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Mortgage Financing for University Home

A PROPERTY FINANCING GUIDE FOR THE PARENTS OF UNIVERSITY-BOUND KIDS

On this article page, we discuss buying a property to house your university-bound children as an investment strategy.

The General Thought...

Student accommodation for an out-of-town university or college is at least $30,000 more than the cost for students living at home for a four-year program.  If you are 'footing the bill' to have one or more children attend university, this can really add up to a lot of money.

Invariably, the thought comes up about buying a property instead of paying rent for on- or off-campus accomodation. You make a mortgage payment instead of paying their rent with the intention to sell the property after graduation, perhaps in five to seven years. During the university years, the mortgage balance decreases and hopefully the property appreciates. Done right, there could be a decent profit to re-coup expenses incurred toward your kids' education. 

Other opportunities to save money might be lower cost home-cooked food vs. cafeteria food. Further, if there is an extra room or two, bringing in other student friends to pay something to offset property operating costs such as taxes, utilities, insurance and maintenance will make the numbers look much better.

Considerations:

  • Today, for a single bedroom (dorm or house), rent will be ~$500-$600/mo depending what part of the country you live in. If you have 2 kids attending college, that is $1000 to $1200/mo + cost of food.
  • The price of a three or four-bedroom house can easily run from $350,000 to $450,000. Based on 20% down, the mortgage payment on an example $400K home will be $1500/mo (based on 2015 interest rates and a 25-year amortization schedule). 
  • For responsible children, having them find tenant roommates and care for the house in exchange for your financing their education might be a safe bet. For less than responsible children, think "Animal House" and reconsider the strategy!
  • Location is very important in attracting and keeping tenants. Think proximity to public transportation (esp. LRT or express buses) offering direct routes to the school for properties not within easy walking distance.
  • Profit on the sale of the property is normally considered a capital gain, with 50% taxable at the client's marginal tax rate.  Losses can be used to reduce current tax liabilities or carried forward into future tax tears.  Claiming CCA as an expense is usually not advisable with investment properties as it must be repaid (recaptured) on sale profits.
  • As with any investment, understanding the product and the market is important.  For example, as this strategy can be very popular near universities, etc., are the values of suitable homes inflated?  Are you mentally and physically capable of being a landlord?  
  • The real bet is on capital appreciation - are prices going up, flat or down?

Purchase Example

Let's look at an example where you have 2 kids that will attend University, 2 years spacing, and you plan to buy a place with 4 bedrooms. Keep in mind that there may be some vacancy during summer months, when students often go home.

  • Purchase Price $400K
  • Down Payment: $80K (20%)
  • Mortgage Opening Balance: $320K
  • Mortgage Payment: $1465/mo
  • Property Taxes: $250/mo
  • Insurance: $100/mo
  • Basic Utilities: $350/mo
  • Mortgage Balance after 6 years: $261K
  • Net Property Selling Price in 6 Years: let's say $60K more than you paid, so $460K net after transaction fees (this is ~3% value appreciation, long term average is actually higher but all depends on economy.)

Money made or spent at the end of 6 years: 

  • Sell property, pay off mortgage, return of down payment:  $460-261-80 = $119K earned (note: capital gain would be $60K: $460K-$400K)
  • Operating costs for 6 years: 72 months X [1465+250+100+350] = ~$156K spent
  • Room rent for 6 years: 72 months X 75% (occupancy rate) X 4 rooms X $600  = ~$130K avoided/earned

Add 'em all up: $119K (profit on sale) LESS $156K (operating expenses) PLUS $130K (rent earned or avoided) = $93K profit before taxes (taxes would be ~$12K; 20% on the $60K capital gain ).

As you can see, there could be some reasonable profits that make this strategy worth exploring.

Key points to make the numbers work for a University housing purchase strategy

  1. You must have a market view on the direction of housing prices and potential magnitude of change. A flat or down market will really impact the economics.
  2. Avoid or minimize vacancy. For example: offer a "hold your room" rate for students that might otherwise vacate during summer.
  3. The more bedrooms there are (or can be), the better the earning potential of the asset.
  4. Your financial planner may have other suggestions regarding tax savings tuned to your specific financial situation, and there are some.

Please contact us if you have more questions on how this strategy might work in your situation. Below, we talk about the mortgage lending options...

    

As licensed professional mortgage brokers, we know exactly what it takes to qualify you for a mortgage and we do more than just get you a great mortgage at a great rate, we will show you the way, too.

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A stable home while attending University allows these students to concentrate on their studies.

University Housing from a Mortgage Planner's Point of View

For mortgage purposes in Canada,

  • The home for the child can be considered a "second home" provided that it is made available to the child on a "rent-free" basis, and is only one unit (not a duplex, for example).
  • Second Homes are eligible for CMHC mortgage insurance, meaning as little as 5% down payment. 
  • The borrower must be able to debt-service the 'second home' mortgage and property tax payments from their existing employment income along with their other payment obligations.
  • Down payment could come from a home equity line of credit (HELOC - ask me).
  • The moment the property is referred to as a "rental" or rent is mentioned, rental lending rules apply and the minimum down payment becomes 20%.  However, the client can then use eligible rental income to help qualify for the mortgage if necessary.
  • If you buy a home that needs some work, like addition of extra bedrooms, money for the improvements is available in the mortgage process (Purchase Plus Improvements).

If you or your client, friends or associates have any questions on this or any mortgage situation or need, please feel free to contact us.

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