I’m not afraid to admit it: I dream of owning a cottage.
I’d love to have a place to visit with my family where we could play outside all year round, with all the comforts of home.
Christmas? We’ll host at the cottage.
Mother’s day? Come to the cottage.
Visitors from out of town? Let’s spend the week at the cottage.
It works for almost every situation.
Sadly, however, cottages are expensive. And like most people in my 30-ish age bracket, I won’t be able to afford one anytime soon.
But there’s a growing trend among millennials to hack the system and buy a vacation property anyway. It’s not feasible to own a home and a vacation property, but some young people have found a way to work around mortgage affordability rules and afford a cottage just by renting their principal residence instead of buying.
Borrowing limits in place
It all hinges on the amount that mortgage lenders will let you borrow to buy a home. As a rule, the cost of owning a home can be no more than 39% of your gross income. Your mortgage payments, property taxes, heating costs and half of condo maintenance fees are counted as carrying costs. Even a family with a healthy $100,000 annual income will only be allowed to spend up to $3,250 per month on housing costs if they want to get a mortgage.
It’s easy to see how you could quickly max out this scale. The monthly mortgage payment on a $500,000 mortgage amortized over 25 years at today’s best mortgage rate of 3.19% is $2,415. For our fictional family earning $100k, the cost of heating and property tax will quickly eat up the remaining $835 per month.
This 39% ratio applies to all properties you own. Even if you have no other debts and can personally afford another property, the lending criteria won’t allow it unless you have a well above average income or a massive down payment.
Rental expenses don’t count
Mortgage lending rules specify how much you can spend on your home, but they don’t extend to how you spend the rest of your money. There is an upper limit to your overall debt expense that includes things like car payments, but rentals don’t count.
This is the advantage some people are using to have their cake and eat it too. Millennials are able to stay within their mortgage borrowing limits by purchasing a cottage and calling it their principal residence while renting a place in the city. In areas where rent controls apply (such as all of Ontario, thanks to recent legislation), this can be done within reasonable comfort from a budgeting perspective.
The financial side of this strategy can then be helped out by sharing economy tools like Airbnb. When not at the cottage, owners can rent it out to other vacationers for a high value. Cottage rentals in prime locations can command over $3,000 per week in the peak season, potentially allowing these properties to pay for themselves. While downtown apartments aren’t as lucrative for short-term rentals, it’s still possible to make a few hundred dollars by renting one out while visiting the cottage.
First-time homebuyer advantages apply
Those who are buying a cottage as their first real estate purchase can also take advantage of a number of special programs for first-time homebuyers.
One of the most advantageous breaks for first-time homebuyers is the home buyers’ plan, which allows first-time homebuyers to withdraw money tax-free from their RRSP to purchase a qualifying home. Each buyer can take out up to $25,000 to put toward a down payment, on the condition that they pay it back over a period of 15 years.
Another is the home buyer’s tax credit. This is a one-time $750 rebate on your income tax in the year after your home purchase.
Furthermore, many provinces offer a rebate on land transfer taxes for first-time homebuyers. For example, a first-time homebuyer purchasing a property in Ontario’s cottage country qualifies for a rebate of up to $4,000 on their land transfer tax. That means they could buy a property worth up to $368,000 tax-free.
Not a perfect plan
If it was easy, everyone would do it. But like all things in life, there are downsides.
An obvious one is the requirement and expense of a vehicle. For many city dwellers, there are lots of options to get around without a car. But public transit and ridesharing can’t get you to a remote vacation home. Car payments, insuranc, and parking can easily add up to over $500 per month just to commute to and from a cottage – and that’s before gas for a 3-hour drive and the requisite box of Timbits without which no Canadian road trip is complete.
Another added expense is the duplication of utilities. Hydro, gas and internet connections are expensive. Vacation homes located in remote areas are notoriously expensive to heat, with propane or oil deliveries costing a premium over natural gas connections in urban areas.
Vacation homes, for that matter, are famously expensive to maintain. Large properties need more maintenance; there’s more grass to mow and more snow to shovel. Waterfront properties are exposed to more weather and need additional upkeep. And there’s always the cost of extras like boats, docks, and all the other toys that come along with a cottage.
But perhaps the most dangerous downside is that this strategy erodes the possibility of purchasing a residence in the city. Renting can be precarious, and it’s not always a desirable way to live. Rents can increase and maintenance is at the whim of the landlord. And in the hot rental markets of Toronto and Vancouver, owners are coming up with creative ways to evict tenants with low rents in order to bring in new tenants for a higher monthly price. If your mortgage affordability is tied up in a vacation home, there’s no other option than to rent.
Afford a cottage – if you can
Just because the rules allow you to rent an apartment at the same time as you own a home, that doesn’t always mean it’s a good idea. Owning a home of any kind is a big responsibility, and you have to be very confident in your ability two manage the expense of two homes. It’s no fun to be house-poor, and having fun is what a vacation property is all about.
But if the math works out for you, and you’re willing to take on an apartment and a cottage, this loophole may be the way to do it. By renting your weekday home and making the cottage your principal residence, you can have this way of life and stay well within your borrowing limit. Whether your personal budget allows you to own a property, rent another, and cover all your costs is another question.