It’s no secret that housing in Canada is now amongst the most expensive in the world, falling in the bottom third of global affordability rankings based on price : income ratio according to Numbeo. Even as interest rate rises took a hold for 2022 into 2023, house prices in Toronto remained resilient, increasing over 35% in the last 3 years and are on the up again for most provinces.
With these figures in mind, along with low inventory, plus the cost of finance currently on the up, it’s easy to see why hard-working Canadians would be disheartened about getting a foot-in the current market.
Housing affordability did seem top of mind for the federal government in Budget 2023 however, as amongst other measures, they earmarked $200M to go towards the ‘Affordable Rental Innovation Fund’ which is administered by the CMHC.
Rent-to-own programs will make up part of this fund and are designed to alleviate affordability issues for working Canadians and give investors and developers the opportunity to develop and scale-up rent-to-own programs which also benefit them. Investors may apply for funding under the program by demonstrating how they can use innovative financial models, technologies and operating efficiencies to address the key areas of the National Housing Strategy.
What is a Rent-to-Own Program?
Typically a rent-to-own program provides a route for those on low incomes to become property owners by making them equity investors in their rental property. Programs allow them to pay a portion of their rent towards a down-payment on the property they’re living in for a set amount of time, with an agreement that they will purchase the property at the end of the term.
This kind of arrangement requires the tenant to enter into two agreements: the lease agreement and the lease-purchase agreement. The lease agreement will specify the fixed term that the tenant will rent the property and this period should give them enough time to repair credit rating if necessary so that they can qualify for a mortgage at the end of the term or at least enough time to save for the ancillary costs pertaining to the property purchase. With a lease-purchase agreement as would generally be used in a complete rent-to-own scenario, the tenant is obligated to purchase the property at the end of the predetermined period, unlike a lease-option agreement which gives them the right to refuse purchase.
What Does the Rent-to-Own Process Look Like in Ontario?
Rent-to-own arrangements, also known as lease options or lease-purchase agreements, usually involve three main components: the lease, the option and the purchase.
Lease Agreement: The investor (property owner) and the tenant (the potential buyer) sign a lease agreement, similar to a standard rental agreement. The lease specifies the monthly rent, the duration of the lease and other terms and conditions.
Option Agreement: Along with the lease, the investor and tenant sign an option agreement. This agreement grants the tenant the right, but not the obligation, to purchase the property at a predetermined price within a specified timeframe, generally one to three years.
Option Consideration: The tenant pays an option fee, also known as option consideration or upfront payment, to the investor. This fee is typically non-refundable and is a percentage of the property’s purchase price. The option fee is usually credited towards the purchase price if the tenant exercises their option to buy.
During the lease period, the tenant pays monthly rent, which may include an additional amount, over and above market rate, designated as rent credit. The rent credit is a portion of the rent that is applied towards the eventual down payment or purchase price.
If the tenant decides to exercise their option to purchase the property within the specified timeframe, they notify the investor in writing. At this point the purchase price is determined by the terms of the option agreement, which is typically set at the beginning of the lease.
The tenant will then need to secure financing to complete the purchase. They proceed by paying the remaining balance of the purchase price, less any option fees or rent credits already paid.
It’s important to note that if the tenant chooses not to exercise their option to purchase or fails to meet the purchase requirements within the specified timeframe, the investor retains the property and the tenant typically forfeits the option fee and any rent credits.
Throughout the rent-to-own period, the investor remains the legal owner of the property and is responsible for property taxes, insurance and major repairs, depending on the terms of the arrangement.
It’s essential for both parties to consult with legal professionals to draft a comprehensive and legally binding agreement that protects their respective interest and ensures compliance with Ontario’s laws and regulations regarding rent-to-own transactions.
How Could the Ontario Rent-to-Own Program Benefit Investors?
The Ontario Rent-to-Own program can benefit property investors in several ways:
Consistent rental income - investors can earn regular income from tenants who are participating in the Rent-to-Own program, providing for steady cash flow.
Potential for higher returns - Rent-to-Own properties often come with a higher rental rate since a portion of the rent is typically designated as a down-payment towards the purchase of the unit.
Property appreciation - Investors can benefit from potential property value appreciation during the rent-to-own period, allowing them to sell the property at a higher price or negotiate favorable terms for the final purchase.
Lower vacancies and turnover - Rent-to-Own agreements tend to attract tenants who have a strong desire to eventually own the property, leading to lower vacancy rates and reduced turnover. As the tenants are essentially investing over and above the market rate towards purchasing the property, they would be unlikely to forfeit those payments.
Limited maintenance responsibility - the responsibility for property maintenance and repairs during the rent-to-own period typically falls on the tenant, reducing the investor’s maintenance burden and increasing returns.
Reduced financing risk - Rent-to-Own programs often require tenants to pay a non-refundable option fee or deposit, providing investors with upfront capital and reducing the risk of financing or mortgage default.
Finally, as we’ve discussed previously at Private Capital Group, for investors looking to ‘give something back’ with more social investments, these kinds of programs can be a very fulfilling way to help first-time buyers or others that haven’t been able to raise enough of a down-payment, an opportunity to call somewhere their home.
Of course, given that the purchase agreement should cover the financial risk of the tenant not being in a position to purchase, the potential cons of rent-to-own investment are similar to any other residential tenancy including the risk of default on rent payments, lack of maintenance and repairs undertaken by the tenant as agreed and market uncertainty impacting the anticipated profit on the property.
Rent-to-own would likely not be suitable for investors who value a level of flexibility in accessing capital quickly as agreements typically lock in the property for a set period, inhibiting a sale before that contract ends.Whether or not rent-to-own aligns with your own investment strategy will involve careful evaluation of specific terms and conditions, risk tolerance, financial goals and market conditions before going ahead.
Seek Advice Before Participating
It’s important for investors to thoroughly understand the specific terms and conditions of the Ontario Rent-to-Own program and conduct proper due diligence before participating in it. Consulting with legal and real estate professionals is recommended for a comprehensive understanding of the program requirements, benefits and risks.
Reach out today for more information on this and other commercial investment opportunities in the GTA.