So you want to be a landlord - beginning young can be a major advantage when building a rental portfolio
Sarah Dougherty, Freelance
Gerard Philipps bought his first investment property at the tender age of 21.
His son Jonathan beat that record, buying a rental building when he was just 18.
“It’s the ongoing joke in the family,” Jonathan said of the friendly father-son rivalry.
Now 24, Jonathan Philipps has managed to grow his portfolio to four revenue properties in the Montreal suburb of Lachine - three triplexes and one with four units.
He bought these buildings by leveraging other people’s money, which helps revenue property investors compensate for small down payments and generate cash for future purchases. But the downside of high levels of debt is vulnerability to changing conditions, especially fluctuating interest rates.
Following in his father’s footsteps didn’t take any prodding, said Jonathan Philipps, a business school graduate who holds a day job as an analyst with the Montreal office of a real estate lending company.
“He didn’t push me into it,” Philipps said. “I wanted to buy.”
Philipps got a leg-up when he bought his first triplex in 2001: His father co-signed on the loan and offered a property as security.
But for his most recent purchase, a four-plex he picked up in January, Philipps didn’t need his father’s backing. He got an interest-only mortgage from the vendor for the balance of the purchase price - $200,000 - at 5.5 per cent. (The down payment was $58,000.)
The arrangement means that for the five-year term of the mortgage, Philipps pays twice-yearly interest instalments of $5,500 and no principal.
At the end of the five years, Philipps plans on refinancing the mortgage with a bank, but based on the reappraised value of the building, which he projects will have increased, allowing him to take out a larger loan.
He hopes to make his refinanced mortgage a high-ratio one - about 85 per cent of the building’s value.
“You can keep your money to invest in other properties and your cash flow is available,” Philipps said of his rationale for taking an interest-only mortgage.
From the seller’s point of view, offering a so-called vendor-take-back mortgage makes the property attractive to buyers who cannot piece together all the necessary financing from an institutional lender, Philipps said.
Since the building is taken as security for the mortgage, risk is minimized.
Taking an interest-only mortgage frees up cash, but is usually expensive and increases exposure to interest rate fluctuations, according to Jean-Francois Bigras, chairman of the Corporation des proprietaires immobiliers du Quebec, an association of rental property owners.
He also gives courses on real estate investing and is a property owner.
Bigras took an interest-only loan at 8.5 % on a building he intended to keep for six months and resell. He says an investor’s time horizon will often dictate strategy.
“If you want to keep (the property) for a long time, pay down the mortgage so it becomes a cash cow,” Bigras explained. “If you want to sell it earlier for capital gains, why use cash to draw down a mortgage you will pass on?”
By law, high ratio loans - more than 75 per cent of the building’s value - like the one Philipps wants to obtain when it comes time to refinance, must be insured against default, either through Canada Mortgage and Housing Corp. or a private mortgage insurer.
Although the borrower must pay insurance premiums, there is an upside, Bigras said.
Lenders will offer better rates on insured mortgages and “if the economy slows down, lenders will prefer CMHC mortgages because they’re risk free,” he said.
Bigras advises revenue property investors to crunch their numbers with higher interest rates than they negotiate on the initial mortgage term.
“If there is an interest rate switch when you renew, you may be in dire straits,” he said.
And if you don’t qualify for a bank loan, using a mortgage broker can open up other financing avenues, Bigras said.
Brokers usually deal with a range of lenders, including credit unions, trust and insurance companies, pension funds, private lenders and banks.
Bigras said alternative lenders might be willing to finance revenue properties banks tend to avoid, including buildings with smaller units (studios, for example) that have higher tenant turnover and buildings in less affluent neighbourhoods.
Mortgage consultant Pelagia Nickoletopoulos specializes in helping clients who aren’t a good fit for banks.
That includes buyers who are self-employed or who work on commission and don’t have sufficient declared income to satisfy a bank, but do have good credit ratings.
She also works with clients who have difficult credit histories.
“Bank rates are better, but they are based on declared revenues,” she said of the trade-off of using a non-traditional lender.
Based in Laval, Nickoletopoulos is affiliated with the brokerage firm Mortgage Architects. About half her business is placed through that firm, but she also deals with other lenders.
Nickoletopoulos jokes that she charges clients a black coffee for her services; she receives commissions from lenders and does not charge clients fees.
Some mortgage brokers do charge fees on top of the commissions they earn.
Revenue property buyers should also know that real estate agents and brokers might have agreements with financial institutions to refer business to those lenders and might receive compensation for these referrals.
Nickoletopoulos specializes in owner-occupied buildings with four units or less. She can get qualified clients “no cash down” deals on these buildings, although the mortgage must be insured.
“It shows you are serious if you live there,” she said about one reason financing is easier to obtain on owner-occupied properties.
Nickoletopoulos also knows tricks to boost clients’ credit scores, like regularly spending less than half your credit limit on credit cards.
She can also direct clients to institutions offering blanket mortgages, which are registered against two or more properties.
Normally used when a buyer wants more money than the lender will provide on the basis of one property, they are useful for investors who want to ramp up to more expensive properties.
Nickoletopoulos also helps owners withdraw equity from their properties and refinance them, so they can use the money to buy something else.
For his part, Jonathan Philipps wants to push the envelope more than his father did.
“I tell him ‘by refinancing, you could have bought more,’ ” said the budding tycoon, who is setting his sights on his next purchase. “I want to go bigger next time.”
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Contact the Jeffrey Team for more information - 416-388-1960
