High income and cheap credit

Why are real estate prices so high? 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. 🙂

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. 🙂

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. 🙂

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Random Useless Fact: