Brent and Janice have one over-arching goal at the moment: to improve their financial situation. Doing so will involve studying part-time to upgrade their professional designations. Together, they bring in $142,000 a year. He is aged 37, she is 36. They also want to save for their toddler's higher education.
Like so many people, they are turning their attention to real estate. They'd like to buy a townhouse at some point and keep their B.C. condo to rent out. In the meantime, they are thinking of buying a share of a sibling's condo in Toronto as an investment.
"We love our travelling lifestyle once a year, and small pleasures here and there – eating out, buying nice gifts once a year," Brent writes in an e-mail. "But since we had our son, we started thinking of what else we should be doing to improve our financial health," he writes.
"My sibling would like to sell a portion of his Toronto condo to us along with my other siblings," Brent writes. "We are contemplating if this is actually a good opportunity to jump into the rental market since we would own only a portion of the mortgage," Brent adds. "But is it a good risk?"
He also asks about saving and investing for the long term. "With our reasonable way of living, I am proud that we can still save even just a bit," Brent writes. They wonder whether they should invest their savings more aggressively.
We asked Ngoc Day, a financial planner and portfolio manager at Macdonald Shymko & Co. Ltd. in Vancouver, to look at Brent and Janice's situation. Macdonald Shymko is a fee-only financial-planning firm.
What the expert says
Brent and Janice can expect their salaries to rise as they upgrade their education, Ms. Day says. Even so, they need to rethink their plan of venturing into the condo rental market. They don't have the cash flow to comfortably carry the increased debt load, she says. "Lack of portfolio diversification is another problem."
Janice and Brent have $155,000 in savings that they could use toward the purchase of a larger home, the planner says. They are contributing to a registered education savings plan for their son and both have unused RRSP contribution room. They currently have a monthly surplus of about $655 before RRSP contributions, Ms. Day says.
Based on the numbers Brent provided, net income from the jointly owned Toronto condo (after condo fees, mortgage payment, insurance and property tax) would be about $45 a month. If they do buy, they will need to set aside some money for maintenance and repairs, special assessments and periods when they have no tenants, the planner says. "They must also be prepared to bear the burden of rising mortgage rates."
Under the federal mortgage rules announced last October, new mortgage applications will be subjected to a stress test to ensure borrowers can still manage the loan with higher interest rates.
"Taking on the Toronto condo mortgage could potentially reduce the amount of mortgage they can afford when it is time to upgrade to a larger home," Ms. Day says. They estimate a townhouse will cost $600,000. They could rent their existing condo for $1,600 a month. The expenses (mortgage payment, condo fees, property tax, home insurance) total $2,093, so they would face a monthly shortfall of $493, the planner says.
The monthly shortfall would virtually wipe out their surplus cash flow and leave them with no wiggle room, Ms. Day says.
They would still have to finance the purchase of the new townhouse. As a rough estimate, ignoring closing costs and land transfer tax, a mortgage loan of $445,000 ($600,000 purchase price less $155,000 down payment) at a 3-per-cent interest rate with a five-year term and 25-year amortization would require a payment of about $2,100 a month. "Their current cash flow does not allow for the extra mortgage payment," the planner says.
Instead, they could sell their current condo and apply their home equity and liquid savings to the larger home, Ms. Day says. While they are waiting to find the right townhouse at the right price, they could save some income tax by directing their surplus cash flow to Janice's RRSP. Because she is in a higher tax bracket than Brent, this would bring greater savings.
Alternatively, they could consider using a portion of the money in their tax-free savings accounts to maximize Janice's RRSP contribution, then use the tax refund to pay down their mortgage principal, the planner says. At Janice's marginal tax rate of 31 per cent, paying down the mortgage at 2.59 per cent is equivalent to earning a before-tax return of 3.75 per cent.
As for their investments, they should make sure their asset allocation is suitable for their circumstances and risk tolerance, including their emotional capacity to withstand market downturns, Ms. Day says. They should consider a balanced portfolio, diversified between fixed income and equity, with the equity categories well-diversified across the globe.
The people: Brent, 37, Janice, 36, and their two-year-old son
The problem: Will investing in a rental condo help improve their financial situation?
The plan: Forgo investing in the shared rental condo. Sell their existing condo and use the proceeds to buy the larger townhouse.
The payoff: Financial security. They will avoid stretching themselves too far and ending up in a cash-flow crunch.
Monthly net income: $7,450
Assets: Savings $155,000; savings account for child $8,000; home $385,000; his TFSA $23,250; her TFSA $26,900; his RRSP $23,600; her RRSP $15,100; RESP $4,500. Total: $641,350
Monthly disbursements: Mortgage $1,730; condo fees $230; property tax $85; home insurance $50; electricity $85; transportation $440; groceries $450; child care $1,300; line of credit $100; charitable $85; vacation, travel $815; dining out $215; sports, hobbies $100; life insurance $255; cellphone, TV, Internet $170; pension plan contribution $475; RESP $210. Total: $6,795. Unattached savings: $655
Liabilities: Line of credit $900; mortgage $291,000. Total: $291,900
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