Financing tips for would-be landlords

With rental vacancy rates at historically low levels across Canada, some people are looking at becoming landlords through the purchase of an apartment building. Buying rental property, however, is different than buying a private house and financing is a key point of departure.

When buying an apartment block, an investor can go either with conventional mortgage loans or opt for high-ratio, lower-risk mortgage insurance through Canada Mortgage and Housing Corporation, CMHC.

There are advantages and disadvantages to each option, explains Dennis Aitken, vice-president of mortgages for Peoples Trust of Calgary, who advised on this Canadian Housing column.

Conventional mortgages are typically available for up to 75 per cent of the purchase price or value of the apartment property. The level of mortgage financing is dependant upon a number of factors such as the physical condition of the building, location of the property, the cash flow being generated to service the mortgage payments, and the financial strength of the borrower.

They are offered with floating or fixed rates with a term of generally one to five years, with longer terms periodically being available. The maximum amortization period offered is 25 years. Lenders generally charge fees of .25 per cent to 1 per cent of the loan amount for a conventional mortgage.

CMHC insured mortgages, on the other hand, are available at loan amounts as high as 85 per cent of value and are insured by the Government of Canada against any credit loss to the lender. CMHC insured mortgages are typically offered with a fixed interest rate (floating rates are available but are not the norm), a term of five or 10 years and an amortization period of up to 35 years.

The costs of a CMHC insured mortgage are the insurance premium, the application fee and any fees charged by the lender. For existing rental apartment buildings, the premiums range from 1.75 per cent to 4.5 per cent of the mortgage amount depending upon the level of financing required. The application fee is $150 per unit up to 100 units and $100 per unit in excess of 100 units, to a maximum of $50,000. Both the premium and fees can be added to the mortgage amount and amortized over the life of the mortgage.

A CMHC insured mortgage has the following advantages over a conventional mortgage: lower interest rate; higher leverage; and easier to renew or refinance.

As a result of the Government guarantee, a lender does not have to reserve any capital against possible future credit losses. This feature allows lenders to reduce their yield requirements and thus offer substantial savings to a borrower through reduced interest rates. These interest rate savings can be up to 1 per cent below a conventional mortgage interest rates.

For conventional mortgages the main advantages over a CMHC insured mortgages are flexibility; quicker approval times; and less cost for short-term mortgages. Conventional mortgages are more flexible, for instance, in situations such as completing renovations over two or more years, or when you wish to increase the mortgage to take out some of your equity that has built up in the property. Another example is if your property's value has significantly increased over the past five years and now you want to pull out some equity to purchase a commercial property or make another investment. With CMHC you would only be able to refinance the existing first mortgage plus any capital expenditures incurred over the previous 12 months.

The key advantage of a conventional mortgage over a CMHC insured mortgage, though, is they can be less costly for a shorter term. A conventional lender normally charges a fee of .25 per cent to 1 per cent to process a conventional mortgage application, which can be 50 per cent less than the CMHC insurance premiums.

As in most real estate, the decision swings on comparing the potential risk and rewards.

By: Frank O'Brien
September 21, 2001

Copyright 2001 Inman News Features
Distributed by Inman News Features