Unlocking Maximum Value! Is A Toronto Multiplex in Better Location A Better Investment?
Introduction
Imagine this: We have two investment options available, both houses are in Toronto. Both properties have multiple units and both need big renovationss. One is in a better location and so it needs 25% more money upfront.
But also because of the difference in location, we also see better cash flows from the one in the better location – a whopping 50% better cash flow in fact.
So based on just this, it seems that the more expensive property is a better opportunity. But is it?
The straightforward answer is yes, the more expensive property proves to be the better investment. However, the reason lies not in the rent yields, but rather in the value-add.
In this video, we will dive deeper into this to help you understand why the pricier property is actually the better deal. Let’s get started.
Comparison Of Capital Requirements
Let’s take a closer look at the market values of these investment properties that have been fully renovated in these two areas. The turnkey house in the more expensive area could be sitting at around $2 million.
On the other hand, the cheaper one, which is a bit further away from downtown but still within 416 Toronto , comes at closer to $1.375 million.
But here’s the thing— we want to take advantage of some value-add gain and so we’re going for properties that are big projects. Considering the amount of work required, we might be able to get a 20% discount off. So as a result, the more expensive property ends up selling for $1.6 million, while the cheaper one goes for $1.1 million.
Honestly, both these opportunities need a lot of money because you can’t get a mortgage for the $200K renovation.
With a 20% downpayment, the more expensive house needs close to $580,000, while the cheaper one comes in at around $460,000. That’s how we end up with a roughly 25% premium on the more expensive house.
Comparison Of Cash flow
Now, let’s look at rents.
The more expensive house brings in close to $9,300 in rents, whereas the cheaper one might get you around $6,600.
So when you compare the cash flows after considering operating expenses and mortgage payments, the cash flows are 50% better for the pricier house. That’s why, based on cash flows, the more expensive house appears to be the better opportunity.
But hold on a second—if you look at rents in proportion to the the market value of the ready-to-go properties, the cap rate ends up pretty similar. So what this means is that rent yields in the better area isn’t actually better.
Comparison of Value Add Return
Here’s the real reason why the cash flows are significantly better with the better location —it all comes down the value-add bump.
Think about it this way. When you apply a 20% discount to a $2 million property, you save $400,000. So once you take way the $200,000 you put into the upgrades, your value add return is $200,000.
On the other hand, $1.1 million property post-upgrades becomes a $1.375 million property, so the value-add return ends up being $75,000 simply because the renovations still cost $200,000.
In other words, you end up getting a bigger absolute discount with the higher purchase price, which ends up giving you better value-add ROI, and that’s precisely why it turns out to be the better deal and probably the one you should choose if you have the money.
Pros & Cons Of Each Opportunity
Even though you don’t get as much value-add gain which is actually just a one-time bump, the on-going cap rates end up similar either way you go.
The second thing to think about is appreciation. I wouldn’t say it’s certain but many times, lower priced homes end up seeing better appreciation.
What happens is more buyers can qualify for these homes, which fuels more buying momentum from the pool of buyers. And eventually when the demographics change, these often end up becoming up-and-coming areas which is associated with higher gentrification growth.
The one in the better location is a lot of money, but if that fits your profile, that’s probably the better one to consider.
Appreciation in more mature areas might be slightly less than the up and coming ones but it’s definitely more stable, and the big one that wins is of course the value add gain and stronger cash flows. So basically, this translates to an investment with less volatility or uncertainty and better expected returns, so that we definitely consider a win.
The other thing to keep in mind is the limit on the number of properties you can finance. There is a cap on this and lately, it’s gone down from 10 to 5 at many big banks and that’s a drastic change. By buying larger properties, you can make sure you’re taking full advantage of the limited number of properties allowed on the mortgage side.
How We Can Help
Now as you can see, there’s actually a lot of things to consider when it comes to real estate investing and if you’re feeling overwhelmed going at it on your own, you don’t need to be because our team is here to help!
We’re a real estate brokerage based in Toronto, specializing in investment houses in Toronto and we can help you get started or grow your real estate investment portfolio. Just take the first step and connect with us privately!
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