By Jonathan Chevreau
As Baby Boomers near retirement, many may be considering the purchase of a remote cottage to get away from the rat race. The fantasy may even be to retire there, sell the city home and live off the proceeds.
But if you think this demographic trend will yield spectacular financial gains, you should reconsider.
Most financial planners view a primary residence as an item of consumption. That goes double for a second or recreational property. But by thinking like an investor rather than a consumer, you could have your cake and eat it, too.
David Sung, president of Vancouver-based Nicola Wealth Management, says he doesn’t believe owning recreational property makes financial sense right now.
Arguably, older Boomers had the same idea before you did and snapped up the best sites when prices were lower. Choice locations such as Whistler or the Muskokas remain sky high.
Given the strong loonie, latecomers may instead be eyeing perceived bargains in the depressed U.S. market. But Mr. Sung says it may be better to rent than buy – and not because he doesn’t like real estate as an asset class. Many of his clients have 15% of their total portfolios in real estate, not counting their primary residence.
Mr. Sung recommends investing in a diversified portfolio of commercial real estate properties. The resulting income can be used to rent vacation retreats anywhere in the world. This can be like any traditional one-week vacation or a larger commitment of time shares or fractional ownership.
Fractional ownership gives you title to a piece of property, such as a condo or a ski chalet. You may have a quartershare, giving you three months a year or perhaps a one-eighth share for less time. Timesharing involves a certain number of weeks at locations that may vary and can be swapped with others.
Mr. Sung’s partner, John Nicola, is 59 and vacations one month a year in Maui, Hawaii. He chose not to own but to rent, and also rents a storage facility for the personal goods he doesn’t need the other 11 months.
Owning a second property is expensive. Think about what it costs to run one home – property taxes, maintenance, utilities, phone, etc. – then double that. And how much time will you spend in the second place?
Mr. Sung provides an example of a 50-year-old Canadian Boomer buying a three-bedroom home on a golf course in Phoenix. It sells for US$400,000, down 33% from a pre-crash US$600,000. With US$100,000 down, the US$300,000 mortgage at 5% interest means monthly payments of US$2,364.37, amortized over 15 years. On top of this are normal home ownership costs that can run to US$1,000 a month or more.
The same Boomer could instead invest the $400,000 in a portfolio of real estate properties or REITs. The annual return of 8% is greater than the debt-carrying charges. This generates $32,000 a year of cash flow, with loan interest more than offsetting taxes on the investment income. A net $3,627 a year comes in and after 15 years, he’s debt-free and owns a diversified real estate portfolio that should have grown in value.
At that point, the Boomer is 65 and ready to retire. Added to the $3,627 is the $12,720 a year not being spent on property maintenance. That’s $16,347 of additional cash flow to rent any vacation property in the world – with no second lawn to mow!