A lot of people are looking for passive income with real estate. One way to do that is to start investing in rental properties. With home prices being so high in Toronto, many would-be investors are looking at places like Windsor, Ajax, Hamilton, or London to find great deals and earn passive rental income. Unfortunately, many buyers are unaware that there are subtle differences between mortgages for investment properties and conventional principal residence mortgages. While a mortgage broker can help you obtain either type, there are three key points you will want to keep in mind.
An Investment Mortgage Requires 20% Down
Unlike a mortgage for a principal residence, you will need 20-25% down to obtain a loan on an investment property. Unfortunately, there is almost no way around this. Since investment properties are higher risks for the banks, they require more down to be willing to lend money. The bank assumes that homeowners in financial distress will sacrifice their rental properties to salvage the primary residence. Banks have to presume that rental income will be used to pay the principal residence mortgage over that of the rental if the owner experiences hardship. This fact means that people are more likely to default on investment properties than primary residences.
You Can Use Your Home’s Equity
While you might need to put 20% down, you can also borrow that money from your current home’s equity or use a HELOC to buy the rental property outright. By taking out a home equity line of credit, you can borrow up to 65% of your principal residence’s value. There’s a further restriction in that the amount you can borrow is up to a combined 80% maximum for both your first mortgage and the line of credit.
The best part is that most expenses related to rental income are deductible. A HELOC typically only requires you to pay back the interest on the money you are using. If you incur $15,000 in interest charges during the year on a $500k line of credit, you can deduct that $15,000 directly from the rental income. So if your tenants pay you $36,000 for the year, you would only pay tax on $21,000 of that income. Property taxes and other everyday house expenses are also fully deductible.
With property prices appreciating significantly in the Toronto area, you can use your home’s equity to either finance a rental home or buy it cash. As a real-life example, consider a standard $800,000 Toronto home. You can take up to $520k of that home’s value in a line of credit. That amount of money would quickly get you two condos in Windsor for about $400,000 combined that could rent for at least $1,500 per month. At 4% interest, you’d collect $36,000 in rent while paying around $16,000 in interest. You’d get to pocket about $20,000 per year!
Of course, all those numbers are hypothetical and simplified. There are other expenses, like property taxes involved with investment properties. However, they represent a hypothetical scenario in which a Toronto homeowner could use their high equity to make passive income through rental properties.
Not All Financial Institutions Offer Investment Mortgages
You should, in general, be able to qualify for the same terms and rates on an investment mortgage as a traditional one. Large banks will not add a premium just because it is an investment property and will happily provide you with the loan. However, smaller institutions may not be able to extend a mortgage on a unit that will not be owner-occupied.
Of course, if you elect to use a home equity line of credit to finance all or part of the property, the bank will not care for what you are planning on using the money. You do not need to tell the bank you plan on buying an investment property. All you need to do is qualify for the line of credit like anyone else. However, with that said, obtaining a HELOC also means that the financial institution cannot consider expected rental income as a basis for repaying the loan.
Work With A Mortgage Broker
At the end of the day, if you would like to obtain an investment mortgage or a home equity line of credit, your best bet is to work with a mortgage broker. They will be able to evaluate your particular financial situation and find products that will best suit your goals.
If you have a decent credit score and 20% down, there’s a good chance you will be able to get an investment mortgage. If you don’t have the money down, we might be able to get you approved for a home equity line of credit, which would enable you to borrow that 20% and obtain the mortgage. Since we work with multiple financial institutions at Citadel Mortgages, we will be able to find the right one for your needs.
Rental properties are a fantastic income stream. People who are considering retirement should also consider buying rentals. It is a passive income stream that will support them in their later years. Younger couples look at these rental units as a way to build equity and potentially pass them on to their children. The reality is that cities surrounding Toronto, such as London, Windsor, Ajax, and Whitby, offer decent returns on investment. If you are interested in making money passively by being a landlord, speak with us at Citadel Mortgages today. Let’s see how we can get you an investment property and a steady stream of income!
By using a mortgage agent or mortgage broker from Citadel Mortgages, you will be able to ask all the questions you have and be ensured you get the best advice and mortgage product for your mortgage needs. Contact us here at Citadel Mortgages to become mortgage-free sooner!
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