Even if you borrow to carve out rental space, you can get ahead financially

theglobeandmail.com
Feb. 3, 2015
By Kira

When Don Campbell married in 1987, he took a look at his new home’s basement and saw a whole lot more than concrete and pipes.

He saw opportunity.

Building a rental unit in the basement just made sense for the Vancouver-based senior analyst of the Real Estate Investment Network and author of Real Estate Investing in Canada. With the rental income taking a bite out of the couple’s mortgage, that home suddenly became an affordable option.

“Building a suite is an incredible way for people to get on the property ladder and into the housing market. You get to live in an area with a garden and backyard,” he says.

Ahead of his time? Think ahead of the curve. With Canadian housing prices now skyrocketing - and single-family dwellings the hottest commodity of all - it’s little wonder new and existing homeowners are eyeing basements, attics and garages as sources of income and a means to slash a whopper of a mortgage. Cities, such as Vancouver, are also looking for ways to encourage affordable housing and, for over a decade, have been busy rezoning neighbourhoods to allow so-called secondary suites.

Even so, in January of 2015, Vancouver received the dubious honour of being named the second most unaffordable housing market in the world after Hong Kong. Meanwhile, Hamilton, like many other Canadian communities, is seeing its income-to-house-price ratio grow. Salaries just can’t keep up with picket-fence demand.

“Is it very expensive to own dirt in Toronto, Calgary and Vancouver, rather than a box in the sky? Absolutely,” Mr. Campbell says, referring to houses versus condos.

Although secondary suites are particularly popular with first-time home buyers, they aren’t the only ones building these “mortgage helpers,” says Joe Bolahood, a real estate agent with Coldwell Banker R.M.R. Real Estate in Oshawa, Ont. The demographic is all over the map these days, including those who are thinking long-term.

“History shows us that real estate is a good investment vehicle,” he says. “If you can have your home paid off and you have that extra income suite, you can generate a pretty respectable income for your retirement.”

Rental income might also be seen as a kind of emergency fund. Out of a job for a few months? Taking a year-long maternity leave? Having an extra $800 of tenant money rolling in can give the landlord some financial wiggle room when tough times strike.

Yet ultimately, the money means a huge savings at the bank. Look at a mortgage amortization spreadsheet to see why. Paying off hundreds of extra dollars every month on a mortgage can have massive repercussions on a home’s final price tag.

As an example, home buyers would pay a total of $151,381 in interest for a $310,000 mortgage, amortized over 25 years at an interest rate of 3.44 per cent (offered recently by Bank of Nova Scotia and Toronto-Dominion Bank for a three-year fixed mortgage, as calculated on the Investor Education Fund’s mortgage calculator).

But accelerating the payments by $800 each month knocks that interest payment down to $79,783, a savings of $71,598. It also means being mortgage-free in 14 years rather than the full 25. This example has been simplified - interest rates fluctuate, obviously - but there’s no denying there is power in payment.

“This lifestyle isn’t for everyone because there’s loss of privacy, but if you can pay down your mortgage in 12 to 15 years, that’s a huge financial savings and, for some people, a small sacrifice,” says Mr. Bolahood.

Mr. Campbell warns that it’s a mistake to focus only on the money, though. There can be a lot of challenges that home-reno TV shows usually don’t bother showing. Take zoning and bylaw issues. Wandering down to city hall only to find out your new street isn’t zoned for second suites doesn’t exactly make for good television.

Tania Artenosi, a Toronto real estate agent and owner of Coldwell Banker The Real Estate Centre, says not enough street parking is often an issue, particularly in the city, but so are other physical constraints. In many municipalities, all units must offer two exits in case there’s a fire. A window will often do, but it needs to be big enough. Headroom is another issue.

“You can walk into some homes and they say they have a basement, but really it’s a crawlspace. You can’t do anything with that,” she says.

Mr. Bolahood, who is over six feet tall, has his own system for gauging a basement’s suitability as a suite.

“If I’m walking through a basement and I’m getting the urge to duck, you can’t put a second dwelling there,” he says.

Either because they’re unaware of the rules, or they simply see dollar signs and turn a blind eye, some homeowners decide to eschew zoning and bylaw restrictions and build anyway, but they do it at their own peril. Not only must they prove the unit is legal and up to code when they eventually sell, but if caught before then, they could be shut down entirely and forced to rip out the suite. Not only is the landlord losing out on rent, but they’ve lost the money they put into the renovation.

Mr. Campbell says some communities hire people to read online for-rent advertisements and then go out to see if they’re legit. More often, though, a crabby neighbour calls in a complaint. “You’ll quickly get to know your neighbours if your tenant is parking in front of their house.”

While some homeowners turn to lines of credit to pay for the renovation, more often the renovation cost is rolled into a new mortgage. Not all banks allow it, says Mr. Campbell, and will hold back the approved money until the homeowner can prove the work is done.

Even so, it can be a good deal. If the financial institution charges $100 a month on a $50,000 loan, but the owner uses $800 of the rent to pay down the mortgage, she still comes out ahead in the end. The trick is to actually use the funds how they’re intended.

“Put all that extra, not into Starbucks, but into your mortgage,” says Mr. Campbell. “It’s not free money.”