By Michael Dominguez
When it comes to investing in real estate, taking action sounds easier than it is. You can do the research, build your team, and find a property, but the act of preparing an offer and actually getting a property under contract can be frightening. The what-ifs start to bounce around in your head, which can lead to what is known in the industry as “paralysis by analysis.” I want to help you get over this paralysis.
My advice to any investor is to set forth by choosing a market (or two) in which to invest. The market may or may not be close to where you live. The most important thing I look for in determining a market to invest in is this: does it contain the proper fundamentals that are likely to make it continue to be good market going forward?
I look for markets where the demand for real estate is strong—areas that have good job growth, an increasing population, strong transit and infrastructure, and where real estate values have been rising. I love the Greater Toronto Area because I don’t know of a potential scenario in which Toronto wouldn’t be a select place to live going forward. Because I look for properties with some cash flow opportunities, I look at the suburbs. I personally invest in the Durham Region (including Oshawa and Whitby).
I apologize for this ’80s movie reference, but when I consider buying a property, I imagine taking my DeLorean 10 or even 20 years in the future. What will the property and market I’m considering look like? If the property is in a thriving market, with a strong economy, I’m interested. I have learned to bypass the questionable locations within a market—I don’t really care how good of a deal I get on the “buy.” If it means that I would be investing in a subpar location and would have to deal with mediocre tenants who likely wouldn’t respect my property, I take a pass.
No one can guarantee a return on investment, but if the market you have chosen has the right fundamentals, there is no reason to think that real estate values won’t rise as the population, (and therefore housing demand) increases. Let’s say you experience a 5% average growth over the time you own your asset. Not bad, you might think, although my mutual fund got an 8% return last year. But don’t forget about the power of leveraging: because you only used 20% of your own money for your real estate investment, this means the asset was worth five times your investment (20% down represents one-fifth of the total investment). And that 5% growth was on the entire value of the asset.
Let’s look at an example. Say you bought a house for $400,000, in which case you have you would have had to pay an $80,000 down payment. If the value appreciated by 5% over the past year, the property would now be worth $420,000. That $20,000 rise in value came from just an $80,000 investment—this, my friends, is a 25% return in the first year. Now, as they say on the game shows, but that’s not all! Add in the mortgage paydown and any cash flow the property generated, and you are looking at a return north of 30% annually.
Which brings up something exciting about Canadian real estate. One can purchase an asset that will generate enough income to support all of the property’s debts, including financing. This is known as a cash–flow generating property. What’s really cool is that, if you decide to move forward on the purchase, the banks will loan you 80% of the value of that investment at remarkably low interest rates. Try to get that loan-to-value ratio when starting a business or when purchasing stocks or mutual funds! Even better, in order to obtain that 20% down payment, one can use a line of credit secured by another real estate asset. This may not seem like a shock to you; in fact, it may seem like common knowledge. But I can assure you that sophisticated lenders like banks simply don’t loan out funds like that for any other asset class, and we are uniquely privileged in Canada (good luck getting these terms if you invest in real estate the Caribbean or most other countries). Banks aren’t offering these terms because they’re being nice guys, they’re doing it because of the safety of this kind of investment.
Like I tell my investors, if you can get your hands on three cash flow–generating investment assets in a market like the Durham Region and you can manage to hold them for 10 years, as long as they average an appreciation of 5%, then you, my friend, are a millionaire, as just those three properties alone will generate a net worth of more than that.
But will there be a correction at some point, I am sure you are thinking. My answer to that is, absolutely. In my adult lifetime so far, there have been two corrections. But we are buy-and-hold investors; we are buying properties that support themselves and that can withstand a downturn. If we bought smart, I am confident that demand will remain or return through a tough time. But we aren’t as concerned about those two years during which real estate values dropped 10–15%. Over the next 10 years, don’t expect every year to be exactly a 5% increase. One year it could be a 10% decrease; one year it could be like has happened in the past 12 months in Durham (Oct 2015–Oct 2016) and the values are up 27% year over year.
The other what-ifs are mostly useless noise:
- What if the demand drops? This is unlikely, as the population in Canada is rising and we all need a place to live, especially in the winter.
- What if interest rates rise? Nearly all top economists are predicting no significant rise in rates over the next few years, but even if the rates are higher than expected, your extra cash flow can cover that shortfall.
- What if I can’t rent out my place? If you are in an area of low vacancy (do your research) and your place looks nice and is in a good area, I am confident that with some reasonable advertising, you will find a good tenant.
- What if something bad happens to my place and the necessary expenses exceed my budget? Don’t stress out. That will happen one year; hopefully not the first year, but even if it does, think of it as short-term pain for your ultimate goals.
- What if the tenants don’t pay the rent? Careful tenant selection can reduce the odds of this, but it will happen at some point. Again, deal with it.
- What if there is a complete market collapse or even a zombie apocalypse? I think any other investment would also be suffering at this point, and in the second case, your priority likely wouldn’t be real estate but in fact avoiding the zombies.
I will leave you with this advice: Build a team in the market you select. See some properties and determine if you can find any that will support the monthly expenses. Speak to other investors who are taking action and having success in that market. (I actually conduct investor tours in my market, allowing multiple investors to meet and learn from my team and from each other.) Then, take action—figure out a way to get it done. I have been the poster child for making mistakes with my properties and, despite that, I have built net wealth I really didn’t think was possible just a few years prior. What separates the most successful people from the others is, simply: action. Those who took action won the day, the week, and the year. If you achieve success remember to repeat that action, and more success will follow.
I would wish you good luck in your journey, but instead I will just say, take action and make your own luck.
Michael Dominguez is an investor and award-winning Realtor® specializing in cash flow–generating properties in the Durham Region of Southern Ontario. Michael and his team work with new and veteran investors and assist them in learning more about real estate investing and in eventually taking action on their real estate journey. You can check out the team on their website www.durhamhome.ca or you can e-mail them directly at email@example.com.