Rental Property Calculator
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Special Rental Property Mortgage Rates
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Purchasing Investment Properties
Investing in real estate is one of the best ways to build wealth in Canada. Many factors positively influence your net worth, including tax benefits, leverage, cash flow and appreciation. The mortgage down payment required for your investment property depends on if you will be living in a unit.
If you live in one unit of a multiplex up to four units total, you may meet eligibility requirements for CMHC insurance. This allows you to pay a minimum of a 5%-7.5% down payment depending on the multiplex valuation. However, the purchase price can’t exceed $1 million.
If you will not be living inside your investment property, then you will usually need to make a minimum down payment of 20% to qualify for a commercial mortgage. However, you may be eligible to fund this down payment with the home equity of your primary residence. If your rental property will have more than five units, you may be able to qualify for CMHC’s new MLI Select program. This gives certain incentives, such as an amortization of up to 50 years and a max LTV of as high as 95%, if your property meets certain targets.
For example, you can refinance your mortgage or take out a home equity line of credit (HELOC) for up to 80% of your primary residence’s value. If your home value is $500,000 and you have a $100,000 mortgage remaining, then you can borrow up to an additional $300,000 to use as a down payment for an investment property mortgage.
If an investment property costs $500,000, you can borrow $100,000 from your principal residence equity as a down payment. However, you still have $200,000 remaining from the initial $300,000 you borrowed to invest in more properties.
Using the equity in your home to invest can be a way to grow your assets quickly, and you may even use the equity in your investment properties to further purchase additional properties. However, this type of leverage can be hazardous and relies on housing prices increasing over time. Canadian mortgage rates will also significantly impact your returns and cash flow.
Rental Income
Gross Rental Income is the equivalent of business revenue. It’s the total amount of money you will get from renting out your property before accounting for costs or expenses. It is calculated by multiplying the monthly rent by 12 (i.e. one year) and then factoring in the vacancy rate.
Rental Income Formula
The vacancy rate (%) is the portion of time your property is empty and not making money. Another way to think of a vacancy rate is when your property is making money, which is calculated as (100% - Vacancy Rate).
The Net Rental Income deducts the operating expenses of owning a rental property from your Gross Rental Income. These expenses include but are not limited to:
- Property Tax
- Insurance Expenses
- Maintenance Expenses
Your rental income can also be impacted by tenant-landlord disputes, which can largely be avoided by conducting a tenant background check before renting out a property. This will save you from going through the process of evicting a tenant.
In the calculator, we have also included financing costs such as loan or mortgage payments to show you the actual income you will receive from a rental property.
We build upon the prior rental income formula to get:
Renting out Properties
You can rent it out once you own an investment property to generate rental income. This may even include short-term rentals, such as Airbnb. There are two ways to look at rental property income:
- Cash flow approach: One approach is aiming for rental income to completely cover the costs of the property, such as the mortgage payments, insurance, property taxes, and maintenance. Investors using this approach will want to have a positive monthly cash flow. For example, a rental property might have a $2,000 monthly mortgage payment. The owner will then aim to rent the property for more than $2,000 a month while ensuring they will have enough to cover annual taxes, insurance, and leave room for profits.
- Appreciation approach: The second approach is to ignore the cash flows of an investment property, and instead look towards the home’s value. The intention is that most of the gains will be from increases in the house’s value, while rental income is a bonus. For example, an investor might project that the value of their $500,000 home will increase by 5% every year. That would equal a $25,000 gain in the first year, or just over $2,000 a month. If the mortgage costs $2,000 a month, the home’s value’s unrealized gain covers the mortgage payments. The amount of the rental income would then be supplemental income.
However, the appreciation approach is not always recommended. The investor will need to cover out-of-pocket shortfalls if their regular rental income doesn’t cover their expenses. For example, if their rental income is $1,500 a month and their mortgage payment is $2,000 a month, the investor will need to make up for the $500 a month shortfall every month. There’s no guarantee the property will appreciate either, which means that they would be renting at a loss.
Being a landlord also involves a certain level of work. You will need to find and manage tenants while also overseeing the property. You can use a property management company or hire a property manager, but that will cost money and eat into your income.
Can I rent out a room in my house?
You can rent out a room in your house if you are a homeowner. For example, you might have a spare room that you want to rent out. You will need to check if your local bylaws and building codes allow specific units to be rented out, such as a basement or in-law suite. You may also need to check your mortgage and insurance agreements to see any restrictions against renting out a portion of your home.
Capitalization Rate
The capitalization rate is the real estate equivalent of a price-to-earnings ratio. It’s a metric to assess an investment property’s profitability compared to its current market value. A higher cap rate shows a property is more profitable than the market value. However, a property may have a high cap rate because of many maintenance issues or difficult tenants, which lower the market value. Typically, a reasonable cap rate ranges between 4%-12%. For an in-depth explanation on cap rate visit our Cap Rate Calculator
- Rental Yield: Instead of using the current market value in cap rate, you can divide net operating income by the original purchase costs of the property. This is known as rental yield. Rental yield will always be higher than the cap rate because you divide NOI by the down payment, rather than the complete value of the property.
The net operating income (NOI) is the property’s annual income minus any expenses incurred. For example, if a property is expected to receive a rental income of $50,000 in a year with costs totalling $20,000, the NOI would be $30,000 ($50,000 - $20,000). If the purchase price of the property was $1 million, then the cap rate would be calculated as:
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Best Places to Invest in Rental Property
| City | Multifamily Cap Rate Range |
|---|---|
| Victoria | 3.50% to 4.00% |
| Vancouver | 2.75% to 3.50% |
| Calgary | 4.75% to 5.50% |
| Edmonton | 5.00% to 6.00% |
| Winnipeg | 5.00% to 5.75% |
| Kitchener/ Waterloo | 3.50% to 5.00% |
| Toronto | 3.75% to 4.50% |
| Ottawa | 4.50% 5.00% |
| Montreal | 4.25% to 5.25% |
| Halifax | 5.50% to 6.25% |
Source: Cushman Wakefield Q3 2021 Cap Rate Perspective Report (Multifamily, Class B)
Note that cap rate for multi unit properties is often much higher than cap rate for single unit properties like a detached or a semidetached home. Using the cap rate metric is a great way to analyze places to buy a rental property quickly. For example, an investor might immediately rule out British Columbia after seeing the low cap rates in Victoria and the Vancouver housing market. The low cap rates in these cities are likely due to high housing prices.
A low cap rate provides you with a lower return on investment. For example, a 4% cap rate in Victoria means you receive $4,000 in profit annually for every $100,000 you invest in real estate. This is $2,250 less than the $6,250 you’d receive annually for the same investment in Halifax.
However, it’s not just about buying a property at rock bottom prices. You should also look for towns that are experiencing growth and have solid home appreciation.
If you’ve never bought a rental property before, look at small towns with an excellent job market and affordable home prices. However, if you already have one or more rental properties, consider looking at larger cities with strong job markets.
Return on Investment
Return on Investment (ROI) is a term used in many contexts, but what it boils down to is a metric that measures the efficiency of the return on an investment (i.e., the income from our rental property) relative to the initial investment. In a more simple context, ROI can help us answer the question of whether an asset is a good investment or not. Below is the formula we use to calculate ROI.
The best way to understand the above formula is with an example. Imagine purchasing a property with a $100,000 down payment. Your investment cost will be the $100,000 down payment plus additional closing costs. Assume your closing costs are $9,000, meaning your total out of pocket expenses are $109,000.
Next, imagine renting this property for $2,700 per month with an occupancy rate of 100%. At an interest rate of 5%, you’ll need to pay $19,608 in mortgage interest during the first year. This nets to $12,792 for the year after interest payments. However, this is not your profit because there are additional annual fees such as property taxes, insurance, and maintenance costs. Imagine these annual fees add up to $4000 per year.
To calculate your NOI, you subtract the $4,000 in annual fees from the $12,792. This leaves you with an NOI of $8,792 for the first year. To calculate your ROI, you divide this number by the initial out of pocket amount - $109,000. The final ROI is 8.07%. Each year your payments reduce the principal amount of your mortgage, decreasing the interest you pay. Thus as time passes, your NOI and ROI increase.
Both Cap Rate and ROI are profitability metrics in investing, but if you compare the above formula with the cap rate formula, the ROI calculation considers financing. That is why if you decide to invest in property, it is essential to know about your financing options.
How to Find a Rental Investment Property
When searching for a rental property, look at areas that have a high number of jobs and where home prices are affordable. For example, you should not buy a house in downtown Toronto if it’s 10 times the price of a house in downtown Hamilton.
Once you have found an area of interest, make sure to prequalify for a mortgage before talking with qualified real estate agents in the city. These agents will guide you to up-and-coming neighbourhoods that are great for investment. Expect to analyze lots of deals and don't be afraid to pass up bad ones.
Compare the rental income, cap rate, and ROI of deals with our rental calculator. Also, ensure you have the required mortgage approval documents to expedite the process. When you have found a property you like, make a conditional offer. Don't be upset if your offer isn't accepted. In competitive housing markets, you have to make upwards of 10 offers to secure your investment property. After finalizing a deal, you may also want to improve the property. In this case, a home renovation loan could be right for you.
Passive vs Active Investing
A common misconception of rental property investing is that it's a low-maintenance method to build wealth. Any landlord knows this is not true. As mentioned above, you will need to manage tenants, while maintaining the property. Although you can hire a property management firm, they are generally expensive for small investors.
However, the tradeoff with owning rental property is that landlords typically experience a higher return on investment than the passive alternatives mentioned below. It depends on what you are looking for as an investor - a higher return with more work, or less work with a lower ROI. You should consider whether you want to be a passive or active investor when deciding your real estate investment strategy.
| Rental Property (Toronto) | REITs ($VRE.TO) | Stocks ($VFV.TO) | |
|---|---|---|---|
| 5-year Appreciation CAGR* | 46.27% | 10.86% | 16.61% |
| Current Yield** | 2.57% | 2.73% | 1.06% |
Data Taken January 20th, 2022.
*CAGR assuming 25% initial purchase expenses **Yield assuming 30% NOI margin, 25% purchase expenses.
Investing in a REIT or a Rental Property
Investing in Canadian Real Estate Investment Trusts (REITs) is a great way to cheaply own multiple investment properties with the click of a button. There are many different types of REITs to help you diversify into properties such as residential, commercial, industrial for as little as $1.
While REITs lower the barriers of entry into real estate investment for many, they generally charge fees and provide a lower return on investment than owning rental property. Although rental properties require more work, there is the benefit of home equity that allows you to finance more rental property acquisitions
Investing in Stocks or a Rental Property
While stocks and rental property both generate returns through equity appreciation, there is a big difference between the two investments. Stock prices experience volatility which can result in significant losses.
Real estate prices move slowly but generally increase. This means you will generally not wake up to a 10% drop in your property valuation. Additionally, it is far riskier to buy stocks with leverage than real estate.
However, for those looking for increased returns and less volatility, a balanced portfolio of stocks and rental properties is a great option. With this strategy, you can invest in both the stock market and real estate for increased diversification and income generation.
Income Tax Consideration
The rental income you are producing should be reported on your tax return and will be taxed the same way as employment income. But you can claim all your expenses, including the depreciation of the building you are renting, as deductions to reduce your payable tax.
The Bottom Line
Overall, investing in rental property is a great way to grow your wealth. The major benefit of rental property investing is home equity which you can then use to purchase more investment properties.
If you are comfortable taking on the responsibility of managing tenants and repairing toilets, becoming a landlord is something to consider. You may just find it's what makes investing in real estate so rewarding.