The Fluidity of Managing a Real Estate Portfolio
A question I commonly receive while doing a seminar is, “Alex, when are you going to stop buying? When will it be enough?” As it stands, my portfolio includes 11 properties. I constantly come across opportunities and because I live and breathe this industry, I can allow for a little more risk in my portfolio than a traditional investor. Those who are less involved in the industry tend to have a smaller portfolio.
It’s important to treat your portfolio as a fluid portfolio. My portfolio began in 2012 when I purchased my first pre-construction property and it has continued to grow as I invest in them every year. Though things in the real estate industry were very different back in 2012 and continue to change, such as amortization periods, stress tests, and interest rates, I continue to buy condos because of the fundamental strength the Toronto market will have over the short, medium, and long-term periods, as well as the passive nature of condo investments.
One aspect that most people can find very stressful is the fact that, after buying a pre-construction property, they will eventually have to finance it and get a mortgage to solidify the property. I’ve found that mortgage stress is the greatest stress out there. It can and has caused sleepless nights to many including myself. People ask themselves, “How am I going to close this deal? Where is this money going to come from?"
Normally you get a good idea of a project’s completion date about a year out. This is when you do your due diligence and figure out what you’re going to need to do to secure the mortgage for the condo. Typically you'll go to one of the top tier lending banks and the process will be fairly easy. However, it gets more difficult after your fifth condo because banks have financing limits and each has their own specific rules and regulations and it's important to understand these. For example. some banks won't finance small units - TD bank’s regulations are set at 400 square feet and Scotia Bank is currently set at 450 square feet, though they do make some exceptions. Many people think they are restricted to units at least 500 square feet in size, when in actual fact there are banks that allow for smaller units. For example, RBC doesn’t have any size restrictions on condo units. Knowing each bank’s regulations will make the process of acquiring a mortgage a lot easier. Fun fact, banks tend to refer to units as 'doors’.
Restrictions and Regulations
Banks also have restrictions on how many doors they will finance for you. If you’re looking at buying one condo within a new development, that would count as one door. Whereas if you were investing in a multiplex with 12 units, the bank would still count each unit individually, making it 12 doors.
If your first bank has a restriction of 5 doors and you have financed that many, you can go to a second bank and continue to finance 5 more doors allowing you to build a larger portfolio. If the bank decides against financing your unit, there are alternative lending companies that will provide a mortgage. For example, Equitable Bank will provide mortgages beyond that initial 5 door limit that some of the big banks provide. Though there will be a higher interest rate, you’ll be able to get mortgages on those properties and will have the excess cash flow from your first 5 properties that will help fund any negative cash flow there may be from the following units. Beyond that, you have Home Trust which is another alternative to providing some secondary financing. Again, it is more expensive than a regular bank, but it does allow you to continue to grow your portfolio and keep that appreciation game going.
Another option would be to acquire a blanket mortgage. Rather than looking at individual units, the bank looks at your entire portfolio and gives you a set lending amount based on its overall value i.e. they will lend an amount based on the equity of the total portfolio. They may not give you an 80% loan-to-value on the whole portfolio but they’ll allow you to expand your numbers of doors. Though it will hurt your return on investment by a little because you can’t pull all the equity out of it, you have more assets overall that are going to go up in value.
Remember that we're trying to run a cash flow-neutral portfolio. So, if some financing gets more expensive as your portfolio grows, that’s okay. The cash flow from the first properties will help you fund the other ones.
From Residential to Commercial
Once you have invested in more units and have created a larger portfolio, you are then able to switch it from a residential portfolio to a commercial portfolio. This then allows you to do a blanket commercial mortgage on your portfolio. When doing a blanket commercial mortgage, there will again be a lower loan-to-value rate but the commercial mortgage they will lend on the value of the properties versus your criteria will remove the stress test qualifications from that situation.
Managing a Fluid Portfolio
In last week’s blog, I went into detail about my own portfolio, and thought I’d use it as an example again. My first pre-construction purchase was in 2012 and the final completion date for my current portfolio continues all the way into 2024 - that’s a 12 year spread. I still own the condo I purchased in 2012 and the original tenants still reside in it. This condo is under rent control which means that I may be starting to get a depreciating rate of return and may be looking at selling that condo in a few years.
Though in the past I have recommended not to sell, there are instances when you start getting that depreciating rate of return on property and it may be time to sell. Perhaps the building is running higher on maintenance fees or is becoming an end user building rather than a desirable rental building. Having a fluid portfolio means that you’re able to sell and dispose of your depreciating return properties while still having your higher appreciating properties. Selling my 2012 condo will allow me to invest in a new pre-construction condo without rent control or in an up and coming area that may see greater appreciation.
If you happen to find yourself in a tight crunch and need a short-term closing option, you can always use the private money market. Your other units would cover that loss and you could maybe refinance the next year into an A lender bank. You could also look into disposing that unit in one year knowing you’re going to make a 10-20% return over that time versus selling on assignment.
Just like you look at your financial returns every year, you’ll also want to keep track of your real estate portfolio’s performance. If you treat your real estate portfolio like an investment portfolio, which is exactly what it is, and manage your investments you can maximize your returns by analyzing it every year. These condos are concrete boxes in the sky and are easy to deal with. Much easier than dealing with houses. If you treat your portfolio properly, like a financial/investment portfolio, just think of the exponential returns that you can create!
If you need advice on how to do it successfully, please book an appointment with me. We’ll go over your numbers, see if we can find opportunities to bring your portfolio to at least a cash flow-neutral level and look at maximizing your returns and taxable benefits. You can book an appointment by emailing me at email@example.com or you can give me a call/text me at (416) 996-5181.