1. What the heck is a leaseback?!
When we are talking about investing in pre-construction condos, a leaseback agreement is when you buy a condo from a developer and the developer agrees to lease the unit back from when once it is completed for a pre-determined rate and for a pre-determined amount of time. The money is not paid in a lump sum at closing like a cash back, rather, it is paid out slowly each month just like a tenant who pays on the first of the month. The actual tenant pays rent to the developer who in turn pays you (the owner). The tenant may be paying an amount that is more or less than the leaseback amount but the owner always receives the leaseback amount guaranteed (even if the unit is vacant!)
2. Why are leaseback offers becoming so popular?
The pre-construction market is driven primarily by investors. The investors only goal is to make money on their investment. There are traditionally 2 ways to do this: through cash flow and through capital appreciation. Cash flow is when you rent out a property for more than it costs you to own the property. Capital appreciation is when you sell the property for more than what you bought it for. There has been a lot of talk about the current prices of Toronto condos not supporting positive cash flow with the traditional 20% investor down payment in place. These leasebacks are an attempt to lure investors by giving them not just positive cash flow, but in many cases, guaranteed positive cash flow for 1 or 2 years (assuming mortgage rates do not rise dramatically in the next few years).
3. How are the leaseback rates determined?
The leaseback rate is set by the developer and offered to the purchaser. For example, if you buy this 1 bedroom unit at $350K, I will rent it back from you for $1700/month for 2 years.
4. Are the leaseback rates negotiable?
No. However, in some cases you may be able to take a cash-back at closing instead of a leaseback agreement, and this amount may be negotiable. Talk to your agent.
5. Who finds the tenant in a leaseback situation?
It depends on how the agreement is put together, but generally the developer will find the tenant as they are going to do their best to re-coup the guaranteed leaseback amount (it’s not in their best interest to have the unit sitting empty and still paying the unit owner the leaseback amount).
6. Who manages the unit?
It depends. Usually the owner is the property manager but in some cases like at INDX Condos right now, they developer is offering to not only find the tenant, give the guaranteed rental rate, but also manage the property on behalf of the unit owner (the investor).
7. How do I know if the leaseback offer is a good offer?
Generally speaking, if the guaranteed rental rate covers the monthly expenses AND it is at or above the current market rate for the given suite and location, then it’s a good offer. That said make sure you read #9 on this list.
8. What is an example of a leaseback offer in action?
Example 1: Studio at 372 sq ft on the 47th floor at INDX
Cashback at Closing: $9136
Mortgage payment: $1143/month (3.1% amortized over 25 years)
Property tax estimate: $194/month
Maintenance fees: $186/month
Total carrying costs: 1523/month
Guaranteed Rent: $1600/month
Positive Cash Flow: $77/month
Example 2: 1 bedroom 540 sq ft on the 4th floor at KARMA
Cashback at Closing: none
Mortgage payment: $1519/month (3.1% amortized over 25 years)
Property tax estimate: $255/month
Maintenance fees: $291/month
Total carrying costs: $2065/month
Guaranteed Rent: $2200/month
Positive Cash Flow: $135/month
Example 3: 2 Bedroom 708 sq ft on the 10th floor at INDX
Cashback at Closing: $15,913
Mortgage payment: $1780/month (3.1% amortized over 25 years)
Property tax estimate: $309/month
Maintenance fees: $354/month
Total carrying costs: $2443/month
Guaranteed Rent: $2700/month
Positive Cash Flow: $257/month
9. Anything else I should know about leasebacks?
As with any offer from condo developer, it is important to evaluate leasebacks from a developer in context. In context of what other competing projects are offering, as well as in the context of what the developer who is offering the leaseback was previously offering. Often developers simply rotate through promotions whose net effect on the price of the unit and expected return for the investor are actually the same. Sometimes a new promotion that sounds amazing is actually worse than an older promotion that was offered the previous month.
Also, make sure you find out when the leaseback begins. Is it from the point of occupancy (the time you get possession of the condo and the time you start paying for it), or is it from final closing (the date when your mortgage kicks in and you officially own the property).
10. What’s the bottom line on leasebacks?
Leasebacks may not be for everyone. Some investors may wish to simply purchase a unit for the lowest possible price, and forget about all these cash backs, leasebacks, and kick-backs. If that is the case, stick to buying at the Platinum VIP stage (hint: make sure you are subscribed to our newsletter for the latest opportunities in this regard). Seasoned investors know that these leasebacks always come at the tail end of the marketing life cycle of a new development, when only 10-15% of the project is left. This means selection is low and prices have probably already gone up significantly from the Platinum VIP stage.
However, for the investor who wants the security of guaranteed rental income, and they intend to hold the unit for sometime after closing (they are not flippers), leasebacks can be a very attractive option-particularly for the investor who is not living in Toronto and will not be around to find a tenant and manage the unit.
In a growing market like Toronto, time does marvelous things for your investment. Having 2 years of positive cash flow plus 2 year of building equity through mortgage pay down and appreciation will improve your bottom line and give you peace of mind at the same time.
For more details on the current leaseback promotions available at KARMA and INDX, please fill out the form below.