The stupidity

Once there was a young lawyer. He awoke from years of study, and was confused.  He wrote me.

I am gleefully close to finally paying off 96k in student loans. I am trying to determine what my investment strategy should be going forward now that I will no longer be required to fork over 4k/month in loan and interest payments.

Part of me wants to dive into real estate ASAP given that I could have blown through the above-noted debt and accrued tax-free gains had I bought a condo upon arriving in Toronto in 2014 and sold it during the boom (as one forward looking mentor advised me to do). The other part of me wants to save and build up my TFSA, RRSP, etc, given that I’m scoring a goose egg in each of those categories.

They say scared money don’t make no money, but stupid money don’t either.

Please help me sort through the stupidity and determine how I should move forward in the short term.

Let’s call him Prospero. What do we know about this guy? Well, moister lawyers usually start earning about $70,000 out of law school, and average $140,000 after six or seven years on the job. Crusty old partner lawyers can collect $500,000, which they blow on trophy houses, wives & kids. So, if you know a tort from a tart, the odds of advancement are good.

P has no debt, which is a bonus. He has no assets, which sucks. He reads this blog, which is inspiring. He’s asking questions, showing he’s yet to become omniscient (that happens about year 8).

Our guy also sounds single, unencumbered and unattached. So why would he want to buy real estate when he can rent for less? Because, as he said, a condo gives “tax-free gains” and if he’d bought five years ago he’d be rich (sort of). Five years ago the average 416 condo sold for just under $400,000. Last month the average concrete box was selling for just over $600,000. So in five years there was a 50% gain – giving an annual growth rate of about 7%.

That’s cool. Among the best five years in real estate history, and pacing what a balanced portfolio returned over the same period. However, the profit was free of any tax while financial asset gains were added to taxable income (albeit at a lower rate). To be fair, though, the average Toronto condo also came with costs – over five years about $40,000 in condo fees and property taxes. And then there’s the $30,000 to be paid in realtor commission when selling. So assuming mortgage payments roughly equalled rent ($2,000 a month for a $400,000 borrowing), the cost of ownership was $70,000. So the five-year gain was $130,000. Still good at 6% or so per year.

Prospero has a point. The trouble is, he has no money and probably didn’t five years ago, either. That would have meant 100% leverage which is, ah, impossible unless you get your loan from the green van behind the laundromat and beg for a cash-back mortgage.

But this is today. One-bedder condos are six large. Buying with 0% down would mean $3,000 a month in financing, or 50% more than rent. Add in monthly fees, taxes and selling costs and P would have to dump this unit for around $900,000 in five years to pocket that 6% annual return.  And this begs a simple question: who will be paying almost a million bucks for a 600-square-foot pad in a frosty city filled with condo construction cranes sixty months from now?

Beats me. To score a condo at $900,000 with 5% down ($45,000 plus closing costs) even if interest rates in five years where they are now would require an income of $165,000 just to meet the 35% Gross Debt Service Ratio (not even considering the stress test).

Will young lawyers (or programmers, baristas, Pilates instructors, Uber drivers or teachers) who now earn seventy or eighty grand see that double in five years? Nope. Not a chance. So if Prospero really wants to make money on real estate, he should (a) buy dirt, not a box in the sky in a city with tens of thousands of new units coming to market and (b) get out of Dodge. There are (hard to believe) some great cities in Canada where they actually have lawyers and real houses on earthy lots that cost a fraction of the amount. Montreal, Ottawa, Halifax, London for example.

On the other hand four grand a month invested in a nice TFSA, RRSP and non-reg accounts over five years earning an average of 6.5% would equal $283,000 – and no debt.

So, what would you rather have, Prospero? A shoebox condo which might rise in value costing three grand a month to carry with $600,000 in debt, or no borrowing and $283,000 in liquid assets? You have to ask? What kind of fuzzy-thinking lawyer are you?

When real estate blinds even those whose job it is to dispense advice and common sense, no wonder what’s in store.

Carol and Kelsey: 'I cried in thanks...'

Yesterday’s blog mentioned Carol who has terminal cancer, and her anxiety over what will become of her golden retriever, Kelsey. Last night a flood of emails arrived from people willing to care for Kelsey or provide other assistance for Carol, from southern Ontario to Vancouver. They were all passed on this morning. “It’s hard to believe total strangers would do this,” she said. “I am so relieved there are options ahead for Kelsey. I cried in thanks when your note arrived.”