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Why Invest in Pre-Construction Condos

Posted by Rai Hansrani on December 15, 2015
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Real Estate Investment Paperwork

In Toronto’s hot real estate market, an early purchase of a pre-construction condo can usually net a tidy profit once the building is finished. Even with growing concerns about market saturation and shifting costs, pre-construction condos are still an excellent investment – but not for the reasons you might think.

Instead of waiting a few years to turn a small profit on resale, converting real estate into a rental property can be a lucrative long-term investment.Strategically purchasing and renting out an urban condo can build your equity and earn you long-term returns from paying tenants.

Pre-Construction Condos vs Other Investments Infographic

You can invest less – and get more – for your money

When comparing real estate to other investments like RRSPs, mutual funds, or stocks, it’s important to understand that real estate can help you leverage limited funds for greater returns.

Stock and mutual fund growth is based on exactly how much you invest, but real estate investments appreciate at the property’s total value, not the invested amount. When you put in a 20% down payment, the bank funds the other 80%, and the property appreciates at 100%. The bank finances your own increasing equity.

Canada’s currently low lending rates allow you to borrow cheaply and generate income greater than your mortgage payments. With the right property, rental income pays down your principle and monthly fees. You own the property, but a renter pays your mortgage.

 

You don’t need as much saved as you think

While deposits and deposit structures vary from building to building, most real estate investments require a 15-20% down payment. When looking at a $300,000 unit, that’s a $60,000 upfront deposit. Not everybody has that lying around – in fact, very few people do.

Pre-construction projects have structured deposit schedules that spread that initial down payment over the course of construction. Often this is in installments of 5% at the 30, 60, and 90 day mark, with the final 5% paid at occupancy. This varies by developer and project, but each one uses a deposit schedule. This requires less up-front cash and gives you more time and flexibility in saving for your unit.

Instead of putting a huge chunk of savings into a project you won’t touch for years, deposit schedules allow you a more flexible cash flow schedule as you prepare for occupancy.

 

They’re ultimately cheaper than resale

One thing many of my investors worry about it that they’re putting away money into a project that they won’t see returns on for years – a worry that often leads them to think about resale condominiums. While it’s true that there are no immediate returns on an unbuilt condominium project, resale properties have huge fees that are avoided with pre-construction.

Closing fees, inspection fees, land transfer fees, and bidding changes aren’t incurred with a pre-construction property. Even your realtor fees are paid for by property developers, not you.

These resale costs would increase your carrying cost of the rental property, and so you would need to rent at a much higher rate. These fees can price your rental higher than your neighbours, which could cause monthly losses from an unoccupied unit, as well as increase the time it takes to make back your initial investment.

 

You can cover your monthly costs while building your equity

Net-Cash Flow From Rent Infographic

The great thing about pre-construction is that the cost of each unit is relatively similar throughout a single building. Each investor has put down 20%, has a similar mortgage and lending rate, and shares the same maintenance fees, taxes, and insurance rates. Every owner will have similar carrying costs, and every owner will be looking to rent above that cost.

I have a building in Toronto’s west end that I purchased in 2008, where similar one-bedroom units can rent for $1,400-$1,600. My carrying cost is around $1,100. Units in that building, including my own, are marketed for less than market value simply to ensure the carrying cost is covered every month, rather than to make extra dollars on some months and miss out on others to more competitive offers.

Likewise, when market value is below a unit’s carrying cost, the entire building will often rent for much higher because all owners are covering the same costs. Strategically we can cover our monthly expenses while also ensuring consistent occupancy with the right purchase in the right neighbourhood.

 

They’re steadier long-term investments

It’s absolutely true that other investments can earn you immediate returns. But real estate purchases are not necessarily about short-term gains.

A tenant pays monthly rent, which pays down the principle we owe the bank. Lending rates are currently extremely low, allowing us to borrow money for very little and pay it back cheaply and consistently.

Pre-Construction Equity Growth Infographic

It’s this consistency that makes preconstruction such a great investment. Rental pricing stays steady despite market fluctuations, and so your monthly income is consistent. You’ll get paid the exact same amount every month without the influence of market fluctuations.

 

It’s an (almost) completely hands-off business plan

I search for the best possible projects that can guarantee passive income generation greater than your monthly costs. With the right neighbourhood, builder, and price, a newly-built condominium is immediately marketable since there’s no need to repair, repaint, or touch up the space.

It’s also much easier to find a tenant for a smaller unit, so you’re less likely to miss out on a month’s income than in a larger resale unit or house. Once the condo is built, you have a turn-key business that’s ready to rent as soon as you are.

Sometimes, preconstruction might not be for you

As an investment coach, I definitely can’t – and definitely won’t – say that every pre-construction condo is a good investment. Every property and every purchaser is different, and we have to leverage your savings and strategize for the best possible property. Sometimes, this is at the cost of an immediate purchase.

The hard truth is that sometimes leaving that money in a mutual fund or an RRSP in order to gain the capital to invest later might be the best option for you. Pre-construction condos offer an excellent opportunity to grow your equity with a smaller investment, but strategically customizing a purchase to your situation is the only guaranteed best solution.

Source: Post by Irene Lee