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GTA condo rents keep rising, so why can’t landlords produce any income from them

September 28, 2024

Condo landlords are mostly in a cash-flow negative position based on rental rates today, once all costs are factored in

Garry Marr
October 12, 2017
Financial Post


Renters will tell you they can’t afford the escalating prices to lease out a unit in the Greater Toronto Area’s ridiculously tight condominium apartment market, which according to a report Thursday has seen rents jump 10.3 per cent during the past year.

Yet, as the average rental rate in the city for a 734-square-foot condo increased to $2.99 per square foot or $2,219 in the third quarter of 2017 (an increase of $232 during the past 12 months) those units being bought by investors are actually producing no income and costing landlords money.

“I have to imagine to some degree landlords are trying to bring forward some of those rent increases in light of the fact they are going to be capped,” said Shaun Hildebrand, senior vice-president with Urbanation Inc., which produced the report.

The cap Hildebrand is referring to is an expanded rent control regime limiting annual increases to the rate of inflation and capped at 2.5 per cent for all buildings across the province. Buildings constructed after 1991 had been exempt from rent control.

But even with the latest increases, condo landlords are mostly in a cash-flow negative position based on rental rates today, once all costs are factored in. The average condo sold for $533,000 in the third quarter and, with a 20 per down payment and a 25-year amortization at a 2.85 per cent rate, mortgage costs would be $1,985. Add in the average $570 monthly condo fee and estimated taxes of 0.7 per cent of the condo value or $310, and you get $2,865 in monthly carrying costs.

The numbers just don’t add up to positive income.

“Investors don’t typically buy a completed unit, they buy new construction,” said Hildebrand, noting the units being leased out today were bought at much lower prices four years ago. “That’s the only reason they are cash flow positive or cash flow neutral. To buy a condo today at today’s average price and rent it out you are cash flow negative. Some people are doing that betting on appreciation.”

Some investors who bought their units years ago below today’s market prices, continue to hold on to them because they don’t have to pay the harmonized sales tax rebate if they rent them out for a year.

You also have to consider leverage, he adds. Some investors may have put just $100,000 down and leveraged the rest of their purchase, so they calculate their yield based on income relative to their original investment.

‘My concern is not so much the units being rented out now as the ones being bought now that will have to be rented out later,” said Hildebrand. “They are being sold in pre-construction for prices 30 or 40 per cent more than a year ago. What happens when rents don’t cover their investment today?”

Ted Rechtshaffen, a certified financial planner with TriDelta Financial, said he usually looks for a six per cent return for clients. “I think for sure some people look at their original purchase price,” he said, adding while it can “make sense” to look at a return that way, the other way to look at any investment is what is “your capital alternative” out there.

Rechtshaffen’s view based on the second criteria makes it hard to justify staying in condominiums today, but people do because of a love of real estate. “The thing to remember is if your (condo) goes down in price all your real estate is probably going down at the same time,” he said, adding real estate should never be half of your net worth.

Sal Guatieri, senior economist at BMO Capital Markets, said the investor side of the market is ultimately driven by capital appreciation. “Why are you in there still because prices are going up by 20 per cent,” he said. “It means the market is vulnerable to a correction. You are also relying on the rental rates continuing to rise because of low vacancy rates.”

Ontario still has what is called vacancy decontrol, which allows landlords to reset rents to whatever the market will bear once a tenant moves of a unit. But already, Urbanation says the change in rent control rules is leading tenants to stay in their units longer to avoid paying market rates.

Alex Avery, a former CIBC real estate analyst and author of The Wealthy Renter, said GTA condos just don’t work today. “You are taking a negative yield on your investment. You are 100 per cent reliant on capital appreciation. From where I grew up that’s not how you invest in real estate.”

He also has one word for renters worried about rising rates, and considering home ownership. “Renting is still a way cheaper option,” said Avery. “This can resolve itself by rents going up double or more or prices can come down. Look at it this way: If you look at what the (income) return today is and it’s not sufficient for you to be an investor, you should be a renter.”