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40 Year Mortgage – A Good Idea?

With the introduction of the 40 year mortgage in Canada, people who couldn't afford a home before can now own a home due to lower monthly payments. 

For example, a $200,000 mortgage @ 6% over 25 years would cost approximately $1280 / month.  Over 40 years, the payments would be $1090, or a difference of $200/month. 

The biggest difference however, is not with the monthly payment, but with the total interest paid over the term.  The 25 year mortgage would result in the total interest of $184,000 but the 40 year mortgage would result in a staggering $323,000. 

With the huge difference in total interest paid over the term, one would think that it would never make sense to go with a 40 year term.  Hold on though, there are advantages and disadvantages of the 40 year mortgage.

The Advantages:

  • Lower monthly payments so that your cash flow is better.
  • Might be a decent mortgage choice if you plan on moving in the near future.  You'll get the cash flow now and the longer term won't matter much when you sell.

The Disadvantages:

  • As stated above the total interest paid for a 40 year term compared to 25 can be drastic.
  • If you plan on living in the house for the long term, then 40 yrs of interest can be a wealth killer.

Final Thoughts:

If you can afford it, I'm an advocate of lower amortization mortgages as longer terms result in drastically higher interest.  However, if you need to go with the 40 year amortization for the cash flow, I would suggest that you take any extra money during the year and put it down on the mortgage as that will help decrease the interest burden in the long term. 

In my opinion though, if you can't afford a 25 year mortgage on the home that you want, then the home is too expensive.

For those of you who tend to be more literal, the photo is meant to be sarcastic. 

Photo courtesy of Mike Licht

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FT About the author: FT is the founder and editor of Million Dollar Journey (est. 2006). Through various financial strategies outlined on this site, he grew his net worth from $200,000 in 2006 to $1,000,000 by 2014. You can read more about him here.

{ 88 comments… add one }
  • The Financial Blogger February 20, 2008, 8:28 am

    I think that for market like BC, people will have no other choice but to pay their house over 40 years. When you think about it, life expectancy was much lower 25 years ago and I guess they had the 25 years mortgage back then ;-)

    On the other side, you can also consider a 40 years mtg as a rent for 40 years with an option to buy the house for nothing (plus $323K in interest over that period!).

  • Traciatim February 20, 2008, 8:33 am

    I’m a big fan of the 40 year AM. I have a 35 and am loving it. I use it like and insurance policy against the bad times and will be paying down the mortgage with pre-payment options in the good.

    With the common prepay amounts being up to 20% of the original amount per year and the ability to change your payment by as much as 25% per year I don’t understand why anyone in their right mind would ever use the 25 year AM.

    The only thing that is wrong with them is people use them to buy more house than they can afford. They should be qualified at the 25 year rate, and if they can afford the house there then the 40 year AM still looks appealing they should go for it.

    These days you’ll never know your true AM period until your last payment is made. It’s not like way back in the 60’s when your mortgage was set in stone and you were for sure paying on it for 25 years.

  • J February 20, 2008, 9:27 am

    I got a 35 year mortgage because my wife’s work is temporary and they wouldn’t count her salary. When I changed it to bi-weekly payments the amortization period was reduced to 28.5 yrs. I’ve also made an increase in the payments and plan to make lump sum payments. I think that we’ll probably end up moving in about 5 years, but if we were to stay, we’d likely have the house paid off in under 20 years.

  • Telly February 20, 2008, 9:41 am

    I would argue that, if you’re not planning on living in the house for very long then you should really go short so that you’ve accumulated enough principal to make a substantial down payment on the next house (especially if, like most people, you plan to “move up”). Five years into a 40 year AM mortgage would mean you’ve paid very little principal in that time.

    As for Traciatim’s comment: “With the common prepay amounts being up to 20% of the original amount per year and the ability to change your payment by as much as 25% per year I don’t understand why anyone in their right mind would ever use the 25 year AM.”, here’s one example why people “in their right mind” might do this. My husband and I saved the 0.6% (0.2% for every extra 5 years AM beyond 25) by going with a standard 25 yr. In fact, we went accelerated semi-monthly and still increase our payments by 20% every year.

    The thing that’s often forgotten during rising RE markets is that a mortgage is debt, non-deductible debt at that. Most people that create extra cash flow will inevitably spend it. We prefer to be “forced” into paying off our house within 5-7 years by keeping a standard AM and not paying added fees to create extra cash flow that we really don’t need.

    • FrugalTrader February 20, 2008, 10:13 am

      Telly, I should have been more clear. When people live in a home for short periods of time, I assume that they will create equity by fixing it up etc.

  • MunEconomist February 20, 2008, 9:52 am

    I think that the 40 year mortgage gives you options and more options are always a good thing.

    If you buy a fixer upper you might want to have the cash flow that a mortgage above 25 years would give you. Once you get the house to the condition that you like then you can change the term of the mortgage once it comes due to pay it off faster.

    Isn’t this option great?

    Now using this to buy the most house you can afford is bigger risk then I would care to take on. But it might make since if you buy the house that you will want in 10 years but don’t want to pay the transaction costs of moving.

  • FourPillars February 20, 2008, 10:23 am

    I think it’s a perfectly valid product. 25 years, 40 years…what’s the difference?

    Not unlike sub-prime loans which are useful mortgages for selected scenarios, extra long mortgages have their purpose and can be quite useful and like anything else, they will get abused as well.

    Traciatim – why do you think the 40 yr am is so much better than 25 yr? Seems like they are pretty similar to me except the 40 yr am costs more. Like Telly said, I think the 25 yr is superior to the 40 if you can afford it.

  • The Reverend February 20, 2008, 10:44 am

    I absolutely understand what people are saying regarding the flexibility of the 40 year AM, but if we look at the example in the original post, who actually uses the additional $190 of cashflow per month wisely.

    I’m sure there are some posters on here with that discipline but I would venture to guess that most people would just increase their spending proportionally without knowing it. $190 of additional cashflow per month will get used up pretty quickly unless its automatically put into use somewhere else (automatic payments into investments, servicing a leverage loan, etc).

  • JRich February 20, 2008, 10:52 am

    I think it can be ok under very specific circumstances.

    1) If you are short term, get a 7/1 or 10/1 ARM. You’ll get a much better rate than the 40 year.

    2) Only get the 40 year if you really intend to live there for 40 years.

    3) Only get it if you are fairly certain that the rate will never get better.

    4) Only get it if you can afford a 20 year or better and will invest the difference elsewhere. If you need it to be 40 year to afford the payment, you are stretching yourself too thin.

  • Dividendgrowth February 20, 2008, 11:10 am

    If we assume a 3 % annual inflation over the next 40 years, your payment in real 2008 dollars would decline from $1090 now to $344 in year 40. You do pay in total over the life of the 40 year mortgage assuming a 3% average inflation. But, if you invest the extra 190 per month in stocks, you will be better off in the long run in my opinion. If you spend it though, the economy would be better off in the long term.

    Monthly Payment
    Year 40 year payment 25 year payment
    1 $1,090.00 $1,280.00
    2 $1,058.25 $1,242.72
    3 $1,027.43 $1,206.52
    4 $997.50 $1,171.38
    5 $968.45 $1,137.26
    6 $940.24 $1,104.14
    7 $912.86 $1,071.98
    8 $886.27 $1,040.76
    9 $860.46 $1,010.44
    10 $835.39 $981.01
    11 $811.06 $952.44
    12 $787.44 $924.70
    13 $764.50 $897.77
    14 $742.24 $871.62
    15 $720.62 $846.23
    16 $699.63 $821.58
    17 $679.25 $797.65
    18 $659.47 $774.42
    19 $640.26 $751.87
    20 $621.61 $729.97
    21 $603.51 $708.70
    22 $585.93 $688.06
    23 $568.86 $668.02
    24 $552.29 $648.57
    25 $536.21 $629.68
    26 $520.59
    27 $505.43
    28 $490.71
    29 $476.41
    30 $462.54
    31 $449.07
    32 $435.99
    33 $423.29
    34 $410.96
    35 $398.99
    36 $387.37
    37 $376.09
    38 $365.13
    39 $354.50
    40 $344.17

  • Alex February 20, 2008, 11:19 am

    I think 40 years is a horrible idea.

    I’ve always seen my mortgage as a burden as opposed to an investment, so for that reason I’d rather have it paid down as quickly as possible. Other than the extra cashflow you get from paying over 40 years, you end up paying SOOOOO MUCH interest that you might as well save your money for 10 years and buy a house worth 2x or 3x more.

    I personally have it at 25 years paid bi-weekly accelerated (monthly payment divided by 2). It can knock off 5 years on your term.

  • Telly February 20, 2008, 11:23 am

    “Telly, I should have been more clear. When people live in a home for short periods of time, I assume that they will create equity by fixing it up etc.”

    I can see what you mean FT but from my personal experience, it’s not something one should bank on. We’ve made a lot of improvements (insulation, new furnace, 2nd bath) that would not likely create as much equity for us as our extra payments have. Again, these things work in rising markets but who knows what the market will be like when it’s time for you to sell. All improvements we’ve made have been for our own enjoyment since, in slow markets like Windsor, you may not get the money back for improvements. Better not to be disappointed. :)

  • nobleea February 20, 2008, 12:39 pm

    I think home ownership is a worthwhile goal for everyone. Increased home ownership can do wonders for a neighbourhood as more people take pride in something they have a stake in.

    I would steer clear of 40 yr AM. But that’s probably because cash flow is not an issue and Canadians, in general, are not fond of mortgage debt. Could be something to do with the tax deductibility of mortgage interest in the states why ARM and long ammortizations are popular.

    I don’t have a problem with 40 yr AM, but they should be limited to starter homes/condos in each city/geographic area.

    Using the extra cash flow (190$/mo was bandied about here) for home improvements would be a good idea, but what kind of improvements can you get for 190/mo? Especially considering you can buy less and less each year due to inflation.

  • WhereDoesAllMyMoneyGo.com February 20, 2008, 1:05 pm

    I’ll throw in another point besides what has already been said:

    I’m worried that longer AMs are artificially propping up residential real estate values in what is already the longest bull run in Canadian residential real estate in history.

    Because our society is getting more and more cash-flow based in our thinking, I think more people focus on the monthly payments rather than the overall math of their decisions.

    If mortgages AMs keep getting extended, then it just gives the real estate markets more legs. I’m seriously beginning to think it’s time to sell, rent for a few years, and then get back in after the fallout (assuming it happens in the next few years). $200,000 barely gets you a closet downtown Toronto these days – there’s gotta be a tipping point soon…

  • squawkfox February 20, 2008, 1:12 pm

    I programmed a Loan Amortization Calculator last week to show one of my friends exactly how much interest a 40-year mortgage would entail. The results failed to make her happy, so she decided to continue renting until she had a big enough down payment for a more conventional loan.

  • James February 20, 2008, 1:36 pm

    We used the 40y AM for a rental property. We view our principal residence and the rental property mortgage as one large debt with two components: one is deductible, one is not. I’d rather pay down the nondeductible component first before putting a penny on the deductible.

  • Traciatim February 20, 2008, 2:02 pm

    This, like the rent vs buy story, can never be decided since each area, each person, and each situation is different.

    One point I would like to make however is that the ability to change your mortgage payment up and down 25% is usually contingent on the original amortization period.

    Lets say for instance a couple gets a mortgage of 200,000 in a 25 year or 40 year at 6%. Their salaries are around 80K to be sure they are in the 2.5 times income range for those wondering ;)

    Their payments would either be 1279.61 for the 25 year or 1090.18 for the 40. So they take the 40 for the cash flow, and things are smooth sailing. After a year in the house they decide that they are doing OK and get their raises of around 2% so their income increased to 81600 or so. They don’t want to be in debt from age 25 to 65 so they increase their mortgage payment from 1090.18 to 1279.61, or a 18% or so increase. Then they run for a few years.

    Well, the time comes that one of them gets canned due to cutbacks and their income goes to 40K instead of 80K. They can’t really afford the 1279.61 payments anymore, but their 6 month emergency fund, plus their E.I. and searching for a job will get them through for a while. They call their broker and they can now reduce their payment back down to the original 1090.18 in order to help with the cash flow again. That 180 difference may mean the difference between them losing their house or not.

    Like I say all over the place: the problem is not the 40 year AM, it’s using the tool for buying things you can’t afford. If you get the 40 year AM and on day one increase your payment to the 25 year schedule, you have a buffer and it’s like an insurance policy. If you start on the 25 year AM, there is no flexibility later.

    If professionals (Real Estate, Mortgage, Bankers etc) are telling people they can afford a house that the person really can’t just by stretching out the AM period then the professional deserves to lose their license. If people are breaking the bank and spending 40%+ of their income on a 40 year payment, they need a slap in the face.

  • MunEconomist February 20, 2008, 2:06 pm

    Excellent point James. I think for situations like these is the whole reason for 40 AM.

  • YoungEngineer February 20, 2008, 2:44 pm

    I don’t know if this idea has been fully thought through but what about this:

    As a young professional just out of school, I have little built up wealth available. A 40 year mortgage allows more house to be bought for ‘less’. Starting salaries being what they are, the first few years of work offer large incremental raises. Would it not make sense to stretch and buy a house with a 40 AM and then after 3 or 5 years, refinance at a 20 AM when my income has risen sufficiently? It means that I don’t have to worry about the costs of moving, I’ll have more money to afford any potential renovations and the ability to furnish the house. The biggest thing is it affords me the ability to get into a house now instead of a condo then jump to a house.

    I think this option looks really good for young professionals and couples looking to get into the market without having to buy a ramshackle hut.

    It should be noted that I’m living in Alberta and the property prices are somewhat prohibitive.

    Any thoughts? This would definitely be ideal in an upmarket, as has lately been the case here. Like it’s been noted before though, in a flat or down market it doesn’t work as well. The amount of equity in the house doesn’t start accumulating for many years.

    Also, because early career moves are possible, the likelihood that the house may need to be sold within 5 years is quite high. Does the 40 AM present problems if I go to sell before any equity has been built up?

  • Traciatim February 20, 2008, 3:10 pm

    YoungEngineer: I would be vary wary of buying a place that you can’t afford, especially in areas like Alberta where prices have gone really insane. Stretching to buy in a 40 year AM makes sense in a perfect world, but what happens when bush and his oil buddies are out of power and oil drops to 40 bucks a barrel again? Our dollar drops, inflation spikes, jobs dry up, and salaries stagnate . . . what happens then if your property value goes down and now you are stuck in a 40 year mortgage you don’t want anymore.

    You home you should always be cautious and think of the worst case scenario. If you think you are going to be moving in under 5 years you will probably be better off renting for now anyway. Say for instance you buy a 350K house and put 50K down for a 300K mortgage over 40 years on a 5 year term at 5.5% your mortgage balance will be 287952.90 at the end of the first term. Your house will appreciate (historically, not this crazy mania stuff) at around 2.5% or so and you could sell it for 395K or so. You will lose 6% to an agent and end up around 370K. That puts you at a gain of around 100K (including your original 50K you put in, so don’t get all excited) . . . minus all your expenses while your there.

    If you were paying the monthly payment on that mortgage it would be around 1534.68. Add in the property tax and heat . . . I’m sure you could rent a great place, sock away as much as you can for the same period and buy a place when you’re sure you will be there for a while. Like regular investing, the transaction costs will eat you alive if your turnover is too quick.

    Plus, who knows, in 5 years you might be trying to raise some kids or decide to quit the rat race and volunteer in third world countries . . . if you have assets not tied up in the house it’s easy to drop and go, wait until you’re sure before buying a huge immobile asset.

  • Cheap Canuck February 20, 2008, 3:21 pm

    I don’t think there is anything wrong with a 40 year mortgage providing there are flexible prepayment terms that allow you the option of knocking down the principal without penalty. When we renewed our mortgage last time we were asked if we wanted to shorten the amortization period. We said no as we preferred to have the option of where to put the extra cash flow. Sometimes that money goes to double-up payments, other times to RRSP contributions. Having that flexibility can be of benefit to anyone, even if they have the means to pay a mortgage with a substantially shorter amortization period.

  • Telly February 20, 2008, 3:22 pm

    Traciatim, I would argue that the couple should rent or buy a $171,000 house to make their payments a “safe” $1,094 right from the start if a layoff would mean they can’t afford the $1279 payment (though I doubt that the $200 would make that big a difference if their salary were cut in half anyway). But that’s just my opinion. And in your example, the 2% raise would only give them an extra $133 BEFORE tax to spend a month so increasing the payments by $200 after a 2% raise would not likely happen.

    These are the examples brokers use to encourage buyers to buy more house. I’m sure there are a few that are intelligent enough to make it work without “upgrading” but I can’t help but think it’s a small percentage.

    I agree with James though that this could be useful to improve cash flow on a rental property. All the interest (and the added fees for the longer AM) are tax deductible.

  • Marianne O. February 20, 2008, 3:26 pm

    Traciatim summed up the argument given to me by a bank manager, who described a 40-year mortgage (boosted to a 25-year repayment schedule) as a form of “disability insurance” that would enable us to drop our mortgage payments to the 40-year level in the event that I or my husband were stricken ill.

    However, the same person ALSO failed to mention the 0.6% CMHC surcharge for going the 40-year route. For anyone confused about that, there’s a handy reference chart at http://www.designmymortgage.ca/CMHC_Quick%20Reference_Eng.pdf.

    So on our recent 380,000 purchase, that would be an extra $2280 for the privilege of 40-year amortization… not including any interest costs if we built the surcharge into the mortgage. Assuming the mortgage is paid off in 15 years (our goal), that’s $152 per year. I really don’t know whether or not that’s a good deal for this kind of “insurance”…

  • MunEconomist February 20, 2008, 3:41 pm

    I think the conclusion is that people would like an interest only mortgage with the ability to pay of the principle if it fitted your lifestyle at the moment.

    If you are able to deal with no having forced savings that the mortgage provides.

  • Traciatim February 20, 2008, 4:06 pm

    So in your case Marianne on a no down payment 380K house over 25 years the final mortgage amount would be 395200 for a 25 year at 5.5% making a payment of 2412.27. Over the 40 year your mortgage amount would be 402040 for a payment of 2056.67. That’s a difference of a monthly payment of 355.60.

    Why not take the 40 year AM and put the 355.60 a month in to an RRSP instead. In order to have a mortgage that big you have to be way up there in the tax brackets anyway. At year end you get a refund of 1800 bucks which you use to pay down your mortgage, and each year you increase your payment by about 5%.

    In the example you cited, $12.75 a month isn’t that bad in my books for the possibility of saving your house if you need to reduce your payments in the future. All the prepayments you make just make the minimum monthly payment go down in case you ever need it. Once you’re in a few years you can reduce the payment down to the point of restoring the original 40 year AM, which will be even less than the original payment if pre-payments have been made.

    The whole thing still comes down to ability to afford things they buy. If people would stay between 2-3 times income to buy a house there would be very few problems around, save job loss or accidents.

    (looking back I think my mortgage amounts are off . . . but the point still stands)

  • nobleea February 20, 2008, 4:49 pm

    YoungEngineer;

    seven years ago, I was in your exact position (young engineer, fresh out of school, starting a career in Alberta). I decided to rent until I had enough of a downpayment and until my salary caught up to a reasonable mortgage payment (they didn’t have 40 yr AM at the time). I had other debts from school to take care of first, and i think I’m much better off having waited to buy a house.
    Housing prices never go up continuously. Eventually they’ll stagnate or worse, go down. “But this time it’s different!” is the most dangerous sentence when it comes to investing.

    I think your (our) job is safe and I doubt we’ll see $40/bbl oil again.
    Banking on future raises to afford a house in the future is not a wise move.

  • nobleea February 20, 2008, 4:55 pm

    Hey FT;

    I don’t know if you or anyone else has done this before, but how about a post on all the financial rules of thumb?
    -2-3 times your salary for a home price
    -Your age times your salary/10 should be your networth
    -Every dollar in your RRSP in your twenties corresponds to a dollar of yearly income after 65 (adjusted for inflation)
    -spend no more than XX% on all debt repayments (is it 36%??)
    -etc
    -etc

    We can pick apart or add to each one of them.

    • FrugalTrader February 20, 2008, 11:33 pm

      Nob, that is a great idea. I already use a couple rules of thumb, but it would be a useful “financial checkup” for some.

  • The Reverend February 20, 2008, 6:47 pm

    net worth = age x sal / 10 ??

    I haven’t heard that one before.
    for my wife and I, that puts us way behind schedule. we’re 2 years out of university with decent salaries, but nowhere near the net worth suggested by that rule of thumb.

  • nobleea February 20, 2008, 7:17 pm

    The Reverend;

    That is from the excellent book, The Millionaire Next Door. The formula doesn’t apply very well in the first 5 years of your career.

    Of course, it’s just a rule of thumb.

  • telly February 20, 2008, 7:50 pm

    Reverend, we’re WAY behind by that rule of thumb as well (and 8 years into our careers) but I still feel we’re doing well. As nobleea said, it’s just a reference but a great goal to have.

    nobleea, I haven’t heard the “Every dollar in your RRSP in your twenties corresponds to a dollar of yearly income after 65 (adjusted for inflation)” rule but it sounds interesting. I wonder how it works for a couple in their early 30’s… Where’s your blog nobleea? :)

  • nobleea February 20, 2008, 8:07 pm

    telly, I read that rule of thumb on the financial webring forum.

    Every dollar in your RRSP in your twenties corresponds to a dollar of yearly income after 65 (adjusted for inflation)

    Every $2 in your RRSP in your thirties corresponds to a dollar of yearly income after 65 (adjusted for inflation)

    Every $4 in your RRSP in your fourties corresponds to a dollar of yearly income after 65 (adjusted for inflation)

    Every $8 in your RRSP in your fifties corresponds to a dollar of yearly income after 65 (adjusted for inflation)

    and so on, until at 65 ish, you should have around $25 in your rrsp for every dollar of income (equates to 4% withdrawal rate).

    I can’t remember what the assumptions were. But not hard to figure out I guess…Using the rule of 72, it implies a real return of 7.2% in your rrsp. Perhaps a bit high, but not completely unreasonable.
    But as with the others, it’s a rule of thumb. Helps put things in perspective when you only have $20K in an RRSP in your twenties. Also helps reinforce that when you’re young is the most efficient time to save for retirement.

  • George February 20, 2008, 9:19 pm

    Our house was purchased with a 25-year amortization, and the payments were quite comfortable for us (we bought before the housing prices around here skyrocketed). Biweekly payments, extra lump-sum payments, and increased payments mean that we’re down to about 11 years before we reach a zero balance. Our RRSPs are both maxed out, so the question of “RRSP vs. Mortgage” doesn’t apply.

    A 40-year amortization really doesn’t make sense to me if it causes people to buy more house than they can afford. It also means that I’ll pay off our house by age 40 while my neighbours (many of whom are in their 50s and 60s) are still paying their mortgage.

  • mjw2005 February 20, 2008, 11:35 pm

    This is madness!

    The only reason the people at CMHC and the banks even decided to create a 40yr mortgage was because they saw the huge rise in real estate prices over the past decade without a corresponding huge rise in wages (real wages have barely gone up in a decade). Average people making Canadian average salaries just can not afford an average house with a 25yr mortage anymore. To keep the real estate gravy train going they brought in the 40yr mortgage so people can afford a house again. Whats next the 50yr mortgage….

    Sooner or later these large increases in real estate prices will come to an end…and sanity will return to the market. I am in no rush to buy right now….but most people are so brain washed into thinking the only path to wealth is through home ownership that they will do anything to put all there money in a single illiquid asset…crazy…

    My 2 cents…

  • George February 21, 2008, 12:11 am

    mjw2005: If you think 50 years is bizarre, try 100: the intergenerational mortgage.

    Home ownership can be a great path to wealth, but not if you’re buying into an overheated market. The average salary right now is around 50k, so 100k for a couple. Average houses in many markets are topping 400k, or 4x the median pre-tax salary of a couple. When we bought our house (5 years ago!) it cost under $200k, or about 2x the median pre-tax salary for a couple. Until the average salary hits 100k (not likely for quite a few years), housing prices are way beyond where they should be.

  • Traciatim February 21, 2008, 8:22 am

    Speaking to George’s point I put together an interesting chart over at Quest for four pillars, I grabbed the median salary for cities listed on The Daily (May 29th 2007 edition) and estimated the increases to 2007, then got the December 2007 average sales price for homes off the CREA website from their cool interactive map.

    You can read the whole conversations here:

    http://www.four-pillars.ca/2008/01/31/why-sub-prime-crisis-has-not-affected-canada-yet/

    As an example of what I’ve done here I’ll be showing one example of my home city in Saint John, NB. ‘The Daily’ lists the annual median income for 2005 as $57000 in Saint John. If I add in the average Canadian income increase of 2.1% for two years we get an annual 2007 income of around 59400. This puts the ‘target home price’ at somewhere between 118,800 and 178,200 (2 – 3 times median salaries). The CREA website shows my homes city average selling price as $135,193. This puts the average home at around 2.3 times median salary; making a nice affordable city. I Don’t mean to toot my own horn, no one wants to live here cause it is known as the anus of Canada for a reason.

    Lets look at some other cities:

    Halifax, NS
    Median 2007 Income: 67400
    Target Home Price: 134,800 – 202,200
    Actual Average Selling: 209,000
    Cost Ratio: 3.1

    Montreal, QC
    Median 2007 Income: 61100
    Target Home Price: 122,200 – 183,300
    Actual Average Selling: 242,000
    Cost Ratio: 3.96

    Toronto, ON
    Median 2007 Income: 64400
    Target Home Price: 128,800 – 193,200
    Actual Average Selling: 395,000
    Cost Ratio: 6.1!

    Saskatoon, SK
    Median 2007 Income: 66300
    Target Home Price: 132,600 – 198,900
    Actual Average Selling: 255,000
    Cost Ratio: 3.8

    Calgary, AB
    Median 2007 Income: 78600
    Target Home Price: 157,200 – 235,800
    Actual Average Selling: 400,000
    Cost Ratio: 5.1

    Vancouver, BC
    Median 2007 Income: 61300
    Target Home Price: 122,600 – 183,900
    Actual Average Selling: 566,000
    Cost Ratio: 9.2, holy freakin cow!

    It’s interesting to see the numbers in front of you. I think the prices in a few places are simply out of control. That can’t be sustained for long periods of time for obvious reasons.

  • Telly February 21, 2008, 8:50 am

    George, your numbers are a little off – see traciatim’s last post for median incomes in Canda. It makes housing prices seem even more unreasonable.

  • George February 21, 2008, 9:57 am

    Telly: My numbers weren’t off – we were just talking about different numbers.

    I was talking about average salary nationwide, which is approximately $50,000. I also assumed each member of he couple earned the same amount. Traciatim was looking at median family income (his numbers come from here: http://www40.statcan.ca/l01/cst01/famil107a.htm?sdi=income)

    I’ll agree that Traciatim’s numbers are actually a better measure of what a “typical” family earns.

    I’m not certain, but based on the selling prices I’m also pretty sure that Traciatim’s numbers for “average selling price” include all MLS listings, including condos and townhomes, which brings down the average a bit. My comment above was only referring to houses.

    This is one of the reasons that people say statistics can be manipulated – you need to be very precise with your terminology.

  • Dividendgrowth February 21, 2008, 11:33 am

    Traciatim,

    I think that comparing median incomes to average selling prices for homes is not very accurate. Maybe we should be comparing median incomes to median home prices or average incomes to average home prices..
    As for the 100 year mortgage, it sounds like a steal to me. ;-)
    I think that paying a lower payment now through a longer mortgage and putting the money in a retirement account is a better thing to do than simply paying off your house fast based off past information.
    Unfortunately though, nobody knows what the future will be like.

  • George February 21, 2008, 12:37 pm

    Dividendgrowth: You’re quite right that nobody knows what the future will be like. At the moment, interest rates are at historical lows (getting a mortgage for anything less than 6%, historically, is an anomaly), and the argument (RRSP vs. mortgage) can go both ways.

    Personally, I like the idea of paying off the mortgage as quickly as possible while interest rates are low – that way, more of my money goes toward actually owning the house and less goes toward the bank’s profits. It stands to reason that interest rates will go up at some point in the future, especially if inflation becomes a bigger concern. Of course, I’m doing that after having maxed out my RRSP…

  • Traciatim February 21, 2008, 12:38 pm

    Yes I agree Dividendgrowth, I made that same comment if you follow the link to the other discussion . . . it’s still close enough to compare cities to their median incomes and figure out where things are going a little crazy.

  • Telly February 21, 2008, 1:23 pm

    George,
    Where did you find that the average salary in Canada is 50k? That seems awfully high to me considering that the median HOUSEHOLD salary was $52,500 in 2005.

    My husband and I take the same view as you do, pay off the mortgage quicker while interest rates are low (we have 4.39% rate currently and still shovel a substantial amount to pre-payments)….better now while we can afford it, who knows what the future holds.

    Another interesting point is that, while median household incomes are similar between Canada and the US, the average price of a home is now significantly higher in Canada than in the US. Hmmm…

  • George February 21, 2008, 1:43 pm

    Telly: The median household income (taken from the link in comment 38) for Canada in 2005 was $60,600, not $52,500. Also, “median household income” includes income from part-time and wage earners. Among salaried employees, the best guess I can get at an average, judging from the StatsCan data for total earners, is approximately $50k.

    Yes, it’s a ballpark guess. The real number might be closer to $45k.

  • JRich February 21, 2008, 2:04 pm

    Telly,

    According to these sites, the average home prices were statistically the same. Canada is, however, about 85% urban while US is 79%.

    http://www.census.gov/const/uspriceann.pdf
    http://www.crea.ca/public/news_stats/statistics.htm

  • Traciatim February 21, 2008, 2:13 pm

    Hey George, you could probably look at this table:
    http://www40.statcan.ca/l01/cst01/famil105a.htm

    2005 individual median income was $25,400 according to that. Granted that does also includes part-timers, and wage earners, as it should. These are the people that are trying to strive for the “American Dream” just like everyone else. I agree that the median salaried employee will be more, but that’s not a true reflection of the median incomes of Canadians.

    Also, if you switch to just ‘couple families’ rather than ‘all families’ on the left on your original table, the median couple family has an income of 67,600.

  • Telly February 21, 2008, 2:19 pm

    Here are some “average numbers” that might be more useful:

    http://www40.statcan.ca/l01/cst01/famil05a.htm

    Economic families, two people or more: $78,400
    Elderly families: $55,100
    Non-elderly families: $82,400
    These are 2005 numbers so I’m sure they’re up 3-4% or so.

    Also, here the average earnings for full time workers (by sex):

    http://www40.statcan.ca/l01/cst01/labor01b.htm

  • George February 21, 2008, 2:47 pm

    Traciatim: It’s true that the median income includes part-time workers and wage earners, but it’s not fair to say that all of these people are currently striving for the “American Dream” or any form of home ownership. Typically “income earners” includes anybody over the age of 15. There are a lot of 15-25 year-olds out there that aren’t planning on buying a home in the near future, at least not until they’re more established. Accordingly, “median income of all workers over 15” isn’t a good base number to compare to the costs of a home purchase. The median income of couples would be a better choice, since far more couples are pursuing home ownership than singles. Also, most part-time employees are not yet at a point where they’re able to pay all of the expenses involved with owning a home, even if they were able to support the initial purchase cost, amortized over 25 or 40 years.

    Telly: The table you point to shows that average earnings for full time workers were $39,200 for women and $55,700 for men, or an average of $47,450 (assuming equal numbers of both sexes). That was in 2005, though – add in a couple years’ worth of inflation, and you get a number just above $50,000 – pretty close to my original statement that the “average salary right now is around 50k”.

  • Traciatim February 21, 2008, 4:08 pm

    George, even if you use 100K as the family income in my examples above you still have the following:

    Cost Ratio List
    Halifax: 2.09
    Saint John: 1.35
    Montreal: 2.42
    Toronto: 3.95
    Saskatoon: 2.55
    Calgary: 4.0
    Vancouver: 5.66

    All this proves is the same point that Toronto, Calgary, and Vancouver have gone way to far beyond where they should be for supporting salaries to sustain and are due for a long period of price stagnation or home price reduction while the rest of the country plods along increasing at the rates to match incomes.

  • George February 21, 2008, 4:32 pm

    Traciatim: I agree that the cost ratio is totally out of whack for many markets. Given recent increases, a number of other cities could be added to your list – Regina and Edmonton to name but two.

    I’m in Edmonton, and if we would have waited five years to buy our house, we would have been getting a 40-year mortgage just to afford the place we’re living in now.

  • Telly February 21, 2008, 4:39 pm

    George, you’re assuming that every household has two income earners and that both work full time. We know that’s not the case and many of these families still own homes. The other table I linked to clearly shows that the only households that make ~$100k average income are those with 3 or more earners.

  • Telly February 21, 2008, 4:57 pm

    JRich,
    Here’s another link for the US for Dec. 2007 (which conpares directly to your Canadian link):

    http://www.census.gov/const/uspricemon.pdf

    $267,300 US
    $317,825 CAN

    That’s almost 20% higher in Canada. Your point about urban vs. rural is well taken but given the population density, I still find these numbers pretty surprising. Then again, maybe it’s because we haven’t seen the bubble burst yet…

  • Traciatim February 21, 2008, 5:10 pm

    Hey George, I agree. In fact I found a really great page that’s not really new information but it shows a great chart of 123 cities and their “Cost Ratio” as I calculated above. They actually did use average family income, and average sale price of homes. They called it “Time to buy” and they came up with the number by dividing the average home price by the average family income.

    http://tinyurl.com/2ajozz

    I thought everyone would like it, it’s MoneySense top places to live in Canada and they have a pile of stats on there.

  • nobleea February 21, 2008, 5:14 pm

    Guys, interesting discussion you have going on.

    But I have one question…the ‘rule of thumb’ of 2-3 times the household salary should be the house value…Wouldn’t it be more appropriate to have the rule of thumb for the MORTGAGE value instead? If a guy received $400K inheritence or money in the lottery, but they only made 40K a year….

    Surely there must be some accounting for equity built up in homes? Obviously, it’s a rule of thumb for new buyers. But to say that everyone making under a certain amount has trouble making payments assumes that everyone bought this year. If, for example, a family making only 50K/yr bought before the runup in prices in Alberta, they could easily afford a larger house now due to the massive equity in their home.

  • George February 21, 2008, 5:18 pm

    Telly: I’m not assuming anything – we’re just making a comparison between the average household income (and, let’s face it, most households nowadays have two earners) and the average cost of a house.

    Nobleea: Point well taken. The reason that housing prices can be sustainable (for some period of time, at least) at levels several times greater than the average household income is that most homeowners are NOT buying a home every year.

    The problems will come up when enough people try to “cash out” on their home equity. When that happens, housing prices will fall back to a more reasonable level.

  • George February 21, 2008, 5:24 pm

    Telly writes: “only households that make ~$100k average income are those with 3 or more earners.”

    This is one of the difficulties in looking at averages. Yes, it’s true that you need three income earners for the “average” household to have income above $100k.

    Thing is, there are plenty of two-income households that make above $100k, but the average is somewhat lower because most households have one spouse (usually the male) who earns a high salary, and one spouse (usually the female) who earns a lower salary.

    In any event, the bottom-line point that I think we can all agree on is that housing costs have risen far faster than average incomes, and at some point something will give. Whether prices will plummet in a short period of time, or simply stay stable for a decade or two, remains to be seen. I think everybody agrees that double-digit increases in housing values simply aren’t sustainable over a long period of time.

    Over long stretches of time (several decades), real estate prices haven’t risen much faster than the rate of inflation.

  • telly February 21, 2008, 6:38 pm

    George, I totally agree with you and the points made above (equity built up in homes, amount of down payment saved, etc.) mean that we can’t simply use statistics 100% of the time to determine affordability, other issues come into play.

    The recent home value increases are definitely not sustainable and we’re seeing how that’s panning out in many countries. It just worries me that young couples feel the need to “buy now before housing becomes unaffordable…they’re not making any more land…”, even if that means a 40 year mortgage. Owing more on your mortgage than you have equity in your house is not a good position to be in, especially if interest rates rise.

    I think lenders need to add a disclaimer to 40 year mortgages instead of encouraging their use in far too many cases.

  • AmateurRealEstate February 21, 2008, 7:12 pm

    I agree with James, that a 40-yr AM is excellent for rentals. It considerably increases cash flow, the interest is a 100% tax write-off (assuming the structure is a 100% rental), and if you really want to pay it off in 25 years then you can just pay more per period (if you have apply the required discipline). I am considering moving some of my rentals over to 40-yr AMs, resulting in somewhere along the lines of a 30% cash flow increase. Not bad for changing a single variable in the equation! Note that I have not considered the cost of breaking my current mortgages yet, so this may be prohibitive, but it’s on my to-do list to look at it seriously.

    — Pete

  • Dividendgrowth February 22, 2008, 4:17 pm

    Jason from mymoneyblog had an interesting article on long-term versus short-term mortgages. I liked his graph.( i like charts in general )

    http://www.mymoneyblog.com/archives/2008/02/mortgages-monthly-payments-vs-loan-term-length.html

  • Gates VP February 25, 2008, 4:09 am

    Wow guys, that’s a lot of data there, I’m going to chime in with Tim here and say that prices are currently “too high” for the long-term. Not “going to crash the markets high”, just too.

    nobleea brings up a neat point: If, for example, a family making only 50K/yr bought before the runup in prices in Alberta, they could easily afford a larger house now due to the massive equity in their home.

    But I think that you kind of have to ignore those little “humps” b/c that’s not a long-term model. But that goes right back to traciatim’s data. Sure, some people “made a killing” selling homes in Edmonton, but I know three people who just moved out last month (co-workers) and the selling process has been a hassle.

    However, your comment does bring up a great point that I heard elsewhere: the median family income does not buy the median family household, of course, families with sub-median incomes typically don’t buy homes at all.

    Here’s my personal gauge. Take 2 20-somethings one of which is a professional (say 27), if these people can’t afford a house, then the prices are probably too high. Edmonton right now is a great example of this concept. I had a professional career, my wife was working part-time to full-time with the City, but there was no way we could afford a house. Or at least not a house and a car (heck we rented and lived without a car). Don’t get me wrong, lots of people were trying to make it happen, but it wasn’t working.

    So why is this 27-year old marker important? B/c these are the people moving into the new houses. Everyone “established” already has a place, but that place isn’t “worth” anything unless there’s someone there to buy it. If young couples can’t afford to get into new houses, then who’s going to buy more houses? Young couples may be able to hold off for a year or two, but if you’re in a committed relationship with good jobs and you can’t afford the extra space your kids require, you’re either going to need a raise or you’re going to have to leave.

  • George February 25, 2008, 9:51 am

    Gates: You left out one option for the 27-year old couple: offer less for the house you want to buy. In Edmonton at the moment, prices are declining (or, at the very least, levelling off).

    I know somebody who bought a home in April 2007 for $400k (at the height of the market). They tried to flip the house six months later for $550k. Needless to say, they still own the house; it’d probably sell now for around $400k or less, meaning that selling the house means taking a hefty loss, especially factoring for real estate commissions.

  • Brian Poncelet, CFP February 25, 2008, 10:15 am

    Hello MJ,

    If you like a 40 year mortgage then you will love a line of credit! For investments the 40 year mortgage is good, but buying a house even in Vancouver, this is like renting.
    Yes, I know real estate will never go down, but if it goes down like in the early 80’s you could have a mortgage worth more than the house!

    regards,

    Brian

  • yyj February 29, 2008, 7:52 pm

    I think 40 year AM is an excellent option. I just checked with the big banks and all of them allow double-up prepayments and allow you to make lumpsome payments 10-25% annually. If a person is discipline enough, and make double-up prepayments on all payments, it’s like having a 20 year AM. It gives you the flexibility. You can decide to pay less, or more.

  • George February 29, 2008, 11:30 pm

    yyj: The vital part of your comment is where you say that a person must be disciplined. Most people aren’t – they pay the basic payment of their mortgage and nothing more.

    Also, the “big banks” are usually poor choices for a mortgage – in almost every case, the rates they offer are higher than the alternatives. We used to have our mortgage with RBC, but saved about 0.4% when we switched to another lender through the assistance of a mortgage broker.

    The broker we used was Melanie McLister, who writes for the Canadian Mortgage Trends blog (www.canadianmortgagetrends.com) – her service was excellent.

  • yyj March 1, 2008, 7:29 am

    I guess for the people that aren’t disciplined, having a mortgage may not be a good thing at all. After all, the pay check may go to something else other than making regular mortgage payment. For the non-disciplined ones, a good way is to set up pre-authorized (double-up) payment ?

    From other blogs, I see some people doing this. They obtain the best available rate through a mortgage broker. And then they bring the paperwork to their “big bank” home branch. Most times they will be able to match. Because the banks don’t have to pay commission to the broker. But I do think that this is not too ethical though.

  • George March 1, 2008, 11:24 am

    Most people are disciplined enough to pay the basic mortgage payment – they know that not paying that bill will result in their house being repossessed. Of course, that discipline doesn’t usually extend to making extra payments.

    I once had somebody tell me that a mortgage payment is like background noise – it’s there, but you do your best not to notice it. You also don’t bother trying to get rid of it, since it blends in after a while.

    I went to our bank and wanted to see if they would match the broker’s best rate, but they refused. Accordingly, my business went elsewhere and I’m happy with the switch.

  • Mike March 3, 2008, 12:50 am

    I got an offer for one of these here in the States. It was a 40 yr refi through Countrywide Mortgage…

    I have to say, I considered it for a minute to free up monthly cashflow toward the other, higher interest debts, but I became reluctant to act on it when I figured what 10 more years of interest would cost me.

  • newcanadian March 18, 2008, 5:13 pm

    I wonder why nobody mention that when you are renting, especially in places like Calgary you waste your money ( means rent aprx. equals mortgage ). An also that if you have family, you have to live in decent place, so that is why 40 years AM, it is helpful

  • George March 18, 2008, 6:53 pm

    newcanadian: Renting a home is not “wasting” money. Neither is buying food or clothing. Shelter is a necessity, and renting is one way to obtain that shelter.

    It’s also not fair to say that rent approximately equals the cost of a mortgage. If you have a mortgage, you also have to pay property taxes, utilities, repairs, and maintenance. Some or all of these items are included in most rent payments.

    If you’re getting a 40-year (or longer) mortgage, you’re effectively paying rent to the bank instead of to a landlord. Except that you may be in a very bad situation if your home’s value drops and you end up owing more money on the mortgage than the home is worth.

  • Gates VP March 18, 2008, 8:06 pm

    newcanadian: I wonder why nobody mention that when you are renting, especially in places like Calgary you waste your money ( means rent aprx. equals mortgage )

    Because this is patently false and one of the myths many of us are trying to dispel.

    Total Cost of Home Ownership:
    Mortgage + Maintenance + Utilities + Property Taxes + HOA/Condo Fees (if applicable) + Additional Property Insurance + Lack of Mobility + Your Time

    If Rent ~ Mortgage, then it’s quite likely that the Mortgage is more expensive not less. Paying $1730 for a mortgage over 40 years (@ 6.5%, 5-year rates), gives you about 300k in house (we’ll assume a 30k down), which gives you a starting place in Calgary right now.

    So now we start adding:
    Maintenance is estimated at 1.5 to 4% of your purchase price per year. Here’s a great list of stuff that breaks. Given the cost of labour in Calgary, let’s go with 2% = $6600 / year = $550 / month. Even if you’re handy and can keep that down, that’s still $275 / month. Obv. it’s not every month, but it averages out to that.

    Utilities, maybe it’s a wash if, so we’ll just say zero, but apartment renters often pay less than condo owners.

    Property Taxes: right now in Calgary this is about $200 ($2400 / year), the average number for Winnipeg homes is $3600+! Expect that number to go up as Calgary is squeezed by increased labour costs.

    Additional property insurance: $50 / month.

    Lack of Mobility: (depends on career) If you’re living in a factory town, your home could become worthless overnight. If you’re on the fifth year of a mortgage and your dream job comes up somewhere, you either have to rent your place or throw your money away.

    Heck, on the 5th year of your 40-year mortgage you’ll still owe 296k on the house! That’s right, you’ll have paid 102k over five years + all of these other things and you’ll still owe 296k on the house!

    Your Time: Owning a home definitely takes time. It’s far less time consuming to write a note to your landlord (A/C not working) than it is to find someone to fix the A/C.

    So breaking this down, monthly cost to own =
    $1700 +
    275 +
    200 +
    50 =
    $2225 / month + 30k down-payment + long-term commitment

    If you start your 40-year mortgage now to accommodate your 2 & 4 year old kids (for example), they will be 42 & 44 when you finish your mortgage. When they’re 12 & 14 (in 2018), you will still owe 277k on the home, which will make it tough to move.

    I’m not saying that ownership is bad, but it’s very over-rated. If cost to rent ~= cost to own, then renting is likely less expensive, especially in the case of a house.

  • Traciatim March 19, 2008, 10:50 am

    Gates VP, here is the trouble with your hypothesis. Assuming you were looking at that exact home you look at your equation of what a house costs, I’m taking out Lack of Mobility and Your Time, since they aren’t really financial costs, but simply opportunity costs.

    So lets look at the 300K home, it costs:
    Mortgage + Maintenance + Utilities + Property Taxes + HOA/Condo Fees (if applicable) + Additional Property Insurance

    Now let someone else buy that 300K home, and you rent it instead:
    Mortgage + Maintenance + Utilities + Property Taxes + HOA/Condo Fees (if applicable) + Additional Property Insurance + Landlord Profit + Tenant Insurance

    Now sure, I agree with you that in places that have bubble home prices and rents haven’t caught up yet, it’s probably better just to rent. In most normal places in the country that aren’t in a frenzy if you are staying put for 5+ years you’re probably better off financially buying.

    If you look at my other posts over at Canadian Mortgage News you’ll see how I’m making your point for you for areas like Calgary where home prices have spiked way past the “3 times median income rule of thumb” in the area, where historically the median home prices have pretty much followed incomes.

    Take my city for example. I’m way out on the east coast (like on the ocean east coast, not Ontario) and while no one really wants to live here, it keeps home prices pretty rational. The median family income in my area is something like 60K and the average home sale price from the CREA website is at aroun 160K. That’s pretty darn reasonable.

    Another thing you forgot to mention is that in your example of when the kids are 14, your 300K home has appreciated at an average rate of 2-3% per year, plus you retain complete cotrol of upgrades which make it worth more. Assuming you paid nothing extra on your mortgage and you owed 277K on your home and it’s now worth somewhere between 365K – 400K. Suptracting your agents 6% (or 24K) you walk with 400K – 24K – 277K – 15K (for staging and prep) = 84000 dollars. That’s with 0 down on a 40 year mortgage over 10 years with 3% appreciation. I didn’t calculate the CMHC fees and all that jazz, but you get the point.

    I think the argument for and against buying realistically will never be won. Each province, city, neighbourhood, and even each individual deal has so many variables that you can never come up with a clear winner unless you are looking at two very specific properties and comparing the rent vs own. Even then you’ll never know the real cost of each until you’ve lived there a while. What happens if that great apartment you’re renting on the cheap is around the corner from an awesome health food restaraunt? This could happen anywhere and use a ton of your cash without even realizing. What about when you’re renting your apartment and people move in above you and across from you that you can’t stand. That’s what happened to me, and why I’m now enjoying a back yard, large deck, my own paint on the walls, and detatched from anyone who could suddenly move in around us. It’s a personal call, not a financial one in my case. Though finances play a part, it just makes sense for my family and were not the primary concern.

  • Gates VP March 19, 2008, 11:22 am

    Tim;

    I agree with you completely.

    The buy vs. rent decision is so ridiculously complicated that it is clearly in the realm of being a “lifestyle decision”. I just presented an argument to the contrary to help bring it back to that realm.

    I actually don’t care what people do with their money so much as why they do it. When people say “renting = throwing money away”, it means that they’re basing their decision on bad information and that makes Gates a very sad panda :(

  • Super Dan May 5, 2008, 3:54 am

    40 year am is great for getting into investing when you don’t have much income to start.

    on places between 150 to 200k you spend about $200 dollars less each month

    if you rent out the house and live there you will stay in the positive. With what ever you want at the end of the year you can pay the maximum prepayment.

    If you pay the maximum prepayment every year the amount of extra interest you pay is only a few thousand dollars.

    So in my opinion 40 year am is great for starting real estate investments because it gives you a safety net when your property is not as lucrative as you thought it would be.

    You can always increase your payment amount if your income is higher in a couple of years. A house can be payed off in less then 7 years doing this with a bit of luck and skill.

  • Cannon_fodder May 5, 2008, 2:36 pm

    Super Dan,

    And if you factor in inflation over a 40 year amortized mortgage the actual cost in today’s dollars of a 40 year vs. a 25 year are not nearly as large as people would expect. The total cash outlay may be something around 30% higher, but with inflation factored in it is only around 15% more.

    Finally, it is a reasonable projection that making payments commensurate with a 25 year amortization but instead taking out a 40 year mortgage and splitting that into a 40 year amortization and the remainder going to a non-registered investment can yield a better net worth than sticking with just following a 25 year mortgage paydown plan.

  • JR May 5, 2008, 7:05 pm

    A 100% 40-year AM mortgage versus a 80% HELOC … well

    Its not really a tough decision, since it is my opinion that 100% leverage for safe secure investments (such a REI or dividend paying securities that pay double your interest payments on the loan) is the best deal in town.

    If you never ever want to pay off your residential mortgage or an REI mortgage (since you always want cash-flow) then its better to always leverage max.

    Its all a mind set, and can you sleep at night

  • George May 5, 2008, 9:11 pm

    JR: I think it’s a misnomer to call investments in real estate and dividend stocks to be “safe secure investments”. Both are securities that can change in value greatly for any number of reasons – Tenants can destroy an investment property, a business could go into a downward spiral (Enron, Bear Stearns, Nortel, etc).

    Risks are involved in all investments, and characterizing real estate and dividend-paying stocks as “safe” isn’t a fair or accurate description.

  • JR May 5, 2008, 10:16 pm

    yes George you are correct, but like the old saying “as safe as houses”, my reference was to leverage.

    Before I say anymore, I want everyone to know that I am a Canuck living in Southern Ontario.

    One of my personal examples posted somewhere else, is an REI that I purchased for $125k 3-years ago that has a 100% mortgage and cash flows a nice $1000/mth. Its a walk away situation, “as safe as houses” should the housing market crash, what do I care.

    Same goes for dividend paying stocks, that are optionable long & deep in the money … yet to lose a single red cent … a strategy that works for me .. and only me, thank you very much.

    Everything in life is a risk, even putting a million dollars in a safety deposit box or under the mattress, there are no guarantees that the million is ever safe.

    I am 61 years old, I do not have time on my side, I have had my trips and pick-me-up’s, but what do I know!

    You do whats best for you the individual. My strategy is mine and only mine, it works for me, it belongs to me and not considered advice for anyone else to try.

    Now George, back to high leverage, do you have any suggested minimal risks investments. that hedge against what-if uncertainties?

  • George May 5, 2008, 10:47 pm

    JR: Your examples aren’t truly indicative, since you’re referring to a real estate investment that you purchased before the market jumped. Anybody buying now is buying into a market at the peak. Sure, you don’t care that your $125k REI might tank in value, since you know that it’s not likely to drop below the $125k you paid. That can’t be said for the same person who bought the same house six months ago for $400k.

    Yes, everything in life is a risk, but generalizing like that isn’t helpful. The goal is to maximize the reward and to minimize the risk. Leverage increases the risks AND the rewards of any investment – the bonus you get from leveraged investing when the investment grows is just as much of a handicap if the investment drops in value.

    You say that your strategy is “mine and only mine”, yet it’s clear that you’re advocating your strategy as being a “safe” way to invest. I’ve pointed out that it isn’t necessarily as safe as you think.

    Minimal risk investments are things like insured bank accounts, GICs, and so on. They don’t have any chance to grow greatly, but they’ll typically keep up with inflation. They don’t have much of a chance of dropping in value, also. These aren’t the best choice for everybody, but they should form a core part of any portfolio.

  • JR May 5, 2008, 11:26 pm

    George you referred to banks and some of their products.

    you said

    “Minimal risk investments are things like insured bank accounts, GICs, and so on. They don’t have any chance to grow greatly, but they’ll typically keep up with inflation. They don’t have much of a chance of dropping in value, also.”

    I refer to banks in the same way as a brothel, or those so called strong financial institutions in the US that have gone bust in the past, or the like Northern Rock in the UK, or like the Fannie Mae’s and the Sallie Maes… no guarantees.

    Dont ever say your money in the bank is safe. Sorry, if you want to be a purist then the closest it gets is under the mattress or in a safety deposit box.

    Hedge against the downside, maximum leverage … that is my investment strategy… I read that somewhere from a 1929 market crash that someone made zillions

    RBC nice Canadian bank, fluctuating stock, pays a 3% dividend, no guarantee on capital

    GIC’s 4-5% (non RRSP’s), taxable until the TFSA comes around.

    Then again, no guarantee or hedge against inflation, or if the bank or Canadian economy waffles.

    Its really amazing how a loonie could do what its done in the last twelve months, or that the US buck no longer commands the worlds attention, everyone eyeing the Euro … whatever next, we will be trading carbon credits … not a bad idea!

    George, I dont know whether the Canadian government will go bankrupt, whether the CPP or OAS will be there in the not to distant future, or whether the loonie will be devalued to a second or third class currency within the next 10-years.

    Canada is dependant on the USA for survival, and should the US be hurting, it is likely they will pull everything back home (I would)

    The auto industry is hurting in Canada, that in turn spins off to other industry sectors, housing, sub-factories, the butcher, the baker the candle stick maker.

    On the East Coast the fisheries industry ain’t what it was, as is the logging & timber industry in BC.

    its a selfish individual world that we live in George, its every man & woman for themselves … banks, industry, the ecomomy, politicians

    Sorry to go on, but everyone and everything is leveraged. Its belongs to no-one

  • George May 5, 2008, 11:40 pm

    JR: It’s difficult to respond to your comments if you can’t confine yourself to a single topic.

    I will, however, disagree with you regarding the safety of “money in the bank”. Bank deposits in Canada are 100% safe if they are insured by the CDIC. If the bank goes under (highly unlikely, but possible), then your deposits would be returned, up to the CDIC maximums. An insured bank deposit carries far less risk than a highly-leveraged investment in real estate.

  • JR May 6, 2008, 12:20 am

    George, I do waffle, so please forgive me.

    On CDIC, not everything is insured and even the CDIC caution about stability

    So that said, I guess your money (the majority) is in daily interest, Bonds, Mutfunds, GIC (longer than 5-years) and RRSP’s

    As safe as houses.

    A person saves from net income (after paying taxes) to purcahse a home. They leverage that home by paying a financial institution over 25-years 2.5 times that mortgage loan all from net income

    George, I have nothing further to say on safe and secure

  • George May 6, 2008, 12:26 am

    JR: I agree that leverage can and does make sense (mortgages, as you point out, are leverage). Houses are only a “safe” investment if they appreciate in value – investing $400k on a house that might only be worth $300k two years from now is not a “safe” investment, especially if you might have to pay the whole $400k back (plus another $600k in interest) to the bank on your 40-year, 100% financing mortgage.

    Real estate investments can be great “passive” investments, but they can also be huge money pits, especially if vacancy rates skyrocket and you have difficulty finding good tenants. Your “$1000/month” cash flow is by no means guaranteed, and you need to have the ability to cover the mortgage and other operating expenses without the benefit of a tenant paying rent, should that situation arise.

  • Vancouver realtor May 6, 2008, 7:43 am

    Mike you’ve made a nice summary of main advantages and disadvantages of a long-term mortgage. I especially like your conclusion “if you can’t afford a 25 year mortgage on the home that you want, then the home is too expensive”.This is absolutely right. This should be one of the basic clues when somebody is deciding to buy a real estate. I am working as a Toronto realtor and I can just confirm that many homebuyers tend to make this mistake and buy a house which is beyond their actual budget line.

  • Dinglebottom June 7, 2010, 1:32 am

    It’s interesting to read the comments on this article two years later.

    I wonder what folks who commented would be saying now.

  • George June 7, 2010, 9:16 pm

    @dinglebottom: It is indeed great to look back! 2.5 years ago I thought I’d have a mortgage-free house in 11 years. Now that goal is only 2 years away! Extra payments and some diligence have worked wonders!

    Plenty of folk have the opposite problem though – 40-year mortgages that are on year 2, with negative equity (the mortgage balance exceeds the house value). I fully expect housing prices to continue to drop over the next few years.

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