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Archive for the ‘Rental and Investment Properties’ Category

Construction Mortgages – An Overview

Sunday, April 11th, 2010

We get inquiries on construction mortgages constantly. This video offers a high level program overview – and covers the essentials if you are thinking of buying a lot and building:

Video Blog Transcription:
Hi everybody, its Rowan Smith from the Mortgage Centre. I want to talk to you today about construction mortgages.

A lot of people are looking at some raw land, lots available in the area. They are thinking to themselves it would be nice if they could buy the property, build the home they have always wanted, and put it on there.

They are familiar with hearing the five percent down rule — that that is the minimum down payment. They come and approach me and they want to get approval in those cases.

It is usually not going to happen. The person who is putting the five percent down, first off, five percent of what? Five percent of the lot, five percent of the lot with the home, the end value, or five percent of the lot plus the construction costs? It depends what they are trying to do.

Generally, if you are trying to do high ratio construction, that is anything where you are financing more than 80 percent of the cost of the property, you have to have enough income to service not only the debt, but also your living expenses during the period of time.

Most people are building the homes for whatever reasons. Whether it is tax efficient accounting, or whatever, they rarely seem to have that income if they are trying to build the property. My experience is that most construction mortgages you are going to need 35 percent of the end value in order for you to really get that construction deal done.

So if the home is $1 million bucks, you can look at having to put $350,000 of your own money into the deal. Now the way it works is you don’t get to borrow 100, 200, 300, 400, $650,000 and then put your money in. It is not the way it works. The bank will always want your dollars in first.

What is going to happen is they are going to finance, say 65 percent, or 70 percent of the land. They will advance dollars at that point. You will put up some of your money. Then, they will say OK, we have advanced… I am going to grab a number here.

Lets say the home is $1 million bucks and the lot is $200,000. So they are going to give you 65 percent of $200,000 to start with, so $130,000. You take that money, you have to come up with the rest. So you are putting in the 70 of the $200,000 lot.

Now what happens? You go and start your construction. The bank does not start advancing you the balance of the $650,000 that they are going to lend you. They make you put your money in first. Those initial construction costs are going to be yours, and you are going to cover them with your dollars.

Once you have the house to certain stages, at that point the bank will start to advance you money. So at drywall, or at lockup rather is usually the first stage, it is about 60 percent. Then there is at drywall, and then usually again at the end when the property is actually completed.

It varies from institution to institution and what percentage point they are going to make you complete the home. They will have one of their appraisers come through and just kind of qualify and say, “Yes, this much work is done. The remaining costs to complete is x amount of dollars.” The bank will then lend you release money at that point.

You usually have to be well enough financed to come up with cash up front so that you can afford the construction costs and the labor trades, then get the money owed at the end of the day. If you are thinking you are going to borrow the whole amount for construction, it is not going to happen.

If you have anybody that is looking for construction loans I can help kind of point them in the right direction. Let them know if their estimates of costs and their budget, and especially their capital usage and when it is going to be required is reasonable.

Give me a call. I am Rowan Smith for the Mortgage Centre.

Commercial or Residential – Multiple Suites in a Property

Wednesday, January 20th, 2010

There are a lot of properties, especially in East Vancouver, where the home has a main floor, and 3 or 4 or MORE basement suites (or carriage house). The clients often go to their bank, and are told the lender will only use 2 suites for rental income, or won’t give them ANY credit for rental income, and they need it in order to qualify.

It is usually at this point that the clients contact me, and ask me why their bank is telling them their home is commercial property, when it is a home with 4 basement suites!?

This video blog outlines the defining characteristics of what is residential and what is commercial real estate and the various financing requirements that each has. The differences are great, the down payment requirements vastly different, and the manner the banks qualify you is in an entirely different world. Watch and I’ll explain how the banks think.

Transcription of the Video Blog:

Hey everybody, it’s Rowan Smith from the Mortgage Centre.

I’m taking a lot of inquiries on properties that have 4, 5, or 6 suites in the home, and you know, East Vancouver has a lot of these especially in some of these larger, older, turn of the century homes that were built. The people have converted them over the years from being a kind of large mansion, to being a six or seven unit property.

I want to define what constitutes a commercial property versus what constitutes a residential property because the mortgage requirements, and the paperwork requirements, and the rate that you’ll pay, are heavily dependent on whether you are going to go residential or commercial (in terms of financing requirements).

A couple of things:

On a residential basis, if the property has more than 4 (four) units that is going to be constituted as commercial. There was one lender, Bank of Montreal, that used to do five units, but that is all gone. So if you have a property that has a main floor and four suites, that’s a commercial property so long as your are going to be using the income from that property to qualify for the mortgage.

There are some appraisers out there who are used to working with these five and six unit properties who have said that we have three units with two unauthorized suites, but that gets us into the issue of whether it is authorized or unauthorized, how much are you putting down, and all this. So, by and large, the rule of thumb is: four units in one property is residential. Anything beyond that (no matter how good the story or finances look) is commercial.

Now, if it’s zoned commercial, but people are using it residentially, it is still a commercial property and it will be judged and evaluated by lenders on that basis. Where you see this is (trying to think of areas in Vancouver): Kingsway, and these type of areas where there is a lot of low lying sprawl of commercial units in the basements (and you’ll have everything from nail salons to restaurants) with residential suites upstairs. If you are looking at one of these, they are “cash cows” and generate a lot of rental income when you have a commercial lease underneath generating the bulk of it, and a couple of residential units on top; often the owners will choose to live in those units and they sound great in principle, but because they are zoned commercial in a commercial area, they get treated commercially.

Now you say, “well what does that mean?”

First, you’re going to require a much heavier down payment:” probably 35% or more. There are some ways around this using expensive private financing , but if you are thinking of getting bank rates, that is what you’re going to be looking at. 35% down is number one.

Second, you’re going to need a commercial appraisal. They start at about $1,500 and they take a month! They don’t take three days or two days like a residential appraisal, so your subject removal period will have to be substantially longer.

Third, you are going to be looking at possibly requiring environmental studies. They (the lenders) want to look at the surrounding area and see if there is a fuelling station or a cardlock. Was there ever a drycleaner or any other chemical heavy, environmentally intensive, or environmentally dangerous business around you. Even though it’s not in your building, per se, but if it is within a very close proximity, it still impacts whether or not banks are going to want to finance it. Because, they don’t want to be on the hook, having to foreclose, when it turns out your property has massive environmental problems down the road.

So:

  1. Larger Down Payment
  2. Environmental Studies
  3. More Costly, Slower Appraisals

And, the environmental study could be one, two, or three stages (or phases) depending on the type of property and they type business that is in it, or has been in it in the past.

In Summary:

More than four units, you are going to face commercial guidelines, probably going to pay a higher rate, and fees as well, with a much larger down payment.

Four units and less, you can get it done under a residential basis as long as it’s not zoned commercial or in a commercial area that looks like light industrial as well. So, if you are looking at buying one of these properties and you want to know if it’s even feasible, let me just take a look at it. It will take me five minutes of our time, we’ll go over the property, and determine whether or not it’s going to fit under residential or commercial guidelines, and how best to get it financed, and what you’ll need to do so.

For the Mortgage Centre, I’m Rowan Smith.

Real Estate “Investor” or Real Estate “Gambler?”

Saturday, February 7th, 2009

The past 7 years have seen the rise of many real estate “investors.” Any rising market will see many people enter the arena as they invest and attempt to make a living. This phenomenon is not new at all. However, the rising real estate market, and the fact that the market gave access to tremendous “leverage” opportunities saw many more “investors” enter the arena than other markets.

However, I want to clarify what a Real Estate “Investor” is and what a Real Estate “Gambler” is, and how they present themselves, and their investments, in a very different manner.

The most common form of investment that I have seen, is people buying pre-sale real estate. What is “Pre-Sale Real Estate?” many people have asked.

When a developer (typically a condominium developer) is building their structure, they will oftentimes PRE-SELL a large percentage of their units. This means they are accepting a price, at today’s market value, for their unit that will be built in the future. Usually, developers don’t pre-sell an entire building, but rather they pre-sell just enough of a building to allow them to complete construction and then sell the last units at the market value at completion.

For example, if a 100 unit condo building is being constructed, they may sell 65 of the 100 units as “pre-sales.” If we assume that this took place in June 2005, with a construction completion target of June 2007, we can assume that the value of the units will rise in that two year period of time.

So, if a unit was selling in June 2005 through the developer at $200,000, and a buyer entered into a contract with the developer on a pre-sale basis, this means that in June 2007 they can sell the unit for the then-market value. In the past 7 or 8 years, this was a license to make money. Many self-styled “investors” entered into many of these pre-sale contracts. Oftentimes, they benefited greatly in the rise of the value of the unit from the time they entered into the contract, to the time the unit was completed.

For example, a unit bought in June 2005 for $200,000 was often worth $350,000 in June 2007! Who gets this profit? If the unit was pre-sold at $200,000 then the BUYER gets the profit! Many times, pre-sales only require a deposit of 5% – 20% (depending on the project). So, it was possible for someone to put $20,000 (for example) on a $200,000 condo, wait 2 years, and sell the condo for $350,000. Thus only investing $20,000 and getting a $150,000 profit. This is a an annualized return of over 750% in just two years! Where else could you get these returns? The answer: not many places.

For this reason, many people were buying pre-sales assuming that prices will always be higher in the future. From 2002 to 2005 (with projects completing in that time period) it was almost a no-miss situation. Nearly any unit you bought at pre-sale would be worth a lot more when the building was built. In fact, many self-styled “investors” often bought the pre-sale and then sold the rights to the contract (on assignment) to another buyer at a much higher price. This meant they didn’t even have to close on the initial contract. They just got to ride the market higher and higher.

I saw many, many “investors” spring up during this period of time. They were “investing” in real estate by purchasing pre-sales and selling them at a higher market value. The truth was, they made a lot of money in a rising market, and they were very “lucky.” Yes… lucky… there is an old saying in investing, “a rising tide floats all boats,” and in this case, anyone that bought a presale from 2000 – 2005 was almost guaranteed to make money. It was often seen as a “can’t miss investment” (you will note I put “quotes” around the word “investment” every time I use it in the context of a pre-sale).

So, people got to take advantage of the rising market (at the expense of the developer that actually built the unit) when they entered into these contracts.

Well, now the market has changed.

Many of the units that people bought through a pre-sale are not worth the money they paid! Or, financing is not being made available to them due to the market changes. Never was this more visible than in the case of high-end condos (such as Shangri-la in Vancouver) where the cost per square foot rose from an already inflated $1,000 per square foot at pre-sale time, to almost $1,800 at completion!

With market changes, many units are not worth what people originally paid. So, if the unit was $250,000 in 2005, and it is now only worth $225,000, what happens to the shortfall?

Well, the buyer has to come up with it out of pocket, or risk losing their initial deposit (From 5% to 20% in most cases).

Several of these “investors” have contacted me recently, and asked for financing, and it simply hasn’t been available. This is the risk that buying by pre-sale presents. In some cases, it is a license to print money, and people end up getting properties in 2007 at 2005 prices, and thus get to keep the difference at the developer’s expense.

With the market falling, several people are just walking away from their deposits. Their logic is that they lose their deposit, but don’t have to buy the property at inflated prices. Recently, developers have been suing those buyers in an effort to recover the money they SHOULD have gotten.

Here is the logic: If you, the buyer, get to buy a home in 2005 and before even taking possession, sell it for 2007 prices and keep the profit (at the developer’s expense), then why should you be able to walk away from the deposit? If you get to benefit from the rising market, then you also shoulder the risk that prices may fall, and you may be faced to complete on a project that is worth less than what you paid. It’s only fair. I find it highly unlikely that the government will step in and save you if you walk away from your deposit. The contracts are written by the developer’s lawyer to ensure that if you walk away, and there is a loss to the developer, you will likely get to share in that loss (to be sued for it).

Now, every contract and every development is different, but if you face a pre-sale contract that is some 40 pages thick, plus a disclosure, you can bet that the developer is well protected from you walking away. Don’t expect them to be left holding the bag. You can’t have your cake, and eat it to (get to benefit from price increases, but walk away from loses).

I’m tired of running into people that call themselves “investors” when all they have done in the past few years is buy pre-sales, and benefit from a rising market that saw them do nothing, but put up the initial deposit. Typically, these investors have “tax efficient” income as well, where they declare little of these earnings and pay little taxes. The hallmark of these “investors” when they call me about their pre-sale they can’t complete on is they keeping asking me, “what will it take to ‘get it done?’” They never try and understand the process, the reason behind their difficulty, and instead, simply want to “get it done.” As a goal oriented person, I understand wanting to “get it done,” but as an investor, I also understand that it my job to look into the process, understand the risks, and learn about what I’m investing in.

True, there are many people that are very shrewd and have done very well in this market and through this pre-sale process, but there are equally many (if not more) people that have GAMBLED on this type of investment. Some have made money, but now, with the market softening (I prefer the word crumbling), they are being forced to complete on units worth less than they paid.

Where is the difference between gambling and investing? In my opinion, the difference between an gambler and investor, is in both their ability to complete the transaction (regardless of loss) and in the level of their study and due diligence in the investment as well as their understanding of the underlying factors that guide their market. Many of those “investors” would NEVER have gotten into those contracts if they did their due diligence and studied the market trends that were well established a couple years ago. However, many people will continue to benefit from pre-sales, and in this market, I call them lucky – just like the poker player that gets dealt a full house with aces high. Sure, it was possible, but was it LIKELY?

Before you enter a pre-sale contract, study the market trends, and FINANCING trends, as ultimately most people need financing, and it is financing that determines market direction.

Until next time, happy investing!

MYTHBUSTING: “… But the Property Has 3 Suites in the Basement and Will Totally Cover a Mortgage!”

Thursday, January 22nd, 2009

I took three calls today from clients looking to finance the purchase of a property that had a main floor and three suites. All three clients were calling me about the same property they had seen on Craigslist. The house essentially had 4 units (if you rented it all out), and even if you lived on the main floor, was collecting $2,500 a month in rental income!

May clients saw this, and used my mortgage calculator, and found that $2,500 a month would support over $540,000 of mortgage (at current “best rates”). The price on this home is only $550,000 so even with little out of pocket (5%), they could live without having a mortgage payment of their own! This is an astute observation, but, what they fail to account for is that banks do not treat rental income the same way as clients.

There are THREE problems with this house (from a financing standpoint):

1. The suites are illegal (non-conforming and/or non-reported)

2. Banks do not give you 100% credit for rental income

3. Less than 20% down payment is being offered


ILLEGAL SUITES

If you are purchasing a home that has a rental suite, it generally needs to be “legal” in order for banks to use the rental income when qualifying you for a mortgage. Why? Because illegal suites CAN BE SHUT DOWN. The city may decide that, due to pressure from lobbyists, neighbours, city planners, current property or income tax laws, or a myriad of other factors, that they want to put an end to illegal suites. If this happens, and someone reports you (a neighbour aggravated about parking difficulties in the area due to all the renters, for example) , the city may crack down and have you remove the illegal suite.

There are some other reasons they may do so: zoning, fire hazard (do you have adequate parking, sprinklers installed, avenues of escape from fire, etc…?) The bottom line is that illegal suite income is fairly certain but not GUARANTEED. As a result, lenders (usually) only use illegal suite income when the government isn’t involved. If you are buying a property and putting less than 20% down, you will usually require CMHC insurance. CMHC, a government body, will not use illegal suite income to help qualify you for a mortgage. Therefore, you will need more than 20% down payment to keep CMHC (ergo, the government) out of your mortgage application. In these cases the mortgage is referred to as a “conventional” mortgage, and is subject only to the individual lender guidelines: not the government. For those very well informed, or inside the industry, yes, there are other mortgage insurers than CMHC, but not all lenders use them and even their treatment of rental income has been curtailed lately.

Lastly, if suites were reported, legal, and conforming, the government would charge more property taxes due to the higher level of density and occupancy of the property. Property owners, hoping to avoid property taxes, often (99% of the time) do not disclose the suite in the property to the city for fear of paying a higher amount of tax. However, the downside to tax avoidance, is that your application is weaker in the eyes of the bank and CMHC (no use of the illegal suite income will be used).

Even though the property has $2,500 of rental income from the 3 illegal suites in the basement, in many cases, the bank will ignore that rental income when looking at your application.

BANKS NOT GIVING 100% CREDIT TO RENTAL INCOME

When an applicant looks at $2,500 of rental income from a property, they assume they will get $2,500 of money per month to put towards mortgage payments. Most times, they are absolutely correct. However, there are times when you have a vacancy due to a myriad of reasons: maybe a tenant leaves and provides no notice, or maybe the last tenant trashed the unit and it will take some time to repair it. Maybe you fail to collect rent one month as your renter just doesn’t have the money. There are a number of reasons that you will not collect 100% of rent 100% of the time

If the suite is legal, we can generally get a lender to give you credit for 80% of the income from the basement suite – even with as little as 5% down payment. However, if suites are illegal, they will ignore the rental income.

If the suite is illegal, but you have 20% down payment (thus keeping CMHC and the government out of your mortgage) then we can generally get the bank to give you credit for 70% of the rental income.

So, using my initial example of $3,100 affording $650,000 of mortgage, the banks will only give you credit for 80% of $2,500 or $2,000. This lower number only supports $430,000 of mortgage. This means that the person’s personal, taxable, income will have to support the balance. If they declare little or no income, or file no taxes, this may not be possible.

Vacancy and repairs are just one reason that the lender only gives you 70% – 80% credit for rental income. There are numerous other reasons: snow removal, having to put on a new roof, install a new furnace or hot water tank, vandalous tenants, increases in property taxes, increases in heating costs, or virtually any other “variable” in your housing costs.

LESS THAN 20% DOWN PAYMENT IS BEING OFFERED

I cannot stress this point enough: if you have less than 20% equity in the property, and the suites are illegal, then you will not be viewed favourably by the banks. With respect to the property currently on Craigslist with $2,500 of rental income, I have heard all three clients that called me say, “but the bank said they will look at the rental income of those suites,” and the reality is THEY WILL, but only if the applicant has 20% equity in the property.

Less than 20% equity in the property subjects the borrower (and bank – ANY bank) to CMHC rules, and CMHC rules (government rules) so that no rental income will be given consideration from an illegally operated (or non-conforming) suite.

BOTTOM LINE: If the deal seems so perfect, and the rent will totally cover the mortgage, then ask yourself two questions: why are they selling? and why hasn’t someone else already thought of this?

How Much Does Rental Income REALLY Help When Buying a Home?

Saturday, December 13th, 2008

“Mortgage Helpers,” “In-Law Suites,” “Rental Suites,” “Unauthorized Suites…” I’ve heard a lot of different names for them, but it all means the same thing: rental income to help with the mortgage payments.

The question is: How much mortgage does a rental suite ACTUALLY help you afford?

How much does $750 of rental income from a suite really help with your mortgage?

Many clients and realtors do the math that if the suite earns $1,000 of rental income, that they can therefore “afford” $1,000 more mortgage. While this looks fine on paper, the lenders do not treat it this way. “Affording” more mortgage and “Qualifying” for more mortgage are two totally different things.

Depending on whether the rental income is an “unauthorized suite” (not disclosed to the city authorities to avoid additional property taxes and construction oversight), or whether the rental income is “authorized” is an important point. This is of particular importance when a property has one or MORE unauthorized suites.

Depending on the amount of down payment, the lender you are dealing with, and the type of property (authorized or unauthorized suites) there are two types of rental treatment. They are:

1. 80% Rental Offset

2. 50% ADD BACK to Income

These are the nuts and bolts that a mortgage broker has to play with when trying to qualify a client for a mortgage. They are also WILDLY misunderstood by clients and realtors as to what they mean and when they apply.

80% RENTAL OFFSET

This is, by far, the preferred method by clients and mortgage brokers because it is more intuitive, easy to calculate, and helps you qualify for far more mortgage than the other method. What this means is that you take the amount of the rental income ($750 in the example we are using) and find out what 80% of it is (0.80 x 750 = $600) and then find out how much mortgage THAT new payment supports. You will need to know your way around a financial calculator and the current interest rate environment, so I’ll help you out with that by saying that the answer is $120,000 of mortgage (assuming 4.99% interest and a 35 year amortization).

In other words, you would qualify for $120,00 “more house” if the lender you were using (and if your credit and financial situation and property allow for it) uses this method. It’s not as easy as saying, “I want to use the 80% offset rule” to your broker because your situation has to qualify to use it (a topic covered at the end of this article).

Why 80% and not 100%? The lender has to assume you are going to have 20% of that income lost due to vacancy, damages, repairs, or maintenance. They will only give you credit for 80%.

50% ADD BACK TO INCOME

This is the traditional method, and it offers far less bang for your buck. However, depending on your situation the lender may insist on using this method whereby you take 50% of the rental income, and add it to your personal income, and then figure out what you would qualify for if you made that extra money.

The math on this one is a little harder and more difficult to explain so I will provide you the answers. So, to continue with our example, if you earned $750 of rental income you could add half ($375) to your income. However, the MAXIMUM amount of that (credit score depending) that can go towards mortgage payments is 44% of that $375. Or, in other words, $165 per month. If your credit score is lower, it could be as low as $150 per month.

We’ll use the best case scenario as it will show that this manner of calculation is still very weak. So, using this method, you only get to see how much $165 will qualify you for. Again, using a financial calculator and assuming 4.99% interest and a 35 year amortization, the MAX you can get if you use this method is $33,000.

Clearly, the 50% Add Back method is inferior.

THE COMPARISON

80% Rental Offset Method VERSUS 50% Addback To Income Method
$120,000                 VERSUS                   $33,000

So why would anyone want to use the second method? They don’t! It’s a lender decision. You need a qualified mortgage broker who knows which lenders use which method of calculation before you can figure out which method will be used.

WHAT DETERMINES WHICH METHOD WILL BE USED

This is a complicated matter, one made more-so by the fact that there are three mortgage insurers out there with two sets of rules, but I will outline a few scenarios where you will be FORCED to use the 50% Addback rule, and for the most part, all other situations will be the 80% Rental Offset.

If you are putting less than 20% down payment, and the suite is unauthorized, you may have to use the 50% Addback rule. Why do I say “MAY have to?” There are three mortgage insurers in the market (CMHC, Genworth, and AIG) and NOT ALL LENDERS USE ALL INSURERS. In fact, in light of the current economic climate, most of them are only using CMHC and CMHC says that if you put less than 20% down, and suite is unauthorized, then it’s the 50% Addback rule for you. You need to work with an experienced mortgage broker that will know which lenders use which methods as your local bank may not be the best option for you if you are buying a rental property.

If you are putting less than 20% down payment, and the property has multiple suites, you may have to use the 50% Addback rule. Just having extra suites does not mean you will get the better treatment. In fact, having extra suites complicates the matter further as many lenders only will use the income from one of the suites (and often at the 50% addback rule).

If you are planning on buying a house with a rental suite, and living in the suite but renting out the main floor you will NOT get to use the rental income from the main floor to “qualify” for the mortgage. The lender assumes automatically that you, the owner, will occupy the largest portion of the house and will rent out smallest. It doesn’t matter if you have proof to the contrary, signed affadavits, or letters from lawyers. It does not matter. The bank assumes you live in the largest portion and treats the suite rental income according to the other criteria it has as to the 80% vs 50% rule.

If you are putting 20% or MORE downpayment on a property, your broker can very likely get you the favourable 80% Rental Offset rule, or at worst, 70% Rental offset. Either way, it will be better than the 50% add back rule. The more down payment you put up, the better the treatment of rental income (in most cases).

WHY DO LENDERS CARE ABOUT AUTHORIZED OR UNAUTHORIZED SUITES?

There are several reasons, but the most commonly cited by lenders when I put this question to them is that the city COULD crack down on unauthorized suites and thereby reduce an owners income (or, raise their taxes such that the income is offset dramatically). It has to do with risk, just like anything else in lending, lenders are balancing risk (of foreclosure and default) versus the reward (earning interest).

CMHC is a government run organization, and it is for this reason that they want suites authorized – they are a government body. The other two insurers will allow the more favorable 80% Rental Offset rule but fewer and fewer lenders are using them.

Bottom line: you need the services of a registered mortgage broker to assist you with choosing a lender. Give me a call. I am available 7 days a week to answer questions at 604-657-6775.

Happy investing!

How to Find Foreclosures in Canada

Sunday, November 23rd, 2008

Not a day goes by that someone doesn’t comment to me about the economy going into the toilet, housing prices falling off a cliff, and foreclosures across the US mounting.

So, are foreclosures mounting in Canada as well? Apparently, the answer is yes, but he situation is nowhere near as bad in the US.

Does that mean foreclosures up here in Canada are available as a good investment? Yes, but only if you know where to look. I keep reading in articles and newspapers that people should look for foreclosures and pre-foreclosures, and I am getting sick of them firing people all up but then offering no prescriptive techniques for how to actually find these foreclosures.

I have published other articles about pre-foreclosures and foreclosures, so I will leave the definition to the prior posts. The link to those posts (for those that would still like to read it) are as follows:

http://mortgagelocator.ca/blog/?p=158

So where do you find them?

The short answer is as follows:

1. Mortgage brokers that deal with foreclosure bail outs
2. Foreclosure lawyers
3. Real estate agents
4. The MLS (multiple listing service) (http://www.mls.ca) or through your realtor’s MLS system
5. Court website in your area

Let’s look at each option, and find which are the most valuable tools.

MORTGAGE BROKERS

As a mortgage broker myself, who deals with a lot of “hard money situations such as foreclosure bailouts, debt consolidation, and private lending, I often find clients in very difficult situaitons that are either pre-forclosure or actually in foreclosure. Many times, it may be me, or a broker I know, who loaned the funds as is now in foreclosure. Talk about grass roots information! This is as close as it gets to the heart of the situation, and most people in foreclosure have contacted a mortgage broker to discuss bail out options. I’d be happy to pass on the names of my clients that are looking for a quick sale (with their written consent, of course) to those that are interested. Rarely is there more than one going on at any particular time, but check back from time to time and we may be able to help.

FORECLOSURE LAWYERS

Depending on your city, you will have to track down a lawyer that specializes in foreclosures. I would start with a quick web search, and then use the yellow pages (old fashioned print ones with ads in it) and go from there. These lawyers may be willing to provide you people’s names (again, only wih their consent) of people that are trying to sell their property before the banks take it away from them. My personal experience is that with a few phone calls, I can usually get my hands on a few names and addresses and have approached the clients by mail once I got permission and went from there. Many times, the properties that the lawyer tells you about will already be listed by a realtor. In these cases, you MUST GO THROUGH THE REALTOR. Do not try and circumvent the realtor in this situation in the hopes of getting a quick sale and better deal from the seller because they will owe the realtor their commission NO MATTER WHAT, so you will NOT get a better deal. I cannot stress this last point enough.

REAL ESTATE AGENTS

Many properties that are in foreclosure get granted “Conduct of Sale,” whereby the lender gets the right to list the property and put it up for public auction. There are many of these on the market at any one time, and you can just get your realtor to send you a list of all properties that contain the following words in the listing, “court ordered sale,” “foreclosure,” and “public auction,” and that will capture most (if not all) of them on the MLS at any one time. From there, you have to make a subject free offer into court in a public auction, and away you go.

THE MLS

This point is really just piggybacking off the last one regarding realtors. You will NOT be able to find the actual listings with the key words I gave above as you cannot refine your search this finely on www.mls.ca so in other words, “talk to your realtor.”

COURT WEBSITE IN YOUR AREA

Foreclosures are regulated provincially, so by searching the court websites you can usually get a list of “chambers applications” or “chambers hearings” going on in the court in your province. Now, this is a tricky bit of research, because they don’t label the hearings as “foreclosure hearings,” or anything that obvious. Here is how you have to do it:

Look at all the rooms in the court building (on the website) and click on a list of hearings or applications going on that day. Obviously, a hearing with the name “James vs. Michaels” is likely not a foreclosure hearing. Also, if it is a matter pertaining to family law, for example, it isn’t a foreclosure or real estate hearing. As I said above, most of the applications pertaining to property will be chambers applications in front of a Master (usually not a judge) and will be labelled as, “Bank of Montreal vs. Smith” or “Royal Bank of Canada vs. Matthews” or somethere whereby it is clear that a bank is challenging an individual (or corporation) on some matter.

So you look at the list and see ONE that says “Bank of Montreal vs. Smith” and then you see “Bank of Montreal vs. Johnson” and “Bank of Montreal vs Williams” and you should be cluing in that the bank is doing ALL their hearings on one day (usually represented by the same law firm to save on legal fees) and that these are the hearings. Usually, these days only happen once a week or so, so you will have to watch the court websites daily. It can be a tiring process, but once you identify the hearings are going on, you can go to the courts, get the names of the people involved, and either search them out conventionally through phone book and white pages, or you can get court transcripts or pull up the judgements (this is ALL public info, by the way) and contact the people via mail (remember the do-not-call list and you likely should’t call them).

So that is how to find foreclosures (or pre-foreclosures in the case of the court info I gave). Other than these techniques, word of mouth, or actually being in the industry it is NOT as easy as the “experts” that offer high priced real estate courses will tell you. It takes time, diligence, and a bit of ingenuity, but it can save you a lot of money (or make you a lot of money) if you do it.

Buying Foreclosures, Pre-Foreclosures, and Court Ordered Sales

Saturday, October 25th, 2008

There is a lot of talk amongs real estate “investors” and specialists saying that the key to buying real estate at low prices is to find foreclosures, pre-foreclosures, court ordered sales, and other distressed sales.

IS THIS A VIABLE METHOD OF INVESTING IN REAL ESTATE?

This is not an easy answer. The quick answer is NO. Otherwise, everyone would be doing it. The longer answer is “it depends who you know.”

Let’s address a few of the terms that are being tossed around, and see how they apply to the Canadian market.

FORECLOSURE

This is the process whereby a lender takes the property away from an owner if they miss too many payments. Usually, the process is about 6 months long starting with an “Order Nisi” into court and ending with an “Order Absolute” when the property is taken away from the borrower and given to the lender. Usually, it doesn’t get this far, and a “Order for Sale” is given and the lender will usually sell the place (possibly by also taking possession and kicking the people out of the home).

PRE-FORECLOSURE

This is a very misleading term that a lot of experts are telling clients to search out. Clients are being told to see out pre-foreclosure by looking for signs of “distressed sales,” or other terms that describe highly motivated buyers. Pre foreclosures are very, very hard to find without having an “in” in the industry. As a mortgage broker, often dealing with a lot of distressed sales, I cannot tell people about my clients in situations that they are being told to seek out. In other words, any broker telling you about specific foreclosures is often violating the confidentiality of their clients. There ARE cases, where the clients are OK with this (for example, when they want to sell desperately), but in most cases those people being foreclosed on don’t want to sell. They want to keep their home just like anyone else.

So where do you find pre-foreclosures? There are often several lawyers in town that deal with foreclosures, and they MAY be willing to provide you with names and addresses of properties that are nearing foreclosure. Alternatively, a broker (me for example) who deals with a lot of hard financing and hard situations may have some clients that are seeking to get out of the property. With proper written permission, I, or other brokers like me who deal with a lot of difficult financing situations, can provide you with people who are highly motivated sellers. However, dont’ expect this information to be widely available for the public at large. You are going to have to work for it, and it won’t be easy. If it was, EVERYONE WOULD BE DOING IT!

The last way to find pre-foreclosures is to look at what is being heard “in chambers” in the local provincial courts. For example, if you go down to the courts you can see what is being heard that day, and if you see “Royal Bank of Canada vs. John Michaels” (for example) you can be relatively sure it is because the bank is starting an action against Mr. Michaels, and it is usually due to a possible foreclosure beginning. This info is also available online on the provincial court websites (depending on what province you are in). However, it will NOT say “Foreclosure Hearings” conveniently labelled. It will take a bit of deduction and work to figure it out because you are trying to get very private info. Again, if it was easy, EVERYONE WOULD BE DOING IT!

COURT ORDERED SALE

Oftentimes, when there is a first and second mortgage holder, the clients may fall behind on payments to the first mortgage holder (often the larger of the two) and have problems making their payments. This will put the second mortgage holder at a disadvantage, because if the first mortgage holder gets an “Order Absolute” it will wipe out the second mortgage holder’s claim. This usually takes at least 6 months, and is a huge song and a dance from a legal perspective, so it tends to result in interest piling up and further equity being eroded. Now, this is a simplification of the process, but if the second mortgage holder sees their equity being eroded with interest (or a falling market) they can apply to the court for Conduct of Sale granting them the rights to sell the property for a fair price to pay out the first mortgage, and themselves, and ensure they don’t lose money on the deal. In order to be granted this, they usually have to demonstrate that their equity is in jeopardy by way of appraisals or other market valuation techniques accepted by the courts. In a falling market, with interest piling up, they will usually be granted an order for sale unless a massive amount of equity exists.

So, when reading and hearing about “Court Ordered Sales” you are hearing about highly motivated sellers. However, don’t expect to waltze in and pay pennies on the dollar. The court still overseas the sale price, and makes sure that the price that is received is fair market value. For this reason, just the fact that someting is a court ordered sale doesn’t automatically make it a “deal.” You still have to do your homework and find a motivated seller through the methods I list in the section above regarding pre-foreclosures.

SUMMARY

The process of seeking our foreclosure and “pre-foreclosures” is not a cut and dry issue whereby you can simply find someone willing to give you a “list.” It takes effort, ingenuity, or industry contacts to track them down, and even then, they might not be a great deal. You still need to look at the direction of the market, the cost of the property, and whether or not it is highly marketable in order to discover how good the purchase really is.

Remember, if it was super easy, EVERYONE WOULD BE DOING IT!

Purchasing a Recreational Property – Vacation Property Financing

Friday, August 22nd, 2008

This is part three of my three part series on refinancing to invest or buy other property types.

Many buyers assume that the rules that apply to buying a recreational (vacation) property are the same as those that apply to buying a home. This is incorrect. The rules for obtaining financing on a recreational home are very different as there are a number of new concerns that the buyer likely doesn’t face on their existing home.

When purchasing an owner-occupied property (your home in which you live) the government will let you purchase with 5% down (until October 15, 2008 you can actually buy with 0% down). However, when purchasing a vacation property (which likely does not have a steady rental income) you will be expected to put up a larger down payment. If the property is VERY rural and is, say, located on an isolated lake with no power and a gravel road, you likely will have to put up a much larger down payment (could be as high as 35% or 40%) depending on the property. When most buyers see 35% down they immediately ask “why???” and the answer is not straightforward. However, if it was summed up in a single word, it would be “property.”

HOW PROPERTY AFFECTS THE BANK’S SECURITY
When the bank does a mortgage on a property, they are looking at the deal as a “what if the worst case scenario happens ” type of basis. They want to be sure that if they have to foreclose on the property and take it away from you, that they can sell it in a reasonable amount of time and get their money back. Recreational properties (rec properties for the rest of this article) are much harder to sell in a quick sale, and often stay on the market for many months (or even years) before a buyer makes an offer. This problem is amplified even further if the property is located in a very remote location. If the property is just raw land that you intend to use for future construction, financing may not even be possible at 50% of the price as lenders will have an even harder time offloading the property in the event of a foreclosure. If you go far into arrears and are unable to make payments (regardless of the reason) the bank could be using that money elsewhere with a paying client. There is an opportunity cost that they face by lending you the money – that cost is the opportunity of lending it to someone else. If you are in arrears, and as the arrears pile up, the equity you have in the property gets eroded more and more with each passing month. If the bank is foreclosing and they want to drop the price a bit to get a faster sale, they can’t if the interest has piled up and if you didn’t have a large down payment in the first place. For this reason, they will want a larger down payment the further and further out the property gets and the more remote its location. For this reason, the property is the most important issue.

A FEW NOTES ON INCOME
You will need to be able to show sufficient income to cover your existing mortgage payments (if applicable), all other debt payments, and the new mortgage payments. While this sounds straightforward, it becomes surprisingly hard if you are paid commissions, work a lot of overtime, or are self employed. While proving the income might not be impossible, doing so in a manner that satisfies the lender that you can afford the payments may be difficult.

WHAT ABOUT THE SEASONAL RENTAL INCOME THAT THE PROPERTY MAY GENERATE?
Perhaps you have plans to rent out the property most of the year to vacationers and only use it yourself for a few weeks a year. This could generate a healthy bit of income. However, this is a very tough number to predict unless you have a regular tenant in the property, and in most recreational areas, this is not possible. Unless there is a contract with a certain amount of rental income guaranteed every month, the bank will not factor in any rental income. If they do, this property couldn’t be used for recreation and would be a standard investment property and would fall under standard investment property guidelines. Given the importance of property to a bank’s lending decision, a recreational property would likely make a poor investment as rental income would be very limited if at all available – depending on the property’s location.

THE IMPORTANCE OF RATE
Many times, banks flat out refuse to finance certain recreational areas or rural areas due to internal policy. There can be a number of reasons for this, but it is usually driven by the bank’s own guidelines and desire to lend on properties in “prime” areas that are saleable quickly and with minimal hassle in the event of foreclosure. If the banks decline you, that does not mean you cannot get financing, however. There are several non-conventional or non-conforming lenders that will charge a higher rate of interest, but who WILL lend on hard to finance properties. Many of these lenders (perhaps 99% of them) only deal with mortgage brokers, and for this reason you should seek out the services of a qualified mortgage broker who can connect you with lenders across the country that will lend on rural or rec properties. This is commonly referred to as “Private Financing” and is often more expensive. Private mortgage rates, historically, have ranged from 9% to 15% depending on how rural the recreation property is, what percentage of the property’s value you will be borrowing, and the credit worthiness of the borrower. The good thing about private financing is that income often doesn’t matter, and for this reason, a lot of recreational properties are financed this way.

WHAT IF THE LAND MAY HAS A LOT OF DEVELOPMENT POTENTIAL OR LARGE ACREAGE
This actually makes financing even harder as the banks generally do not like to finance raw land. They usually will only lend based on the house (or cabin) on the property and 10 acres of land. Otherwise the deal becomes predominantly a land deal and they treat it as such, even if it has two homes on it! Development potential is also very difficult to finance because the banks are being asked to lend money TODAY based on the value TOMORROW. This is something that they simply will not do. If a property has a lot of development potential built into the price, or is very large acreage, this can make financing it very difficult.

DETERMINING VALUE
When you are buying a rec property for, say, $200,000 the banks will only lend whatever they will lend. However, they will not base it on the purchase price. They will base their willingness to lend on the “appraised value” of the property. They will almost certainly demand that an appraiser (often from their list of approved appraisers) drive to the property, walk around on and in it, take photos, and prepare a lengthy and detailed report. In a normal purchase of a normal property in a city, the cost for this usually is less than $300. However, with a recreational property, often in a remote location, the appraiser has to drive far out of their way to get to the property and the cost can run as high as $800 or $1,500 depending on the lender’s requirements. For this reason, it is good to have an appraisal in hand BEFORE going to bank for financing as it will guide their decision much more strongly than in traditional purchase situations.

Clearly, there are a lot of concerns when buying a recreational property, and it is a good idea to talk to a mortgage broker that is used to financing properties in remote locations with unique characteristics. As their advice often costs nothing to obtain, it is in your best interests to seek one out to shop for you and get the best rate, terms, and structure that fits your unique financial situation.

Purchasing an Investment Property – Using Equity or Refinance

Friday, August 22nd, 2008

This is part two of the three part series on refinancing.

Many clients have built up equity in their home and would like to use this equity to purchase an investment property. The benefits of this can be large, but there are costs and concerns that an investment buyer needs to be aware of. It often is not enough just to have the equity in your home. In 99% of cases you will need to restructure your current mortgage and physically take the cash equity out of your property to put as a down payment on the new property. This may result in you paying an interest penalty with your current mortgage lender roughly equal to three months worth of payments (this is the standard in the industry, but not always applicable – contact your broker to determine what penalty will apply). This brief report will outline the costs and process for buying an investment property.

For the purposes of this discussion, we will assume that you bought a home 4 years ago for $250,000 with 5% down. The property has since appreciated and is worth $400,000 and your mortgage has been paid down to $200,000 leaving you with $200,000 of built up equity that is not working for you. You see a condominium that you want to purchase as an investment and want to minimize the fees and taxes that you will pay, so you speak to your broker about the best financing option to make this happen for a condo that costs $300,000 to buy.

It is best to put at least 20% down payment on the new property as this avoids costly CMHC fees, and also keeps the mortgage amount lower so that the rental income may cover most of the payments that you have to make to hold the property. In this case, the scenario looks as follows:

$400,000 Value of Your Current Home Today
$200,000 Mortgage remaining on your current home
$200,000 Equity built up in your property

$300,000 Price of the new investment condo (rental property)
$60,000 20% cash down payment required to avoid fees
$240,000 New mortgage required

In this case if you talk to your broker, they can advise you on the best way to tap into that equity. It may be to keep your existing mortgage and get a line of credit. The best option for you, depending on your situation, may be to refinance your home, pay out your existing mortgage, absorb the penalty, but get a lower overall rate and payment with savings sufficient to offset the payment over the term of the mortgage. This is a complicated analysis that is VERY dependent on your job, the stability of your income, your other debts and payments, and the values of the properties in question. Unless you are a financial analyst by profession, don’t leave this type of analysis up to yourself. Using a mortgage broker costs you nothing, and they are experienced in advising clients on what the best structure is for them. There are many permutations and ways that this structure may look, so take the time to seek professional advice.

Once you have decided to purchase the property, and you have been approved by your broker, you need to consider your “closing costs” as well as your “carrying costs.” Closing costs are those costs that you will need to pay up front, in cash, to buy the new home. Carrying costs are the monthly ongoing costs to carry the mortgage and own the new property as a rental.

The closing costs you will face when buying an investment property are (not all are always applicable):
1. Property Transfer Tax (in BC, on the $300,000 condo this would be $4,000 of tax)
2. Legal Bills to purchase the property (roughly $1,200)
3. Appraisal Costs to determine the value of the new property by a qualified professional (roughly $250)

The carrying costs that you will need to budget for are:
1. Your monthly mortgage payments (on the existing home AND the new property)
2. Annual Property Taxes (as this is not owner-occupied you pay the full property taxes without the $570 BC grant)
3. Monthly strata fees (if the unit is a condo, townhouse, or other multi-family unit)
4. Utilities not covered by your tenant agreement (can vary widely)

The costs you will face when you eventually sell this property are:
1. Realtor commissions (Assuming you sell it for $400,000 in 5 years, the stand commission will be $14,500 in BC
2. Capital Gains (you have to pay taxes on your profits!)
3. Legal Fees to sell the property (roughly $1000)

Do not overlook the taxes! Oftentimes this is the single largest number and has turned many an apparently lucrative deal into a break-even scenario. You should be prepared to sit down with your broker and do a cost analysis before putting in an offer on the property.

Lastly, it is important to mention the just because you have built up equity in the property does not mean that you automatically can be approved for the new mortgages. There are many factors that the bank takes into account when “qualifying” you for the mortgages such as verifiable income (in Canada), credit history, other debt payments, potential rental income on the new property, and a myriad of other factors. Your broker is the best person to talk to about all of these issues as the can answer you, before you spend any time and money, on whether or not the situation is realistically going to get approved. As your broker charges no fees for this consultation (at least, they shouldn’t), you can get the free advise required up front and no fee for their services if and when you decide to buy a rental property.