Where do people get the money to buy expensive houses?

High income and cheap credit

Why are real estate prices so high?Β Isn’t the economy still recovering? Yes. Millions have lost their jobs and many are still looking for work. But recessions don’t affect everyone equally.

The number of high income individuals is often underestimated. So in today’s post I’ll explain how people can afford to buy multi-million dollar homes.

Let’s look at where all the money is coming from, especially in hot markets. πŸ™‚

how people can afford to buy expensive real estate in Canada

 

Record price doesn’t mean over priced

Locals in Vancouver were shocked over the weekend when a house for sale that was listed for $3.5 million actually sold for $0.5 million above the asking price.

 

One baffled commentator noted, “It’s difficult to see how it can be ordinary people paying prices that most people wouldn’t earn in a lifetime.

Another suggested, “this crisis is being funded by money laundering… It is time for governments to smarten up and investigate.

These kinds of comments suggest there is a lack of understanding in the general population about the economy and our financial system.

Yes, it’s not cheap. But the price is justified because it’s a newly built house. Lumber prices are 4 times higher today than last year. If you purchase just an empty plot of land in the same area now, and build your own house on it, your total cost would be about $4 million.

To understand how buyers are coming up with the money to buy expensive homes we have to understand that 1) credit is dirt cheap, and 2) a lot of people are simply loaded.

 

Something for everyone

The millennial couple who spent $4 million on the house above are moving back to Canada from the United States after selling their house in Seattle, WA, another high cost of living city.

Their purchase was only newsworthy because their situation is unique. In no way do their finances represent the typical Vancouverite. But for most households, housing is still quite affordable, as long as people understand that there are different tiers of affordability.

 

The average Joe and Jane

A couple making $50,000/year per person can comfortably afford to buy a home in the $550,000 range. That will get them a 1 bedroom condo in the city of Vancouver, or a larger place in an adjacent municipality.

 

The upper class

To get into the detached housing market where properties are $1 million and up, you would typically earn at least $200,000 a year.

In 2018, there were 41,310 individuals living in Metro Vancouver who made $200,000 or more according to Statistics Canada. A lot of households in this income level have one or both earners working in the high tech industry for companies such as Amazon, Microsoft, Sony, or EA.

As a landlord, I have screened and interviewed about 5 potential tenants who make over $150,000. The software engineering community is huge in Vancouver. πŸ™‚

Every week Vancouver only gets about 200 new listings of detached houses. Even if 1% of those 41,310 people who earn over $200,000 are looking to buy a house, the demand will easily outstrip the supply in the market – keeping property prices elevated.

 

The wealthy

Finally, you have the 1 percenters. These are the ultra high income professionals and entrepreneurs. Many doctors and lawyers making $400,000+ fall into this category. They can easily obtain a mortgage for $2 million because they have reliable incomes. It’s these people who are buying those really expensive homes in Vancouver.

Vancouver Coastal Health alone overseas 2,500+ physicians. The average physician makes $347,000 a year. And if they specialize they could make even more according to the Canadian Institute for Health Information.

 

The BC provincial government spends over $20 billion on health care each year. This amount will likely increase over time as an aging population will require more health services.

In Ontario the OMA represents about 40,000 physicians. Family doctors in Ontario make an average of $400,000 a year. This has a major impact on real estate prices, especially in the GTA.

In an indirect way, provincial health care policies are driving up home prices across the country.

 

The bank of mom and dad

A lot of home buyers are millennials like myself. And parents are a common source of funding for them. Boomers are the wealthiest cohort in the country. And many are choosing to help their adult children with home ownership. My wife and I even received a small loan from family to help us buy a house in the suburbs last year. Mortgage brokers suggest that 9 out of 10 young people applying for mortgages today have received assistance from parents.

The total value of mortgage-free holdings in Metro Vancouver sits at $373 billion today, mostly held by people between 55 to 74 years old. That’s a lot of latent equity just waiting to be put into use. And because real estate is often leveraged 5x, the amount of purchasing power this could potentially create is absolutely enormous. 😬

Over the next 5 years, roughly $1 trillion of wealth will transfer from Canadian baby boomers to their children, according to Strategic Insight. This will be the largest intergenerational wealth transfer the country has ever seen.

 

High income earners are funding the real estate boom

Let’s say a couple buys a $5 million house in a wealthy neighbourhood.

One earns $400,000 a year as a doctor.

The other is an engineer making $100,000 a year.

They have a $1 million down payment, and borrow the remaining $4 million. Their monthly mortgage payment is $14,000. But they can afford it because their combined take home pay is $30,000 a month.

There are lots of people legitimately earning very high incomes. They often have large savings from previous investments they can draw from, and many can access financial help from family.

Banks are readily approving their mortgages, and the owners can easily afford the carrying cost of the debt.

I’m not saying there is no money laundering, foreign investments, or questionable activities in the real estate market.

But if you look at the data, it makes sense that most of the money going into real estate purchases today are from the highly paid local population. πŸ™‚

 

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Random Useless Fact:

 

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RICARDO
RICARDO
05/17/2021 8:56 am

Used to own some agricultural land in behind my house. Rented it to a Swiss immigrant who had sold out over there and bought here. Really nice people.
I sold the land to him quite some time ago. At any rate while talking to him about land he mentioned that in Switzerland buying a house was quite often a multi-generational proposition with the house/land being paid off over several generations. Difference now is that there are fewer children to pass the house/land to. Also the town/municipality was quite often bidding on the land for public use so that would also force prices up.
Another anecdote was a friend in Van who sold her house after hubby passed away. Asian buyers paid over 3 Million for an older bungalow. They told her to take anything she wanted out of the house as it was going to be ripped down for a newer house. Hard to outbid that kind of pricing when money is no object or as I prefer to say, money is not worth anything any more.

RICARDO

Jay
Jay
05/17/2021 10:12 am

Good points.

Just some more anec-data to add:

My wife and I’s combined income from jobs last year was ~200k (we both work for tech companies).

We just purchased a new home in Coquitlam. 1Mil purchase price. 250k down. Got approved for a 750k mortgage. Liquid net worth (investments, savings, etc) will go from 600k to 350k after the purchase.

Cost of living:
Mortgage payment + taxes will be the close to the same as our ~$3,000 rent in Vancouver. The living space will be about 2.5x what we have now though. Lol.

Last edited 6 months ago by Jay
GYM
GYM
05/17/2021 12:21 pm

Always thoughtful analysis and commentary. Didn’t realize that house was so popular it had a G&M feature! It does make sense though lumber prices are so expensive now. Also the buyers are paying with American cash so it’s actually 25% off to them.

AnotherLoonie
05/17/2021 7:06 pm

So many high income households are simply in the public service. Two teachers can top out at $160k or higher in most provinces. Two middle-managers working for the federal government can hit $250k combined.. This, plus 1% mortgage rates, and it becomes easy to see how we ended up here.

AnotherLoonie
05/17/2021 8:54 pm

Yep, you’re so right. Between my wife and I we have 1 DB pension, and it makes a huge difference when doing retirement planning.

NZ Muse
05/17/2021 8:10 pm

Lots of parental help where I live. Also, if you have two corporate salaries, I realise, a couple could easily be pulling in $200k – and that gets you decent borrowing power, especially with current interest rates.

Dividendlover
05/17/2021 8:15 pm

“They have a $1 million down payment, and borrow the remaining $4 million. Their monthly mortgage payment is $14,000. But they can afford it because their combined take home pay is $30,000 a month.”

I have a problem with this part because your forgetting that the income taxes on a 400k and 100k in employment income is 175k and 23k

So they really only have 16,600$ a month in after tax income and definitely cannot afford the 14k per month mortgage payment.
They are also not going to pass the stress test requirements either.

You are also incorrect about banks financing 75% loan to value in a 4 million dollar home you are probably going to get a 2m mortgage.

Last edited 6 months ago by Dividendlover
Graham @ Reverse the Crush
05/18/2021 8:04 am

Great break down, Liquid! This makes it a lot more sense. My job pays fairly well for a part-time job, but nothing close to this kind of money. If my job becomes full-time, which it eventually will, I can closer to the higher end of the scale (80 range not including my gfs salary). But even if I earned this kind of money, I couldn’t ever imagine a $14k mortgage payment lol. I can see how some high income earners have a cash flow problem. Add a fancy car, insurance, day care, and a lavish lifestyle, and that high income could be spent fast. Thanks for the logical break down of how people are paying these prices.

Chrissy @ Eat Sleep Breathe FI
05/18/2021 12:24 pm

Great post, as usual. I’ve never given the money laundering angle much credence, but I have always wondered if there are really that many rich people in Vancouver?

It’s hard to fathom, given the fact that I personally know well-established doctors and lawyers who are nowhere near that level of wealth. However, your reasoning and math totally makes sense. Those people exist. I just don’t happen to know many of them!

I always enjoy the way you break things down in your sensible, non-sensational manner. Thanks, Liquid!

Paul Jones
Paul Jones
05/19/2021 12:13 am

It would be interesting to hear a summary or survey from them. The 1% doesn’t usually interact with the middle or lower class, as they have cars, live in wealthy neighborhoods and go to higher end venues. Maybe there’s a book or research paper out there about their lives.

MyFinancialShape
05/22/2021 10:55 am

Good read. High income earners bring huge dynamic into property markets, indeed. In other industries as well, such as the luxury market for instance. I’ve been investor of LVMH (Louis Vuitton Moet Hennessey) for some years and its always very interesting to see how resilient and growing their clients are. Even during economic downturns and when average disposal income fluctuate.
Cheers
MyFinancialShape

Stacy Banks
Stacy Banks
05/23/2021 10:43 pm

Hey, Thanks for writing such an informational article.
It cleared a lot of my doubts about real estate.
If anyone is looking for promotional products in Australia then do check
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Keep writing such an informational; insightful article.
Cheers πŸ™‚

sophie
sophie
05/24/2021 12:04 am

The real estate is a very complex field and the prices don’t necessarily justify the economic condition of a buyer or the value of land. The article explains it aptly.

Potato
Potato
05/27/2021 10:51 pm

Thanks for this article! I have been feeling pretty bummed lately as I moved to Vancouver 1.5 years ago and purchased a 1 bed condo in Vancouver for 550k. I am 30 y/o and just started making 150-160k a year, but I work literally 7 days a week to make that amount (not sustainable at all). I have this huge desire to purchase a townhome/larger condo, but I am already feeling priced out of townhomes which are now all 1 mill in delta, coquitlam, etc. It’s pretty depressing, but I am trying to remind myself that I don’t *need* the extra space. I think I have this forever fear that I the prices will keep shooting up!

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