge

I’m not very passionate about asset allocation yet (although I know its an important area I need to educate myself about). The one aspect I have considered is the impact of inflation on savings. Back when interests rates were running at 10-12% (in the early 80’s), people were happy, but what they were foolishly ignoring was that they were being heavily taxed on this (treated as full income) and inflation was knocking it down further.

The funny thing is, and I realized this shortly after buying my condo, is that when you’re in debt inflation is a great thing. My mortgage is currently in the low $90K, and if 90K is worth less then it was in the past, that makes my mortgage easier to pay off. Inflation will drive up what I’m able to collect for rent, while making the mortgage easier to pay (increasing the cash flow).

If your salary was going to double, but the cost of everything would also double, is this a good thing or a bad thing? Ignoring taxes and whatnot, it obviously wouldn’t make a difference if you had no savings or debt. If you have savings, it would effectively cut them in half (since the price of everything has doubled). If you have debts, it would also cut them in half (since you’d be making double the salary). In a nutshell, this is the effect of inflation.

High interest apparently can hammer the stock market, and as it leads to inflation, it would also make dividend payments less valuable. Apparently inflation hurts most businesses, as people have less money and they buy less from them (which prevents them from increasing their dividend).

In “The Intelligent Investor” (which I’m reading right now), they recommend REIT’s as an inflation hedge, clearly owning real property works in pretty much the same manner (you’re just accepting increased volatility since your personal holdings will clearly be less diversified than even the smallest REIT. The one thing I don’t like about REIT’s is that they’re so easy to abuse – the people running it can easily get kick-backs from people doing work on the properties and steal from shareholders). Gold is also popular as an inflation hedge (basically any time you put money into stuff), but its apparently far more speculative then real estate (sometimes goes up a huge amount, and sometimes doesn’t move much for years). I’d also be afraid with gold that a cheap way to produce it will appear (similar to artificial diamonds) and that would wipe out their value (this seems less likely to happen to land and living spaces).