Do you dream of owning an investment property? Maybe even several? The idea of a steady monthly income is appealing, and today’s low interest rates and rising real estate prices make the idea even more attractive. Investing in a rental property can be profitable, but it’s not without risks.
Advantages of owning a rental property
- Regular monthly income. Rent collected, minus your expenses, means a steady, predictable cash flow.
- Appreciation. While you can’t guarantee that the price of your property will increase, historically, real estate has appreciated over time.
- Tax deduction. You can deduct certain related expenses from your gross rental income. These include mortgage interest, property taxes, insurance, maintenance costs, property management fees and utility bills (unless the utilities are your tenant’s responsibility). If your expenses end up exceeding your rental income in a given year, you may be able to deduct this loss from any other sources of income you have, provided you have a reasonable expectation of profit.
Disadvantages of owning a rental property
- Responsibilities of being a landlord. You’ll have to deal with repairs (sometimes on an emergency basis), collecting rent and, sometimes, difficult tenants. You can hire a property manager to handle most of these responsibilities, but this will cut into your monthly income.
- Selling is not always easy. Depending on market conditions, it can be tricky to sell real estate, especially rental property. And you’ll need to factor in the costs of a real estate agent and legal fees.
- Routine and unexpected expenses. Owning a property can be expensive. Aside from your down payment and mortgage, what you spend on utilities, maintenance, repairs and upgrades really adds up. Budget 2% of the purchase price of your property for maintenance and repairs. You’ll also need a rainy day fund to cover operating costs if your property is vacated and you don’t find new tenants immediately.
- Rental income is taxable. Your net rental income is included in your taxable income for the year. What’s more, this extra taxable income might make you subject to a higher marginal tax rate, which would have you paying more tax on every additional dollar earned. The rental income could also reduce your entitlement to government benefits such as Old Age Security.
Seven tips when buying rental property
If you've decided to take the plunge into the investment property market, consider these tips first.
- Get your finances in order. Determine what you can afford to buy. Canada’s mortgage rules dictate that you must come up with a minimum down payment of 20% for a small rental property (i.e., one to four units). This minimum does not apply if you occupy part of the property.
- Assemble a team. Buying a rental property takes a team of professionals, so line up your MD Advisor*, real estate agent, lawyer, mortgage specialist, appraiser, home inspector and insurance agent.
- Research average rents and ideal locations. Do some research on the area you’re considering. You best bet is to buy where there are good jobs and population growth. Find out what the going rents are.
- Choose an appropriate mortgage. Your MD Advisor will help you find the right mortgage solution to fit your financial needs.
- Don’t forget about insurance. Like your home, a rental property is a valuable asset. Choosing the proper insurance can protect your property from the financial impact of an unforeseen event. Your MD Advisor can help you settle on an appropriate insurance solution.
- Consider hiring a property manager. Not everyone has the time to respond to tenants and deal with repairs — especially emergency situations. While the cost of hiring a property manager — usually 8%-10% of your rent revenue — will cut into your monthly income, it will also reduce your stress level.
- Educate yourself on landlord-tenant laws. Good tenants are hard to find. A property manager will market your property and screen potential tenants, but if you’re going it alone, you’ll need to get up to speed on what your rights and responsibilities are.
Crunching the numbers
Of course, you’ll want to consider the bottom line: Will buying an investment property be profitable?
Start by creating a cash flow statement for the property. To do this, you’ll need to identify all the costs of ownership, including mortgage interest, property taxes, insurance, utilities and property management fees, if applicable.
Now, estimate how much rental income you will receive, then subtract the identified expenses. The difference is your net rental income, which is subject to income tax. Once the taxes have been paid, your final number will show either a positive cash flow (you’re making money) or a negative cash flow (you’re losing money).
Keep in mind that this is a very basic calculation and doesn’t take into account the costs of general maintenance, repairs—both emergency and routine—and property improvements.
Owning investment property can be lucrative, but it requires research and planning. Talk to your MD Advisor to ensure your decision is an educated one, based on a long-term financial strategy.
What’s the rent for a two-bedroom apartment in your city?
The average rent for a two-bedroom apartment in an urban centre in Canada is $1,139 a month, according to the Canada Mortgage and Housing Corporation. The table below shows average rents in some specific Canadian cities.1
Average rent, two-bedroom apartment, October 2019
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1 All figures are from Rental Market Report: Canada Highlights, from the Canada Mortgage and Housing Corporation. The survey included urban centres with a population of 10,000 or more.
* MD Advisor refers to an MD Management Limited Financial Consultant or Investment Advisor (in Quebec), or an MD Private Investment Counsel Portfolio Manager.
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