Incenting Purpose Built Rental
Housing – A Primer on the
Economics of Development
CMHC Housing Policy Division
April 20th 2016
Steve Pomeroy
Focus Consulting Inc. &
Carleton University Centre for Urban Research and Education
(CURE), Ottawa
Outline
•
•
•
•
Long term trend in rental supply
Why rental development not viable
Key terms used
Elements of a pro forma and illustrative
examples
• How different incentives might improve
viability/affordability
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Rental Housing Production - Canada
Rental Production in Canada:
Annual Average by 5-year Period
120,000
Non-Profit & Co-op
3,
70
0
Public Housing
Private Rental
2,
20
0
32,900
39,700
18,200
24,900
11,200
0
50-54
55-59
60-64
65-69
70-74
75-79
80-84
85-89
90-94
14,200
14,200
6,200
95-99
00-04
Source: Greg Suttor- Canadian Housing Statistics; ONPHA; AHI data.
Focus Consulting Inc. 2016
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4,
10
0
19
,6
00
59,100
56,700
00
00
0
50
1,
20,000
75,200
72,200
1,
4
6
1,
40,000
16
,1
00
60,000
20
,0
00
0
40
9,
0
40
1,
9,
00
0
00
,5
17
0
40
9,
80,000
1,
90
0
100,000
05-09
Rental Trends - Ontario
Housing Starts by Market Segment - Ontario
90000
Homeowner
Condo
Rental
80000
70000
60000
50000
40000
30000
20000
10000
Source Stats Can Cansim Table 027-0045, CMHC
Rental on average 6% of all starts since 2000
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2015
2014
2013
2012
2011
2010
2009
2008
2007
2006
2005
2004
2003
2002
2001
2000
1999
1998
1997
1996
1995
1994
1993
1992
1991
1990
1989
0
Assessing the economics of
rental development:
Developing and using a pro forma analysis
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Rental Pro Forma – Key Terms
• LTV = Loan to Value Ratio
• Cap rate = capitalization rate (to estimate
lending value)
• DCR = Debt Coverage Ratio
• NOI = Net Operating Income
• RoE = Return on Equity
• CMHC MIF Premium = mortgage insurance
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Main elements of pro forma
• Operating Budget (revenue & expenses:
establishes potential cash flow and NOI
available to service debt
• Capital Budget - establishes total capital
requirements (covered by mortgage and
equity/grant)
• Underwriting terms – establishes maximum
loan capacity (lender and CMHC as insurer)
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Operating Budget
Expenses
Monthly rent
Rental revenue
Sundry Revenue (laundry, parking)
subtotal revenue
Less 3% vacancy
(a) Gross Revenues
Expenses
Maint and Operations (incl management)
Utilities
Property Taxes
(b) Total Operating
(a)-(b) = Net Operating Income
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Capital Budget – Land and Hard Costs
Land purchase
Construction Budget*
Renovation Conversion hard
costs
Engineering servicing costs
Stoves and Refrigerators
Legal fees
Laundry Equipment
Title Transfer Fees
Furnishings and equipment
Soil geotech
Other
Parkland Levy
Surface parking
Pre const interest carrying costs
Landscaping
Land Acquisition
Equipment (apt elevator)
* Current hard costs $/sq ft range
Basic wood-frame $100-$135 between
Medium quality concrete mid-highrise $170-$220
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Capital budget – Soft costs
Soft Costs
Taxes during construction
Insurance during Construction
Utilities during const.
Interest During Construction
Legal Fees (excl land)
Architect/Engineering Consultants
Development Consulting
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Additional Public Fees and Charges
Site Plan Application
Building Permit
Municipal Dev'l charges
Mortgage application fees (excl MIF premium)
PST/GST (HST)
CMHC Insurance Premiums*
* While a cost, these are amortized so not
reflected in capital budget
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Lending and Underwriting Criteria
• Strongly influenced by CMHC insurance
criteria
• Sets method for establishing maximum loan
(based on a max LTV or 85% and DCR of at
least 1.2 if 10 yr term (1.3 if only 5 yr term)
• DCR more important than LTV
• Some reduction-flexibilities if target affordable
rents
– waive premium, lower DCR to 1.0, incr LTV to 95%
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How elements come together
Capital Budget
(Total costs to be
covered)
CMHC
Underwriting
rules
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Operating Budget
(NOI)
Maximum
Financing
Capacity
Minimum
Equity/Gra
nt
Required
Viable
Not
Viable
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Illustrative Pro forma (per unit)
Typical new market (rents - $1600/mo)
Operating Budget
Revenues
Rental Income
Gross after 3%
vacancy
Operating Costs
Maintenance and
Operations
Property Taxes
Total Operating
Costs
Net Operating Income
Capital Budget
Land
19,350
18,770
28,000
Construction costs
Soft costs
32,000
Subtotal
220,000
HST (Net at 5.2%)
5,000
1,000
160,000
Total Costs
11,440
231,440
(excludes CMHC premium)
6,000
12,770
• Assumes mix 1 & 2 Bed; rents @ 150% of AMR (of $1,075/month);
• Taxes at new multi-residential rate
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Illustrative Pro forma (per unit)
Determining potential to carry debt and thus
required equity or grant – based on NOI
Total Cost
NOI
Lending value @ 6.5% Cap rate
Maximum Financing Based on lowest of:
a) 85% of Lending Value
b) 85% of Cost
c) Achieving Minimum 1.2 DCR (3.5% mort)
Max financing (mortgage loan)
Required Equity/Grant *
231,440
12,770
196,724
166,986
196,724
177,613
166,986
64,454
* Amount of required equity impacts RoE
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Combining elements
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Eg 2: Rents at 100% AMR
(use with rent supplements)
Exhibit 2 Rent at 100% AMR ($ per unit)
Development Costs
Land
Construction
Soft costs
Total Cost
HST
Project Costs
28,000
160,000
32,000
220,000
11,440
231,440
Ave rent/month $1,075
Financing
Equity
Mortgage Financing
CMHC Insurance Premium
Total Mortgage
Revenues, Costs and Cash Flow
Revenues
Maintenance & Operations
Property Taxes
Total Operating Costs
NOI
Mortgage Payments
Cash Flow
Cash-on-Cash Return
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146,270 <-- Less leverage = more equity/grant
85,170 <-- Less leverage = smaller loan
3,833
(added and amortized)
89,003
(Rents and operating inflated at 2%)
Year 1
Year 5
Year 10
12,513 <-13,963
15,417
5,000
5,412
5,975
1,000
1,082
1,195
6,000
6,495
7,171
6,513 <-7,469
8,246
5,332
1,181
0.8%
5,332
5,332
2,136
2,914
1.5%
2.0%
Unattractive rate of return on equity
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Pro forma for affordable (80% AMR)
Exhibit 3 Affordable Rent 80% AMR ($ per unit)
Development Costs
Ave rent/month = 834
Land
Construction
Soft costs
Total Cost
HST
Project Costs
28,000
160,000
32,000
220,000
11,440
231,440
Equity
Mortgage Financing
178,996
52,444
Financing
CMHC Insurance Premium
Total Mortgage
0
52,444
<-- Large grant/equity required
<-- Significant reduced loan capacity
No CMHC premium, higher LTV 95%
Revenues, Costs and Cash Flow
Year 1
10,010
Year 5
11,171
Year 10
12,333
Maintenance & Operations
Property Taxes
Total Operating Costs
NOI
5,000
1,000
6,000
4,010
5,412
1,082
6,495
4,676
5,975
1,195
7,171
5,163
Mortgage Payments
Cash Flow
3,142
868
3,142
1,534
3,142
2,021
0.5%
0.9%
1.1%
Revenues
Cash-on-Cash Return
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Options to enhance affordability
• Reduce costs:
–
–
–
–
–
Waive Municipal fees and charges
CMHC premium waiver for affordable rents
Zero rate HST (not done in Fed Budget)
Contribute Public land (reduce or eliminate land cost)
More basic construction (wood, surface parking)
• Increase Revenue
– Mixed income with full market to cross subsidize
affordable (vs. 100% affordable)
– Utilize rent supp/allowances, and retain market rent
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Options to enhance affordability
LTV constrains max financing to $85,000 vs. DCR @1.1 (= $120,000)
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Exploring implications
• What is policy objective?
– Stimulate supply (private market); or
– Address affordable rental need
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Incenting market supply
• Options to improve net income
1. Reduce or eliminate property taxes
2. Energy efficiency(tenant vs. owner)
3. Optimize rent at max possible
• Options to lower costs
1.
2.
3.
4.
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Basic construction (WF vs. masonry)
Waive some public fees and charges
Exempt rental from HST
Land at below market cost
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Incenting market supply
•
•
•
•
Options to provide low rate financing
No impact on cost
Increases leverage of a fixed NOI
Translates into larger loan (re DCR) and lower
equity
• Thus enhances RoE
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Addressing affordable rental need
• Can we build affordable housing?
– Reduce size/quality
– Limits to options on cost side
• Provide rent subsidy/housing allowances
– Avoids distorting viability of development
– Build at real cost, optimize financing/grant mix
– Specifically target low incomes
– Avoid project based oversight, admin cost
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Questions and Discussion
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Thank you!
Additional background reports available at
www.focus-consult.com
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