As we move through 2024, interest rates are steadily declining. Bank of Canada increased rates throughout 2022 and 2023 to control inflation. Now that inflation’s dropping (almost faster than BoC wants to), we’ve seen the rate drop from 5% in January 2024 to 4.25% in September 2024.
With the next Bank of Canada update scheduled for October 25, 2024, many are asking: does this mean it’s time to invest in pre-construction real estate?
There’s no simple answer to your question. Pre-construction is a risky investment and we’ve seen its effect time and again. They are generally 20-30% higher than market value with the expectation that, by the time the unit is ready in 2-3 years, the market will have appreciated.
So, pre-construction prices are not dropping any time soon. Though, you’ll see more and more builders offer incentives like stainless steel appliances, free parking or free locker, EV rough-ins, and no development levies.
Does that mean there’s no correct time to buy?
Interest rates are dropping right now and are expected to drop over the next 2 years. If you plan to buy a pre-construction unit that closes by 2025, you can take advantage of lower mortgage rates. If the closing is not for 4-5 years, that’s a high risk because market conditions change quite rapidly in Canada.
But Why Are Pre-Construction Units Priced Higher?
Pre-construction properties often come with a premium price, generally 20-30% higher than market value. Developers set these prices with the expectation that, by the time the unit is ready in 2-3 years, the market will have appreciated. However, from 2021 to 2023, high interest rates caused problems for many buyers. The increased borrowing costs made it difficult for some to close their deals, leading to significant financial losses. Some buyers were forced to sell their contracts at lower prices or walk away, forfeiting their deposits.
Developers set these prices with the expectation that, by the time the unit is ready in 2-3 years, the market will have appreciated. In 2020 and 2021, there was a huge demand for pre-construction, which made the builders hike up prices even more.
Speaking on a more financial basis, builders can’t lower prices because of the costs involved. Let’s say Builder A is selling a high-rise condo building and the project’s total value is $100 Million. Most lenders offer up to 70% as funding, which comes to $70 Million for this builder. The remaining 30% of funds come through selling units, which is why builders are aggressively selling units in the beginning. Once 60-65% units are sold, they get funded by their lender and get working. They will usually sell the remaining near project completion.
Now imagine, if they were to drop prices and the project’s worth is $80 Million. Now they’ll only be funded for $56 Million. That’s not enough money to cover licenses, permits, labour and material costs, and branding and marketing. They would rather cancel the project and move onto something else.
Don’t lose hope yet!
If you plan to buy a pre-construction unit that closes in 2024 or 2025, now is the best time!
Let’s take an example of a $600,000 pre-construction condo. Suppose you secured an 80% loan, meaning you borrowed $480,000, at 5% interest rate in early 2023. Your monthly mortgage payment would have been approximately $2,500.
Now, with the interest rate at 4.25%, your payment would drop to around $2,350, saving you about $150 a month. Over the course of a 25-year mortgage, this difference would save you nearly $45,000.
Interest rate is expected to drop to 3% by end of 2025, so using the same example, your monthly mortgage payment would reduce to $2,270. That’s $230 in monthly savings and $69,000 over a 25-year mortgage.
These rate drops have a big impact on your total mortgage cost.
Now that you have some clarity over this question, I’d be happy to send over some pre-construction projects closing in 2024 or 2025! Just send me names of a few cities you’re interested in. Contact here.