Buying an investment property – what’s involved?

We have a hot, hot, hot rental market in Ottawa, so a lot of people are turning their minds to investing. Rents are high; so is demand. What’s involved in buying an investment property? Well, that depends on how many units, what type of property, and how much money you have. (I’ve blogged before with tips on  how to find and keep good quality tenants  and how to identify a great prospect so I won’t repeat myself: you can find those links here):

This is a complicated topic, so all I can do is give some general advice.

If you don’t plan on making an all cash offer, you will have to get financing. In most situations, the lender will want an appraisal to make sure the property is worth what you have offered but also to find out what the fair market value of rent would be from the property. The appraisal and financing are two of the clauses we would write into a deal as “conditions” to be satisfied before the deal firms up. That way, if there are any issues, you can back out and get your deposit back. (There can be other conditions too. We might also want an inspection as one of the conditions, or a WETT inspection for a wood burning fireplace. We may want a fire retrofit inspection as a condition if the property is a duplex; each deal has individualized clauses.)

Investors have different reasons for investing. I am working with a client right now who bought her investment property because she thought the underlying value of properties in the area would go up. It has: now she is ready to sell. So for her, the amount of rent she would get from the unit was less important than where she bought. I have other clients currently who bought a unit to use as a principal residence down the road. For them as well, having a great tenant who would care for the property was more important than the amount of rent they would get for it.

But in both cases, they had to get financing, and when you are financing an investment property, you need to have at least 20% in cash to put towards the purchase (the “down payment”). Some alternative lenders will let you use 15% but they will charge higher interest rates and often have stiff penalties.

You will need to figure out your ROI, or return on investment when you start looking around to see if the property you’re interested in is worth it. This requires taking into account the costs of purchase, including the costs of financing, the carrying costs, annual costs, and rents. I’ve  blogged about how to calculate the ROI so I won’t repeat it: here’s the link.

I personally won’t invest unless I am getting a minimum of 5% ROI on a hundred per cent cash purchase because I can do better elsewhere. I’m getting 5.6% on one investment and 7.2% on another, and the underlying value of my investments is going way up each year. I have great tenants who look after my properties as if they were their own, so I’m happy.

Anyway, let’s assume you have your financing in place and you are only looking for one rental property with one set of tenants and you have a budget in mind and a good idea of what to expect in terms of net rent and ROI. (Life is more complicated for financing when you get into triplexes or fourplexes; I will blog about those later).

You first have to decide whether you want to buy a freehold property, eg. a townhouse,  or a condo property, like a townhouse or apartment.

If you buy a freehold property, you are going to have to act as your own property manager or hire someone to do this. Expect to pay about 10% of rent for this service.

By contrast, in an apartment style condo building the condo corporation hires property managers who take care of much of this. There will be a set of condo rules governing things like where the tenants are to put garbage, noise restrictions, pet restrictions etc. I personally prefer to invest in a good, well-run condo because while I have to pay monthly condo fees, the property management company takes care of a lot of things I would otherwise have to be concerned with.

If you go with a freehold townhouse or detached house, you will be responsible for exterior maintenance and repairs. If you buy a condo, most of these are covered by the condo corporation, depending on the complex: there are no blanket rules when it comes to condos; each is a little different. Who is going to mow the lawn in a freehold – you or the tenants? Who will handle snow removal? These are things that are handled by the condo usually, so that’s another chore I don’t have to worry about not getting done, or not getting done properly, by investing in a condo instead of freehold.

Whether you buy freehold or a condo, in each case, you will be required to deal with interior maintenance like leaky dishwashers, toilet leaks, broken appliances, electrical issues inside the unit, etc., so make sure you have a roster of good plumbers and electricians who are able to fix things quickly. (Once you find a tenant, if it is a condo, be sure to take out landlord’s insurance on top of the condo insurance. In both cases, be sure to require that your tenants carry liability insurance and insurance over tenant’s belongings including coverage for water damage: that’s important.)

When you find a property you like, if it’s tenanted, you cannot remove the tenant even if you think the rent is too low. You have to take the property subject to the tenancy, whether the tenant is month-to-month or on lease. So make sure you know what the terms of the existing tenancy are and what the current rent is, because you will be stuck with that rent with only modest annual increases (as set by the province) until the tenant decides they are ready to leave. If it’s a lease, you will want to have a copy of the lease. These are things your realtor can make sure are provided as part of the deal.

If the rent is too low, you may never get to fair market value for rents: that tenant may decide they want to stay forever because they have such a great deal.

The only way you can terminate the tenancy is if you plan to occupy the property or if a member of your immediate family wants to move in. So don’t think you can buy an investment property, get rid of the existing tenants, and/or increase the rent: that’s not going to happen (and if it does, and you get caught, the penalties are huge).

I think the posts I’ve linked to have most of my tips on what else you need, but feel free to reach out if you have any questions! Investing in a rental property can be a great experience or a horrible one. My experience (I’ve owned three investment properties) has been terrific and it’s great to have that passive income, but you need to know what you are doing. I hear horror stories of people who waded in to the rental market and have had nothing but trouble. And as I mentioned, it gets much more complicated the more units are involved. Talk to a realtor!




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