Investors rush to get out of pre-built Toronto condo deals

Real estate investors are increasingly trying to get out of closing on their newly built condos in the Toronto region, as rents plummet and banks toughen borrowing qualifications for rental properties.

Selling the right to buy the new condo, also known as assignment sales, has soared during the past few months of the coronavirus pandemic, according to realtors.

It is a sign of weakness in the condo market beset by a glut of new units, declining rents and a dwindling number of renters.

“We are seeing a massive wave of assignments of people who don’t want to close in this market,” said Simeon Papailias, senior partner with REC Canada, which brokers hundreds of preconstruction sales every year.

Since the pandemic started early this year, the rental vacancy rate in the Greater Toronto Area has reached its highest level in more than a decade and the average rental price is 9-per-cent lower than the previous year, according to industry research group Urbanation Inc.

Demand for rentals has declined, with border restrictions slowing immigration, tourism and the influx of foreign students. At the same time, the number of available rental units has spiked. A record 23,000 new condos units will be completed in the Toronto region this year, and another 22,434 are due next year, according to Urbanation. It estimates that 50 per cent were bought as rental units.

Condo resales and their average selling price have increased over the previous year. As well, preconstruction sales on condo projects are still robust. But the number of new condo listings and new rental-unit listings are rapidly increasing. If that persists, realtors predict selling prices will start to decline.

As well, many Airbnb operators turned their properties into long-term rentals or are trying to sell them because tourism disappeared. In addition, many condo tenants gave up their places when they lost work or because they found space outside of the city.

Now, real estate investors who are due to close on their new condos worry that they won’t be able to cover their mortgage payments with rent.

“Guys who are closing in the short term are absolutely shook and affected by the pandemic and what it has done to the rental market. That is what is pushing them to assign,” said Mr. Papailias, who estimates that assignments now account for between 20 per cent and 25 per cent of his preconstruction sales. This compared with a range of 10 per cent to 15 per cent before the pandemic.

Unlike condo resales, which is tracked by local boards, there is no database for condo assignments and realtors are typically not allowed to list them. Over all, assignments account for a small fraction of the residential property market.

Assignment sales are only allowed when the condo building is almost completed, and the sale must be approved by the condo developer. The original buyer would have made a down payment for the purchase and sales agreement on the preconstruction condo before it was built about three or four years ago. For condos due to close this year, the original purchase was made around 2016 or 2017, when the economy was strong and demand for downtown city living was high.

With COVID-19 cases rising and some pandemic restrictions back in place, people are losing income and the economic recovery is uncertain. Banks don’t want investors defaulting on their mortgage payments and are trying to ensure that investors have cash and employment income to draw upon if a tenant stops paying rent. Since the pandemic began, lenders have become stricter with their qualifications, including in some cases requiring bigger down payments and not accepting down payments that were borrowed.

“The financing has gotten a lot more difficult,” said Matt Elkind, senior broker with Connect Realty, an expert in preconstruction sales. “The banks’ appetite to lend to investors is down significantly. An individual, six months ago, would have qualified without problem. They’re not now,” he said.

Mr. Elkind said one of his clients did not qualify for a bank mortgage because she received federal aid when her business lost revenue from the pandemic. Some banks are asking prospective borrowers for a 35-per-cent down payment to qualify for the mortgage, whereas in the past, 20 per cent would suffice.

Lenders are also recognizing less of the rental income as part of the borrower’s total income. For example, before the pandemic, a lender would count 80 per cent of the prospective rental income as part of the borrower’s total income. Now, the same lender will only recognize 50 per cent of that income, according to real estate experts.

“For people whose only income is rental, it is hard to qualify,” said Bernadette Laxamana, mortgage broker and president of Karista Mortgage in B.C.

Banks typically have the cheapest mortgages, with interest rates at record lows. (The popular five-year fixed rate is below 2 per cent.) If buyers don’t qualify at a bank, they are forced to seek alternative lenders, which typically charge higher interest rates.

“They are having to look at options where the money is much more expensive. That is where people are having problems,” Mr. Elkind said.

Because the prices of condos have increased since 2016, investors are able to sell their contracts at a higher price, according to realtors, though they said it was not an ideal time to sell, especially as housing demand is expected to soar with Ottawa boosting immigration targets for the next three years.

“Life changes, your situation changes and you have the option to sell. Is this the best time to sell it? No it is not,” said Hunny Gawri, managing partner of My Investment Brokers, which works on all types of preconstruction projects.