Buying an apartment? Here’s everything you need to know
Buying a home is the biggest investment that most people will ever make. Whether you're looking for a new family home or a way to build equity for the future, the world of real estate can be rewarding and challenging in equal measure. While dreams of home ownership are almost universal, everyone has different needs and expectations that need to be addressed. Choosing between a house or apartment is the first decision you'll have to make, with apartments offering a range of advantages for home occupiers and investors alike.
Apartments vs condos
Before we start, it's important to address the difference between apartments and condos, with these two terms often used interchangeably. While a condo is an apartment, an apartment is not necessarily a condo. Let me explain. In the United States and Canada, the ownership structure for an apartment is different to that for a condo. An apartment is one of many units, all owned by the same owner. You can't purchase an apartment, only an entire apartment complex.
In contrast, each individual condo is owned by a single entity, with the entire condo complex managed by a Board of Directors made up of other condo owners. You can purchase a condo. If you're looking into buying a single apartment in North America, you are actually buying a condominium. While the unit will fit the definition of an apartment in one sense, it's important to differentiate between these two very different ownership structures.
If you're renting an apartment, it can be considered a condo if the landlord does not own every other unit in the building. Apartments (in the narrow sense of the word) and condos can also be differentiated by the existence of maintenance fees, which typically only apply when the building has multiple owners. For this guide, we will be using the broad definition of an apartment, which is a self-contained housing unit which occupies part of a larger building or complex.
Pros of buying an apartment
Before you start searching for an apartment, it's important to weigh up the pros and cons of your decision. While the apartment lifestyle can be fantastic, it's certainly not for everyone. From location and lifestyle opportunities through to cost and maintenance considerations, there's a lot to think about before you start hunting for a home.
Location is one of the primary factors driving the apartment market, with apartments much more affordable than houses in central urban locations. While apartment living has been popular for decades in European cities and global centers such as New York and Berlin, it's becoming much more widespread in other parts of the world. High-density urban living is incredibly popular in parts of Canada and Asia, and is even spreading to traditional suburban markets such as Australia and New Zealand.
Purchasing property in a central, inner-city location provides advantages in terms of lifestyle and growth potential. If you're looking for somewhere to live, an apartment allows you to live closer to the action. If you're looking for an investment, an apartment allows you to access bustling urban markets before they get overheated and become too expensive.
Living in an apartment provides significant lifestyle advantages over a detached dwelling. First and foremost, most apartments are located in urban settings, allowing people to live closer to amenities and attractions. Rather than spending time and money each week commuting to work, driving to restaurants, and paying for taxis back to the suburbs, you can live closer to the action and condense much of your life into the nearby neighborhood.
While apartment living is often associated with the young, this is certainly not the case in traditional apartment markets such as Barcelona in Spain. The lifestyle advantages of apartments exist across generations, from younger people wanting a more vibrant life through to young families looking for a sense of community and older people looking to downsize. Along with location, apartments are also much easier to maintain than houses, with owners only responsible for looking after the interior of the unit.
Last but not least, apartments are generally more affordable than detached dwellings. While it's easy to spend millions on a penthouse in an exclusive building, for the most part, apartments will be much cheaper to purchase than houses in a similar location. This is especially important for young people or anyone else who's looking to get their first foot onto the property ladder. Affordability is also critical for property investors who want to expand or diversify their portfolio without stretching themselves.
The cost of an apartment varies widely depending on its location, the surrounding building, and the state of the wider market. Like all real estate investments, you will pay more for a newer apartment, more for a bigger apartment, and more for an apartment in a central location. There are also specific considerations that need to be addressed, however, especially when it comes to maintenance fees. Condo fees are typically more expensive for older buildings due to the need for more maintenance, and smaller buildings due to reduced economies of scale.
Determine your budget
Before you start hunting for an apartment, it's important to take a step back and determine your budget. This can be more complex than you might think, with the immediate deposit needing to be weighed up against the overall cost, maintenance fees, taxes, insurance, maintenance expenses, and living costs. While buying an apartment is generally more affordable than buying a house, condo fees and equity growth also needs to be taken into consideration.
Saving for a deposit
Saving for a deposit is the first step in any real estate purchase. In the United States, many lenders require a deposit of at least 20 percent for a conventional loan arrangement. While non-conventional loans may be available for as little as 3.5 percent in some situations, FHA loans and other non-conventional loans require insurance as they are not insured or guaranteed by the government. If you're buying an apartment in a new complex without a warranty, you may also need an additional 10 percent deposit.
In Canada, a conventional mortgage also involves the standard deposit amount of 20 percent, with all other home loans referred to as high-ratio loans. While you can still purchase a home with a small 5 or 10 percent deposit, these non-conventional mortgages are difficult to obtain and can be risky. High-ratio loans from alternative lenders generally come with higher interest rates, more stringent lending criteria, and need to be insured by the Canada Mortgage and Housing Corporation (CMHC) or a similar organization.
Income vs expenses
Before you set a working budget for an apartment, you should spend some time analyzing your projected income and expenses over a set time period. While no-one knows exactly what's in store for the next 30 years, you can formulate some rough estimates. Lenders will be looking at the relationship that exists between your income and debt, so you should be doing the same.
First, work out your take-home income after tax. Then, work out your monthly expenses, existing living expenses, and new expenses as a homeowner. You can get a rough estimate of how much you can afford by adding up your income and subtracting your expenses. It's important to make calculations based on your new life as a homeowner rather than your current life as a renter, with mortgage payments often higher than rents and condo fees also needing to be considered.
While nothing is set in stone, mortgage lenders do use some well-known qualification ratios to determine mortgage limits. These rules can help you avoid getting in over your head.
Your monthly mortgage payments should be equal to or less than 28 percent of your gross monthly income.
Your total housing payments (property taxes, insurance etc) should be equal to or less than 32 percent of your gross monthly income.
Your total debt payments (housing payments, credit cards etc) should be equal to or less than 32 percent of your gross monthly income.
When buying an apartment, you will be responsible for monthly condo fees in addition to the sale price. This is enough to stop some people in their tracks, especially people who are used to owning detached dwellings which don't come with recurring monthly expenses. Condo fees are designed to cover maintenance to the exterior of the building along with the common areas and assets shared by the condo community. For example, cleaning the pool, keeping the hallways tidy, and fixing the roof it it blows off in a hurricane.
Condo fees vary considerably from building to building, so go over your contract with a fine-toothed comb before making a purchase. For example, while some condo fees cover maintenance alone, others may cover utilities, parking and contingencies such as natural disasters. While it's easy to write off condo fees as an unwanted expense, apartment owners have a lot to gain by paying regular fees rather than performing their own maintenance. The opportunity costs involved are significant, with apartment owners often saving themselves a lot of time and money in the long run.
Along with your income and expenses, your credit scores play an important role in financing your apartment. Lenders will always take your credit scores into account, with better scores typically associated with more options and lower interest rates. While your credit history is mostly out of your control, you can check your credit scores and find ways to improve them over time.
Check your credit score
In the United States, there are three major credit bureaus: Experian, Equifax, and TransUnion. You can review your scores from each under the Fair Credit Reporting Act and make sure there are no mistakes or discrepancies. Credit scores typically range from 300 to 850, with a good score being 700+ and an excellent score being 750+.
In Canada, the situation is similar but not identical, with just two major credit bureaus in operation instead of three: Equifax and TransUnion. The scaling factor used is also slightly different, with credit scores ranging from 300 to 900 instead of 850. Good credit in Canada is roughly 720+, and excellent credit is 800+.
Improve your credit score
Contrary to popular belief, your credit scores are not totally out of your control. While it can take time, there are ways to improve your credit scores and leave a positive impression on potential lenders. Firstly, it's important to reduce your debt as quickly as possible. Keep your credit card balances low, eliminate revolving credit, and pay down debt rather than moving it around. You should also set up payment reminders for future, limit new credit inquiries, and increase your credit age by keeping old healthy accounts alive.
First-home buyer credits
Apartments are a popular option for first-home buyers because of their affordability and easy maintenance. With first-home buyer numbers decreasing across much of the developed world, governments have initiated a number of first-home credit schemes to help people get into the market. In the US, new buyers can access the First-Time Home buyer Credit under the Housing Economic and Recovery Act (HERA), various Size Up programs, and $10,000 IRA withdrawals.
First home buyers in Canada can also access a number of tax incentives and financial aid programs, including the First-Time Home Buyers' (FTHB) tax credit, Home Buyers Plan (HBP), and GST/HST Housing Rebate. The FTHB tax credit is a $5,000 non-refundable income tax credit, the HBP allows Canadians to borrow up to $25,000 from their Registered Retirement Savings Plan, and the GST/HST Housing Rebate allows new home buyers in Canada to qualify for a government GST or HST rebate on a home purchase.
Analyze market conditions
When you've saved for a deposit, calculated how much you can afford, and analyzed applicable benefits, it's time to research current market conditions. Timing is everything when it comes to real estate, with the market ebbing and flowing all the time in relation to wider economic conditions. It doesn't matter where you live in the world, what type of property you're interested in, or how much you have to spend, if you don't enter the market at a good time you're making it very hard for yourself.
There are lots of ways to analyze market conditions for specific neighborhoods, including current and historic growth rate reports, time on market trends, construction data, auction clearance rates, housing supply curves, and expert forecasts. Some of this data can be very hard to interpret correctly, which is why it's so important to seek professional advice. Generally speaking, you want to buy in a location that's on the way up, somewhere that's starting to bubble but hasn't yet reached its potential.
In order to do this, it's important to take a look at property growth rates rather than prices themselves. How much is the market moving per year, per quarter, and per month? By doing this, you can get a good idea of price acceleration or deceleration in particular locations. It's also important to have a basic understanding of supply and demand and how this influences prices over time. This is especially critical in the condo market, where price growth has led to the oversupply of new condos in some locations. While oversupply can lead to good deals, it can have a negative impact on equity growth and rental demand.
When you're ready to start looking for a mortgage, it's important to have a basic understanding of the types of home loans available to you along with their complexities and limitations. From different lenders and terms through to interest rate structures, the type of mortgage you take out can have a huge effect on your life for decades to come.
When buying an apartment in the US, it's important that the condo in question is included on the FHA-approved condominium list. In addition, at least 80 percent of the FHA loans in the condo complex need to be for owner-occupied units, and at least 51 percent of all condos must be owner-occupied. The situation is similar in Canada, with lenders needing to check the financial stability of both the individual borrower and the building during qualification.
Different types of home loans
Not all home loans are created equal, with different providers able to offer different deposit limits, interest rates, and mortgage terms. In the United States, home loans are described as either conforming or non-conforming, and either conventional or non-conventional. Conforming loans include all mortgages that meet the size limits and lending criteria set by Fannie Mae or Freddie Mac. The new baseline limit for conforming loans will be increased in 2019 to $484,350, based on a 6.9 percent increase to the average US house price listed by the Housing and Economic Recovery Act (HERA).
Conventional loans refer to all home loans that are not insured or guaranteed by the government. Non-conventional loans include Federal Housing Administration (FHA) loans, those available from the Veterans Administration (VA), and those available from the Rural Development Services. Mortgages that don't conform to traditional lending guidelines are also considered to be non-conventional loans, such as those available through private money or hard money lenders.
In Canada, a conventional mortgage refers to any mortgage up to a maximum of 80 percent of the lending value of the property. If your down payment is less than 20 percent, the mortgage is considered a high-ratio home loan and may require insurance by the Canada Mortgage and Housing Corporation (CMHC). While non-conventional loans can be easier to get, they normally come with higher interest rates.
Lenders vs brokers
Home loans are available from a range of lenders, including banks, credit unions, government agencies, and private investors just to name a few. In order to obtain a home loan, you can either deal directly with lenders or work through a mortgage broker. While the direct route can be more efficient if you've done a lot of research yourself, a broker is able to compare and contrast loans in order to help you find a product that's right for your needs.
It's important to realize that you don't pay for the services of a mortgage broker, with these professionals working on a commission basis directly from the lenders themselves. While there may be misaligned incentives between the broker and yourself, this can normally be minimized by working with trustworthy and professional people.
Monoline lenders are also an important factor in the Canadian mortgage market, with these lenders specializing in home loans and only available through mortgage brokers. Benefits of a monoline lender include more competitive interest rates, more flexible terms and conditions, reduced penalties, improved services, and an increased ability to transfer your mortgage.
Interest rates and terms
Along with the type of lender, the interest rate and interest rate structure is the most critical decision you'll have to make when taking out a mortgage. Fixed rate mortgages have the same interest rate for the entire mortgage period, which provides security and easy management at the expense of flexibility if rates go down in the future. In comparison, variable rates change based on wider economic conditions, which provides flexibility and efficiency at the expense of security if rates go up in the future.
Closely related to interest rates are mortgage terms and payment structures. For example, an open mortgage allows you to make both early and lump sum repayments, which helps you to avoid excessive interest by paying off your mortgage principal sooner. Mortgage terms are also important, with the length of time that you're committed to a particular lender or interest rate having a huge effect on how much interest you pay and how quickly your mortgage is paid off.
Finding the perfect apartment
When you're ready to start hunting for the perfect apartment, it's important to compare properties based on a range of criteria. While one place might tick a couple of boxes, with such a large investment, everything needs to be right. From the location and condition of the property through to your lifestyle and investment needs, finding the perfect apartment requires a lot of homework and lots of time on the ground.
Location and lifestyle
Whether you're looking for a new family home or an investment property, the location of your apartment is absolutely critical. People love living in apartments because of the lifestyle they provide, with most people wanting to live close to transportation hubs, restaurants, entertainment venues, schools, and places of work.
If you plan on living in or renting out your condo, critical infrastructure needs to be in place from the outset. If you're making a long-term investment, you either need to buy in an established area or be absolutely sure that the surrounding neighborhood will live up to its potential in the future.
The condition of the apartment and building is also important, with the lower cost of older properties needing to be offset against the cost of renovations and repairs. Along with the size and condition of the unit itself, you also need to compare each condo based on the condition of the building. Older buildings often come with higher condo fees due to the potential of more significant repairs. Check the contingency fund available to each condo board before you sign a contract to see how much they've got available in the case of significant repairs.
The condo lifestyle is attractive because it enables people to improve their location and have better access to amenities than they could afford through direct ownership. Modern condo buildings have more amenities than ever before, from swimming pools and gyms through to entertaining areas, integrated technology systems, and wellness centers.
While you have to pay for these features through higher monthly fees, they allow people to improve the quality of life and provide them with a sense of community that's simply not available in a detached home. If you're buying a condo as an investment, it's important to make sure that the amenities match the demographics of the area.
Does the apartment meet your needs?
Last but certainly not least, you need to choose an apartment that meets your individual needs. While some people have plans to rent out their condo or hold onto it while it gains in value, others simply want a nice home for themselves and their family. It's important to make decisions based on a specific end-goal so that you don't get lost along the way. If you're buying for yourself, try to anticipate your future needs. If you're buying an investment property, you should try to see everything through the eyes of future tenants or buyers. What are people looking for in terms of lifestyle? What compromises might they be willing to make?
Closing the deal
Buying an apartment provides numerous advantages over buying a detached dwelling. Along with a lower purchase price, you'll also be able to access a better location, enjoy new lifestyle opportunities, and be responsible for less maintenance. While condo fees do put some people off, you need to offset this cost against the regular maintenance expenses and time spend maintaining a detached house.
Once you've done your homework into lenders, chosen a property based on select criteria, and been approved for a mortgage, it's time to make an offer and start the negotiation process. Once accepted, it's time to close the deal and take care of things like insurance and taxes. While buying an apartment can be a complex and stressful endeavor, there really is no better feeling than picking up the keys for a property you can call your own.