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  • Writer's pictureMedvisory Team

Alternatives to purchasing an investment property in Canada

Alternatives to purchasing an investment property in Canada
Several alternatives allow individuals to invest in real estate without the need to buy a second property or manage it themselves.

What constitutes an investment property?

An investment property encompasses any real estate asset you own apart from your primary residence. This can include various forms such as condominiums in high-rises, townhouses, single-family homes, or vacation cottages by a lake. Additionally, opportunities exist in commercial real estate, including office spaces, industrial properties, and retail spaces.

Typically, small investors acquire real estate properties with the intention of generating income through renting, whether on a short-term basis, such as through Airbnb, or for longer durations. Wealthier investors with extended investment horizons may engage in "land banking," where they purchase vacant or agricultural land, anticipating future demand for housing or more intensive usage, with plans to sell it to developers for substantial capital gains.

Why is investing in real estate attractive in Canada?

Real estate represents its distinct asset class, offering unique attributes compared to equities and fixed income. It can serve as a means of diversifying wealth, and most Canadians have a basic understanding of property ownership through homeownership. Many have benefited significantly from the appreciation in home prices over the past two decades.

In Canada, the inflation-adjusted returns on real estate over the last 50 years closely resemble those of equities. However, these returns come with notably less volatility than stock markets. Moreover, income constitutes a larger portion of the total return from real estate compared to stocks, which primarily rely on capital gains. This makes real estate an appealing investment for income-oriented individuals like retirees. Even young investors can leverage real estate investment, as banks are generally willing to provide favorable lending terms, allowing you to invest up to four times your own funds when buying real estate, a privilege not extended for stock or bond purchases.

"As the property appreciates, the return on your initial investment for your down payment can be much higher due to the leveraged amount," noted Sabine Ghali, Managing Director of Buttonwood Property Management in Toronto. However, it's essential to recognize that, as many landlords have experienced this year, leverage can work the other way as well; when property values decline, the outstanding loan principal remains substantial.

What are the risks associated with investing in real estate?

Compared to other asset classes, real estate is relatively illiquid. Finding a suitable property to buy or a willing buyer for a property you're selling can be time-consuming. Transaction costs can be high, often exceeding 5% of the property price for the seller, covering agent commissions, legal fees, inspections, and other third-party expenses. Additionally, investment properties in Canada typically start at around $100,000, requiring a moderate net worth to participate, even with mortgage financing.

While real estate markets are generally less volatile than stock markets, they still experience fluctuations. A rise in interest rates during your ownership period could lead to decreased property values and higher mortgage payments upon renewal. Economic and employment conditions in the community can also affect property performance. Furthermore, there are specific property-related risks, such as fire, damage, and natural disasters, although insurance can mitigate some of these concerns.

One challenging aspect to control is the relationship with tenants. Implementing a rigorous screening process for prospective tenants, including credit checks and interviews with employers and past landlords, can help reduce future problems. Provincial legislation outlines procedures for addressing tenant-landlord disputes, although rental tenancy laws and tribunals typically lean towards tenants' rights. Ally Ballam, a real estate advisor with Engel & Volkers in Vancouver, suggests that property owners maintain a separate account with three to six months' worth of rent to cover expenses in case of disputes or rental income interruptions.

Finally, there is always a risk of vacancy, whether due to tenant turnover or adverse market conditions. While this risk cannot be entirely eliminated, it can be minimized by owning higher-quality properties in desirable locations.

What are the tax implications and regulations related to investment property?

In contrast to a principal residence in Canada, investment properties are subject to capital gains tax upon sale. Additionally, rental income received during property ownership is subject to income tax. Both of these tax obligations can reduce your returns. However, many of these taxable amounts can be partially offset by expenses related to financing, maintaining, managing, and improving the property. Seeking advice from a tax advisor is recommended to minimize your tax liability, particularly when selling the property.

It's essential to be aware of provincial, municipal, and condo corporation regulations applicable to any property under consideration. Some provinces and municipalities have rent controls that can limit your ability to raise rents to market rates. British Columbia and Ontario have implemented taxes on homes purchased by foreign buyers. Several cities, including Vancouver and Toronto, have imposed property surtaxes on vacant homes, with other cities contemplating similar measures to increase housing supply. Many Canadian municipalities also restrict or prohibit short-term rentals for certain housing types. Additionally, condo corporations may impose restrictions on short-term rentals or limit the proportion of units that can be rented out.

Is the current period a favorable time to invest in real estate?

Prospective buyers should note that most Canadian real estate markets are experiencing a shift with declining prices after substantial appreciation in recent years. However, this decrease in prices is primarily driven by rising borrowing rates. Consequently, for many buyers, the decline in prices may be offset by higher mortgage payments.

For investors with a 20% down payment (the minimum required by lenders for investment properties), entering the market at this juncture can be potentially risky. If you find yourself in this situation, it's crucial to be confident that you are acquiring properties below market value. Nonetheless, for individuals who own their homes outright, have extra funds, and do not require substantial borrowing for investment properties, this could be an opportune moment. Those without financing concerns can maximize the value of their capital in the current environment.

It's important to remember that real estate markets are highly localized, and dynamics can vary significantly from one location to another. Post-facto sales trends often suggest that there is almost always a type of property somewhere in Canada that offers an attractive deal. The challenge lies in discovering it.

How can I purchase real estate?

You can search for an investment property much like you would search for your own home. This typically involves reviewing listings, engaging a real estate agent, and exploring commission-free sales platforms. is an extensive public database of Canadian homes for sale.

Alternatively, there are alternative avenues to find lucrative real estate deals. Agents like Ms. Ballam and Amy Leong specialize in collaborating with developers to offer clients pre-sale condos at prices typically accessible to insiders before public availability.

When seeking investment properties, it's crucial to collaborate with an agent who specializes in such properties. They can help you run pro forma cash flow projections, estimating rental income and expenses under various mortgage-rate scenarios. This allows for a more informed investment decision.

In addition to an agent, you will likely require other service providers, such as a lawyer, property inspector, and mortgage broker, to facilitate the transaction's completion.

What steps should I take after acquiring an investment property?

If you have the time and inclination, self-management of the property can reduce costs and potentially enhance returns. This involves finding and engaging with tenants, collecting rent, overseeing maintenance and repairs (including emergencies), and covering property taxes and applicable utility fees. You will also need property insurance, which may be somewhat higher than for owner-occupied spaces. You can download standard lease documents from most provincial websites to help mitigate the risk of legal disputes.

Alternatively, you can opt for a property management company to handle most or all of these tasks. These firms typically charge 8% to 10% of rental income for long-term rentals and 12% to 15% for short-term rentals. Your real estate agent can recommend a suitable firm in your area, but it's advisable to explore multiple options to find the best fit. Some real estate sales and finance companies offer their own property management services.

Like any significant investment, having a strategy is essential. Determine whether you intend to quickly sell the property in a rapidly rising market, hold it long-term, or renovate it to increase rental income. For dedicated real estate investors, Sabine Ghali suggests accumulating rental income with the goal of acquiring another property every three to five years. This compounding, combined with the leverage aspect of real estate investing, can lead to substantial gains over an extended period.

Are there cost-effective ways to gain exposure to real estate?

High property prices in major Canadian cities can pose a significant obstacle for potential investors. Fortunately, several alternatives allow individuals with limited means to invest in real estate without the need to buy a second property or manage it themselves.

1. Real Estate Investment Trusts (REITs): REITs are securities traded on stock markets, designed to manage and hold a portfolio of properties. They distribute income through dividends, akin to corporate dividends. Investors can benefit from land value and rent increases in the real estate market by purchasing REIT units or an exchange-traded fund (ETF) focused on REITs. This approach allows investors to enter the real estate market for as little as $100, although REITs tend to be highly correlated with equities due to their stock market presence.

2. Fintech Platforms: Financial technology startups have introduced platforms that enable small investors to purchase fractional ownership in crowdfunded properties. These investments can be made for as little as a few thousand dollars per investor. Some Canadian examples include Addy Technology Corp., BuyProperly, NexusCrowd, and Willow Real Estate Technologies. These platforms promise true diversification, with investment values tied to real assets. However, they have a relatively short track record and face competition from well-capitalized landholding entities owned by pension funds, REITs, private pooled funds, and affluent individuals and families.

3. Real Estate Pooled Funds: Private real estate investment funds offer participation in the ownership, and sometimes development, of rental properties across North America. While they require a minimum investment as high as $100,000 and involve lock-in periods, they allow investors to access rental property ownership. It's crucial to choose general partners with solid reputations and a history of responsible management, as there are some less reputable operators in this niche. Investors should exercise caution regarding promotions that promise unusually high or "guaranteed" returns, and they should always demand access to financial statements before committing funds.

4. Investing in Your Own Home: Homeowners in Canada's expensive urban markets may consider leveraging their primary residence to generate additional income and boost property equity. Options include adding or enhancing a rental suite within your home or constructing a laneway home. Such investments should be mindful of the associated costs, such as kitchens, bathrooms, and HVAC systems for new laneway homes. However, these expenses are typically lower than acquiring a separate property. If space allows, renting a spare room to foreign students can generate income and be facilitated by agencies matching students to host households.

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