Rent vs Buy - How to Save for a Down Payment?
Welcome to Chapter 5 of our First-Time Buyer’s Guide, where we go from condo fundamentals all the way to checklists for new homeowners. There are tips and tools at every step. In this chapter. we help you evaluate the jump from renter to owner.
If you're looking for more about the cost of buying or owning, check out The Costs of Buying a Condo in Toronto in 2019 and The Costs of Owning a Condo
What is a down payment?
A down payment is money you provide as part of your home purchase. You are legally required to have a downpayment and to put this money up front.
The balance of the purchase price (the price minus your down payment) is provided by a lender as your mortgage.
Downpayments have minimums. They change with purchase price.
The mimimum down payment is 5% on a purchase up to $500,000. When you spend more than $500,000 on a condo, you face a higher minimum downpayment. You pay another 10% of the purchase price between $500,000 and $1,000,000.
This is best shown in an example:
A 500k condo requires a 25k downpayment. 5% of 500k = 25k.
A 750k condo requires a 50k downpayment. 5% of 500k (25k) + 10% of 250k (25k) = 50k.
The rules change again if the price is over $1,000,000.
Choosing a 5% or 20% down payment
If your down payment is less than 20% of the purchase price you must also buy mortgage loan insurance. It's a lump sum that gets added to your mortgage, so you pay it back over time. Mortgage loan insurance is not like car insurance in which your expenses would be covered in an accident. This insurance is paid to the government because they guarantee these riskier mortgages that lenders (banks, credit unions, etc) give to you, the buyer.
A 5% down payment is more affordable upfront, and you can buy sooner.
A 20% down payment is the ideal option for most buyers but it can take a long time to save that much money. For a $600,000 condo, a 20% downpayment would be $120,000.
How to save for a down payment
If you're currently renting, you can speed up saving for a down payment with a few strategies.
Budget out the Latte Factor:
The indulgence of everyday things can add up. That daily $5 latte is $1000 in coffee every year. Give up your car and take TTC. Give up TTC and ride a bike. Trade nights out at the bar for drinks at home. Here are 10 other things you can do.
Build your credit:
Get a credit card and use it. Buy everyday things with it, like your groceries or a latte (if you’re still buying lattes). Pay off your credit card bill in full and keep using it. When your credit card company offers you an increased credit limit, consider accepting. The more credit you have available, the better. But never max out your credit. Keep it paid off.
Invest your savings:
Open a Tax-Free Savings Account (TFSA) and/or a Registered Retirement Savings Account (RRSP) and start automatic contributions from your pay cheques. If you never see the money, you’ll never feel like you had it.
The TFSA is often considered a better option for young people because the money you put into it is tax-free when you take it out. It’s a versatile savings account, geared towards short-term savings, but there are limits to how much you can contribute.
The RRSP is geared towards long term savings and your yearly contributions are tax-deductible. Under the Home Buyers’ Plan (HBP), first-time home buyers are allowed to withdraw $25,000 (soon to be $35,000) from their RRSP without paying tax (though they have to pay it back over time), if that money is going towards the purchase of your first home.
RRSP down payment fund:
A common strategy is to optimize your yearly RRSP contribution and then reinvest the tax refund into a high interest account. The government is rewarding you for saving (in a sense), and you're turning that reward into a down payment.
Gift from family:
A “gift” of money from a family member is tax-free for the recipient and can get your down payment over that 20% line. This gift of money has to come from an immediate family member and is supposed to come with no strings attached, not to be repaid. Lenders will still look at your whole financial situation, and good credit and proof of income are still very important.
Buy to rent your Condo
The average cost of a condo in Toronto is roughly $600,000, while the average rent for a one-bedroom is over $2,000/month.
In Toronto, landlords are allowed to increase rental prices at a similar rate to inflation, typically just under 2%. The rental increase is necessary for landlords, because property taxes increase and condo maintenance fees typically increase as well. All in all, rental prices increase yearly.
In Ontario, all apartments with a tenant before November 15, 2018 are rent controlled. A landlord can raise the rent only once a year and by a small amount (1.8% for 2019). New units designed as a rental after November 15, 2018 don’t have a limit to the amount a landlord can raise the rent on a yearly basis.
To stay on track to buy your first condo in Toronto, the Next Chapter launches into the Home Buyer’s Plan and the government programs available to help you afford to buy your first home → onward to The First-Time Home Buyer Plan(s)!
