As a first-home buyer, you have a lot of decisions to make. With your first property purchase on the horizon, there’s reason to be anxious about what property to buy, where to buy it, and whether you’re making the right decision.
One of those decisions is whether you should buy a house or a condo as your first home. There are arguments for and against both, and you’ll need to weigh them up and decide which is the right approach for you. We’ve broken down the basic arguments for each below, and have included a little more detail for those who want to go a bit deeper.
Condo vs house: The pros and cons
Here’s the quick argument for buying a condo: Buying a condo as your first home lets you get onto the property ladder sooner, because condos are generally cheaper than houses. This lets you begin to build equity, which could make it easier to trade up to a home, especially if the condo increases in price by the time you sell. As far as the location goes, buying a condo will give you more flexibility on where to live, because they are slightly cheaper than houses.
Now, the quick argument for buying a house: Selling a property and buying a new one is an expensive process, so buying a house as your first home (assuming you want to eventually live in one) prevents you from having to make a second transaction. Buying a more expensive property live a house can also help you maximize any rebates and benefits you receive as a first-time homebuyer (although not always). Houses also let you borrow more on your mortgage, for reasons explained below.
Mortgage qualification favours a house
While the best mortgage rates in Canada are the same for a condo or house, buying a house may help you qualify for a bigger mortgage. This is because of a quirk in how lenders figure out the amount of money they will lend you.
Lenders determine how much you can afford to borrow with a set of calculations called your debt service ratios. Your gross debt service ratio (GDS) looks at your total cost of ownership as a percentage of your income. Your total debt service ratio (TDS) looks at this plus your other obligations. These ratios can be no more than 39% and 44%, respectively. When calculating your total cost of ownership, there are four contributors: your mortgage payment, property taxes, heating costs, and 50% of condo maintenance fees. The more you spend on these, the higher your debt service ratios will be.
Notice that maintenance fees are only calculated when they relate to condos. Even though your overall maintenance obligation will probably be higher if you purchase a house, you will be able to afford a bigger mortgage because the cost isn’t factored into how much mortgage you can afford. It’s may not make complete sense, but this can make a big difference to your final mortgage amount.
In addition to the absence of maintenance fees, buying a house with a secondary unit gives you the option to rent it out. When calculating your debt service ratios, you may be able to add up to 50% of the potential rent to your income for qualification purposes. That’s not an option when you buy a condo.
The upshot of this is that you’re more likely to be approved for a bigger mortgage when buying a house over a condo, all else being equal. however, borrowing more on your mortgage is not always the best option. A bigger mortgage can mean a bigger or better-located home, but it also means more debt and higher monthly payments.
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Maximizing your first-time homebuyer programs
When you buy your first home there are a series of programs and incentives you can receive, depending on where you live. However, these programs for first-time homebuyers are only ever available once. If you only buy a cheap condo, you may not be able to claim the maximum amount from these programs. So, you might want to consider the long-term benefits of starting with a larger property purchase. You could potentially get a bigger land transfer tax rebate as a first-time homebuyer and save yourself the expense of paying the full land transfer tax if you upgrade to a bigger home later.
Common first-time homebuyer programs available include; withdrawing up to $35,000 tax-free from your RRSP, getting a rebate on the land transfer tax (available in some provinces), and claiming a $750 rebate on your income tax. The land transfer tax component to this is especially important if you’re buying your first home in BC, Ontario, or PEI. Depending on your province and city, you can get a full land transfer tax rebate on homes up to $500,000.
According to Ratehub’s land transfer tax calculator, if you buy your first home for $500,000, your land transfer tax will be $4,475 in Toronto, $2,475 in the rest of Ontario, and $0 in BC. If you buy your first home for $350,000 in any of those places your land transfer tax will be nil. But if you choose to move up to a $500,000 home later, your land transfer taxes will add up to $12,950 in Toronto, $6,475 in the rest of Ontario, or $8,000 in BC.
This isn’t an argument for a house or condo specifically, but it could be an argument for maxing out your incentives by buying a property worth at least $500,000, or whatever the appropriate threshold is in your province. It’s also worth noting that there are some first-time homebuyer programs that phrase out for more expensive properties, meaning that this rule can work in reverse. It’s also important to remember that this plan only works if your budget allows it. It’s not worth jeopardizing your financial well being to save a few thousand dollars in tax.
To better understand the impact of your local first-time homebuyer programs on your first property purchase, it’s a good idea to speak to a licensed mortgage broker near you.
Selling a home is expensive (and risky)
If you’re planning on buying a condo (or a cheaper house) with the view of buying a more expensive home later, it’s important to think about the cost of your next property transaction. Selling a home is an expensive process, and the fees involved in both selling your current home, as well as buying your next one, can eat away at any financial benefits you’ve worked to make.
For a start, real estate commissions are typically 5% of your sale price, plus tax. Closing costs can easily cost a few thousand dollars too, as can moving. Buying your second property will also be more expensive than your first, as you won’t receive any first-time homebuyer rebates the second time around. Add to this the cost of getting a new mortgage, especially if you decide to break your mortgage term as part of the transaction, which could result in prepayment penalties.
Finally, this plan to upsize to a second property also carries the risk that the price of your home drops, leaving you in a worse financial position. Even if your home does increase in value, you’ll have to pay capital gains tax on any profit you make, which can also affect your tax return for that year.
Since the simple act of selling your home can erase tens of thousands of dollars in built-up equity, it may be worth buying a larger home that will meet your needs in the first place. If you plan to own a home eventually, that could mean going directly to the housing market. If you think a condo or cheaper house will suit you for at least five years, the cost of selling and moving won’t be as much of a consideration. This is because the costs of selling will be spread out over several years, and you’ll reduce the risk of losing money on your first home purchase.
The more important solution to this point (spoiler, it’s the solution to this entire article) is to make sure you’re happy and can afford whatever home your purchase. Depending on your financial situation, and the overall market, you could end up in your first home for longer than you expect, so it’s important that you’re happy with it from day one.
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Houses cost more to own and maintain
Despite home maintenance not being included in debt service ratios, houses do cost more to maintain than condos. This is important to factor in when you decide whether to buy a condo or house – from both a financial and lifestyle perspective!
With a condo, most of the maintenance is covered by your monthly condo fees – this is because most maintenance is done at a building level. When you buy a house, you’re personally on the hook for every repair to every component at the time it comes up. A failed furnace or leaky roof can easily cost you thousands of dollars. You’re also responsible for mowing the lawn, shoveling the snow, and all the day-to-day activities that are covered for condo owners.
A good rule of thumb is to assume you’ll spend 1.5% of your home’s value on maintenance each year. This is a pretty typical percentage when you average it over several years. Some years it will be less than 1.5%, while in other years it will be much more.
The bottom line
Whether you buy a condo or house as your first home is not as important as you might think. There are certainly financial differences between buying a more expensive home versus a cheaper one, but that’s really separate from the condo vs house question. Financially, you need to weigh up what you can afford, and whether or not selling in the short to medium term (say, within ten years) will negate any benefits from buying a less expensive property to start with.
As far as purchasing a condo or home, you need to decide what property you are happy to live in, as well as what you can afford in the near future. Whether you decide to buy something modest today or go into your debt for your dream home, you need to be comfortable in that home – and to be comfortably able to pay for it. Your financial and personal circumstances will likely change, as will the world around you, so you need to be ready to live in whatever home you buy for the long term, even if that’s not the plan.
This isn’t an easy decision to make, of course. The good news is that you don’t need to make it alone. One of the best things you can do as a first-time homebuyer is speaking to a mortgage broker. Broker consultations are free, and they can offer their expertise to consider your situation and lay out your options. They can also help you get a great mortgage rate if you decide to make a purchase.