What first-time homebuyer doesn’t hate that homes are so gawdawful expensive in this country? For many, that same hate turns to love when they retire.
The reason is equity accumulation. History shows that buying early typically exposes young homeowners to meaningful equity appreciation, sooner.
Such gains are fuelled partly by Canada’s supersized immigration targets, inadequate housing supply initiatives, land use restrictions, inefficiencies with municipal development approval, suboptimal zoning, inadequate high-speed transportation, and so on.
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Once you’re on the homeownership ladder, however, these problems start working in your favour – instead of against you. Your equity grows faster, and you can use that equity to upgrade your home, invest with it or have it as an emergency backup.
As a family matures and purchases progressively more valuable properties, its annual appreciation (in absolute dollars) rises faster over time.
This cycle of home ownership is what will ultimately prove crucial to our homebuying youth in coming years, at least those not shut out by Canada’s excessive valuations.
And that’s true for three reasons.
Forced savings
Despite a 10.8-per-cent surge in national average rents this past year, rents are still cheaper than home ownership expenses, in most regions.
But we live in a have-it-now society. It’s all too easy to blow rental savings on expenditures (eating out, fancy cars, 83-inch TVs, luxury vacations, and so on) that don’t generate a return on investment, let alone basic living expenses such as food and child care. Such spending is leaving millions of Canadians undercapitalized in retirement.
Mortgage payments are no fun but at least they force homeowners to build equity each and every month, like clockwork. And that’s essential given 52 per cent of us are not saving for retirement, according to a H&R Block Canada survey.
With a minimum 5-per-cent down, a $500,000 purchase and a 4.49-per-cent mortgage rate, mortgage principal repayments help folks bank over $900 a month. That is 15 per cent of the median household’s after-tax income. Most renters aren’t saving anywhere close to that.
Appreciation
If you look back to 1980, the furthest back we have reliable national data, 12-month home appreciation has averaged 5.87 per cent.
Moreover, if you bought your principal residence at the age of 35, held to 65 and sold it to cash in on accumulated equity, you’d pay no tax on the gain.
By comparison, the most popular retirement savings vehicle, the registered retirement savings plan, still nails you with income tax on withdrawals.
Given the principal residence exemption and assuming historical appreciation rates continue, the above homeowner would be left with more than a 5-per-cent tax-equivalent return after accounting for property tax, home maintenance and home insurance. Upgrading their home could result in ever greater appreciation.
In dollar terms, net appreciation in this scenario would end up amounting to over $1.3-million on an initial $500,000 home purchase, or 52 times the minimum 5-per-cent down payment. That would provide a vital boost to most Canadians’ retirement assets.
Now, could the principal residence exemption eventually disappear? Technically yes, if the politicians responsible for it want no chance of remaining in power.
A greater risk is that our tax-and-spend politicians restrict the exemption like they do in the United States. The capital gains exclusion there is up to $250,000 individually or $500,000 per married couple, assuming the home is a principal residence for at least two years.
Emergency fallback
Let’s say you bought a house but never built enough non-housing assets for retirement. If you’re a renter and this happens – and there are countless people in this boat – there are few good options.
If you’re a homeowner in that boat – and please don’t wind up in this situation – at least you have a backup plan. You can sell the house, pocket your equity and downsize.
Or, worst case, you can slap a home equity line of credit on the home or draw cash from your equity with a payment-free tax-free reverse mortgage.
The takeaway
Does this mean that homeownership is right for everyone? No way.
A small minority of savvy savers might still end up ahead by renting, depending on the purchase/rent cost difference in their region. But they have to be disciplined and obsessively save. And that’s a dying breed of Canadian. Moreover, where there’s no rent control, rent increases are a serious risk.
What it does mean is that homeownership is a reliable retirement strategy for the large majority. That’s critical in a country where long-term savings rates have been falling since the 1980s, COVID-19 spike notwithstanding.
The message is this: If you’re an average financially stable young person, have a secure job, live in a strong real estate market and need a home for five-plus years, find a way to get on the housing ladder earlier than later. You don’t need to buy a mansion but you do need to buy real estate.
Rates are as of April 13, 2023 from providers that advertise rates online and lend in at least nine provinces. Insured rates apply to those buying with less than a 20 per cent down payment, or those switching a pre-existing insured mortgage to a new lender. Uninsured rates apply to refinances and purchases over $1-million and may include applicable lender rate premiums. For providers whose rates vary by province, their highest rate is shown.
Robert McLister is an interest rate analyst, mortgage strategist and editor of MortgageLogic.news. You can follow him on Twitter at @RobMcLister.
