Canada's Housing Bubble

Jan 28, 2010 Froogle Scott & vreaa VREAA

Asset bubbles do most of their damage through the misallocation of resources. Money is directed to projects that would be deemed imprudent, or even useless, in more normal times. Human energies are distracted by the promise of easy riches. Young people who would have studied engineering become stock-brokers, or realtors, or construction workers. People who would normally be focused on their work, their family, their leisure pursuits, become distracted by their neighbour’s or coworker’s sudden, easily-acquired, life-changing wealth. Doctors reduce work hours and flip condos; Architects drywall or trade stocks; Teachers become roofers; Poets, landlords. Productive citizens cash out, retire early, and move away. What effect does all of this distraction have on our city, our society?  Froogle Scott generously shares his experience. -vreaa

Property assessments — the new scratch-and-win

In the three years following the purchase of our house in the fall of 2003, its assessed value increases by 72%, or almost a quarter of a million dollars. This windfall changes the way I think and feel about money. Had we bought the house fifteen months earlier, close to the beginning of Vancouver’s real estate boom, the windfall in the first four years of ownership, based on the July 1, 2002 assessed value, would have been a 119% increase, or $310,000. Opening the annual Property Assessment Notice feels like playing a scratch-and-win or pull-tab lottery ticket with which I don’t just win the maximum prize possible — I win a super-secret mega-prize that I didn’t even know existed. Each year I stare at the assessment number for a moment, almost stunned. How can this be? At this point, we’ve done little more than live in the house, collect rent from the basement suite, and make our mortgage payments every two weeks. We did replace the water service, the gutters, and the shingles on the garage roof — a total expenditure of about $5,000.
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Some perspective

To put these assessment numbers in perspective… For years my gross annual income moved up and down in a range between twenty and thirty thousand dollars, depending on whether I was a student and working part time, or working some job full time for awhile. After leaving home, I was a renter for twenty years, almost always with roommates or housemates, to keep costs down. I’m a lifelong public transit user who only sporadically owned cars for short periods of time — the cars always used, and often hand-me-downs from family. I have never purchased a new car. The things I do buy — books, music, clothing, tools, furniture — I often buy used or on sale. Along with my wife, who had a similar low-budget lifestyle throughout her 20s and early 30s, I love grubbing around flea markets, junk stores, used book and music stores, Sally Ann, Value Village, and other thrift stores, and discount or liquidation outlets. I was someone for whom spending five hundred or a thousand dollars was a big, big deal. But I also like quality, and hunt it out, which I’d say makes me frugal, rather than cheap. If you’re cheap, price is the only consideration, and even if you can easily afford to purchase something of better quality, you won’t.

About ten years ago, at the age of 37, I belatedly started a career. My income, while still relatively modest by professional standards, jumped to a level it had never been at before. However, my frugal ways were now ingrained, and I didn’t alter my spending habits. My job working for a demanding high tech company also kept me very busy and I didn’t have much time or energy left over to consider doing something with the money piling up in my savings account. As the balance steadily increased so did the alarm among the tellers at my bank — the Main and Hastings branch of the Royal on Vancouver’s Downtown Eastside. (At the time, my wife and I were living in a loft apartment on the hazy borderline between Gastown and the Downtown Eastside.) The lineup at that particular branch was often long, and fairly evenly divided between people from Chinatown, which is immediately adjacent, a number of them probably merchants doing business banking, and Downtown Eastside residents, a number of them quite possibly dependent on various forms of social assistance. When the details of my account came up on the screen, I often noticed a strange wave pass across the tellers’ faces. The degree of deference with which I was treated, one that you might not expect based on the clothes I was wearing — not that different from those worn by the Downtown Eastside residents — subtly increased. Invariably, “Mr. Scott” was asked if he’d like to speak with an investment officer. I put them off. I couldn’t be bothered with the hassle at that particular moment. This behaviour was not very smart from a financial standpoint, but by being a micro-consumer for years, long before I had any idea that I might buy a house, I amassed a sizable downpayment without even realizing that was what I was doing.
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A third salary
At the time that we buy the house, my wife and I have a combined annual income of between $120,000 and $130,000 before tax. (Six and a half years later that figure hasn’t changed much.) So when the property assessment drops through the door in early 2005, after our first full calendar year of ownership, and shows an almost $90,000 increase in assessed value, it’s like being handed a third salary, a very good one, tax free, for the year. The local media are bursting with stories about the miraculous real estate gains in Vancouver and surrounding areas, the wondrous boom. There’s no land left. Rich foreigners, and rich retirees from Alberta and Ontario, are flooding in. “House Prices Going Up By $222 A Day!” The Province screams on its front page. Vancouver is the gateway to the Pacific. It’s a paradise, a world-class playground, with no winters, except on the much-hyped ski slopes. In short, Vancouver has it all, it’s perfect, the best place on earth, and who knows how high property values could go?
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A city of real estate junkies

I begin each day with coffee, sitting in front of the computer, combing through the listings on RealtyLink. The web site where I found our house now serves a new purpose. It’s the source of my daily real estate fix, the endless compare and contrast, the micro-calculations, that are entertaining and comforting if you’re on the plus side of the equation. I quickly figure out that assessed value and market value are two very different things. List prices are much higher than the most recent assessed values, and sale prices, after bloodthirsty bidding wars, even more distantly removed. Sale prices often outstrip assessed values by one hundred or two hundred thousand dollars, or more, especially on the West Side, and in other affluent parts of Greater Vancouver.

One of my favourite games is to find a house similar to ours in the same real estate zone, compare features, and see how much is being asked. After all, using recent sale prices, this is pretty much what professional real estate appraisers do. This house has a fireplace, or a bigger garage, or a new deck. But it doesn’t have a basement suite. (When we bought, our realtor told us that a basement suite immediately adds $30,000 to the price of a house. It’s probably more now, as the necessity of having that mortgage helper increases with the increase in prices.) That house’s lot is bigger/smaller. (Lot size is a crucial component of price, because it dictates the maximum square footage of any house that can be built. And plenty of buyers in Vancouver are thinking of major renovations, or demolishing and rebuilding.) Or the kiss of death — the house is a “deal” because it’s on one of the three drag strips that slice through Grandview: East 1st, East Broadway, or East 12th. I find out that my secret, early morning vice is shared by all sorts of other people. We’re becoming a city of real estate junkies.
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More numbers

House prices take something of breather throughout most of 2004, which is reflected by the 2006 property assessment (covering the period from July 1, 2004 to July 1, 2005). The assessed value of our house goes up by only 10%, or $41,000, which in this rapidly distorting market feels like a disappointment. The increase is still equivalent to a third salary, but a smaller one. Maybe the market is starting to become rational. And really, the party couldn’t go on forever. But at the beginning of 2005 prices start rocketing upward again, as if someone pushed the nitro button. Between late 2005 and early 2006 the line of ascent becomes almost vertical. Like someone sprinting up the Grouse Grind, the steep hiking trail that climbs straight up one of Vancouver’s North Shore mountains, the increase in average house price eats up an additional hundred thousand dollars of value in three months. Renters trying to save a downpayment must feel suicidal, or murderous. When our assessment shows up in early 2007, it reveals a 24% increase and an astounding $109,000 in additional assessed value. Like being handed two salaries.

These are the numbers for a very average little house in East Vancouver. Double everything for a nice house on the West Side. There are probably plenty of homeowners in Point Grey and Kerrisdale and Dunbar who see a $200,000 jump, or more, on their 2007 assessment. A one-year increase that’s more than the average price in many parts of the country at the time for an entire house. I imagine households across Vancouver in which residents are thrilled because they’re winners — unless, as renters hoping to buy, they’re not winners. News stories marveling at the boom abound, gobbled up by homeowners eager to read about their incredible good fortune. The BC Assessment web site is like a millionaires club, populated with real estate millionaires. According to The Vancouver Sun, there are over 50,000 of them in the province, most of whom will be in Greater Vancouver. At this pace, how long will it be before my wife and I become real estate millionaires? If the value of our house continues to increase at the rate it does during the 2002 to 2006 period (an average of 22% a year), the answer is: three years.
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Dream, dream, dream

Yes, I do understand these are paper gains. We’re fully aware that if we sell our house only to buy again in the Vancouver market we’d be no further ahead. In fact, the cost of selling, and moving, and buying — and the likelihood that we wouldn’t be able to avoid a bidding war the second time around — would put us considerably behind. But the wealth effect has nevertheless exerted its influence, at least on me. My wife is perhaps a little more grounded at this point in time. Neither of us has much of an inclination to try moving up to a better house, although my wife sometimes wistfully wishes we had a view. We don’t really think of our house as a “starter home”. We don’t have kids, and our starter home could very well be our finishing home. My day-to-day behaviour is still relatively frugal, but my dreams are starting to become a little more extravagant.

I start to talk to my wife about the options, and possibilities, that the increasing equity in the house could represent. At some point in the not-too-distant future (ten years from now?) we could sell the house and cash out, using a third or half of the money to buy a place on one of the Gulf Islands, or on Vancouver Island, or on the Sunshine Coast, maybe as far up as Powell River. We both like Powell River, where, by Vancouver standards, they’re almost giving away houses. The remainder of the money we’d use to significantly beef up our retirement savings. We’d need to keep working for a time, or at least my wife would (the dream gets a bit bumpy at points), so finding a suitable position in her field would be a prerequisite, but periodically positions do come available in communities in these various areas. I could probably telecommute, or, as I half-jokingly suggest (but only half), I could retire early and, you know, write my novel.

Or we could keep the Vancouver place, rent out the more desirable top half for the market rate, probably $1500 to $1700 a month, and use the basement suite as our Vancouver crash pad, for when we’d had enough of pine cones and sea breezes and needed a dose of the big city’s restaurants, shops, and other enticements. In this scenario we’d get another, smaller mortgage for an out-of-town place, and use the rental income to make some or all of the second mortgage payments.

Or we could use the house to fund extended travel periods, renting out both halves and using the proceeds to go live in other places for a year at a time. Possibilities, options, flexibility. Ultimately that’s what money means to people. You can call the shots in your own life rather than have them dictated to you on terms you dislike. Money = freedom.
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This house is my retirement plan

Another, more sober line of thinking has us just staying in Vancouver, paying down the mortgage as quickly as possible, and switching from using the basement suite as a mortgage helper to using it as a retirement savings helper. My wife, who has spent her career to date in the public sector, has a pension. Working entirely for small to medium-sized private sector employers, I don’t. No pension, and only a moderate RRSP: $50,000 scattered across four different accounts, which I’ve mostly ignored, other than dumping in $5,000 to one or another of them before the annual contribution deadline. The overall total reduced by the $20,000 that I withdrew under the Home Buyers’ Plan, the maximum allowable at the time.

At some point after these repeated years of property assessment increases and equity gains, I’m in the shower, where all big thoughts seem to come to many of us (perhaps the steam, and the isolation from the outside world, help release them from our tightly packed brains?). With a certain amount of gravity I think to myself, “This house is my retirement plan.” Although I’ve yet to discover him, über-blogger and personal finances guru Garth Turner, with X-ray vision that penetrates the walls of our house, fixes my cozy, pink, showering self with a withering and somewhat contemptuous gaze. Fool!
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Financial Details

From 2004 onward, all mortgage and LOC balances are as of 31 December of the year in question.
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2003

Asking Price: $355,000
Sale Price: $355,000
Down payment: $88,750 (25%, ergo, no CMHC insurance, representing thousands of dollars of additional cost)
Mortgage (at purchase, Sep 2003): $266,250
Terms: 3 year fixed at 4.00%, 18 year amortization, bi-weekly payments
2003 Property Assessment (estimate of market value on July 1, 2002): $260,600
2004 Property Assessment (estimate of market value on July 1, 2003): $330,500
Equity based on assessment: $64,250
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2004

Mortgage principal: $247,330
Terms: 3 year fixed at 4.00%, 18 year amortization, bi-weekly payments
2005 Property Assessment (estimate of market value on July 1, 2004): $420,000
Equity based on assessment: $172,670
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2005

Mortgage principal: $201,829
Terms: 3 year fixed at 4.00%, 18 year amortization, bi-weekly payments
2006 Property Assessment (estimate of market value on July 1, 2005): $461,000
Equity based on assessment: $259,171
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2006

Mortgage principal: $191,884
Terms: 5 year variable at Prime minus .75%, 25 year amortization, bi-weekly payments
HELOC balance: $4,291
HELOC interest rate: variable, at Prime.
2007 Property Assessment (estimate of market value on July 1, 2006): $570,000
Equity based on assessment: $373,825

.Next Episode

“What About Everybody Else? Getting Priced Out Forever”
In the latter half of the 1980s I was a student at the University of British Columbia, augmenting my student loans by working part time as a bartender in one of the student bars. . . . One evening one of the food prep guys — let’s say his name was Mike — told me that he and his mother had just bought a house on the East Side, the traditionally working class part of Vancouver. . . . I remember the price he and his mother paid: $90,000.