How do we increase supply? We lower the cost of building in our province.

The cost of building in Ontario is constantly rising – especially with the current level of inflation - and it represents one of the biggest obstacles to building purpose-built rental units and bringing more housing supply to market. With the economic effects of the pandemic approaching two years, it is likely that cost increases impacting the housing sector are here to stay. Higher costs for builders mean higher housing and rent prices for Ontarians. Firstly, higher costs mean that building new projects, and especially purpose-built rentals, becomes less financially viable, serving to further restrict new supply needed to keep pace with increasing demand. And secondly, higher costs result in lower margins, meaning that housing prices have to go up for a development to be able to proceed. Finding ways to address rising costs is essential to stimulate more supply and alleviate the housing crisis in the province.

Construction costs have been steadily increasing, rising by more than 53% over the past 5 years. Overall, project costs have increased by more than 75% since 2016, according to CBRE Canada’s vice chair Paul Morassutti. However, the pandemic has accelerated the rate of increase due to many factors ranging from inflation, to increased labor costs, and the high demand for building materials. For example, the price of wood has spiked by as much as 200%-300% due to shortages and disruptions of global supply chains. That resulted in costs rising by 7.2% in Toronto just in the first quarter of 2021, and an increase of 15% year over year. And to make things worse, Altus Group’s 2021 Canadian Cost Guide shows that the GTA already has some of the highest construction costs in the country, reaching as high as $380 per square foot, or $75 more expensive on average than other cities in Canada.

The rise in costs is significant because it directly affects both the price and the supply of housing. Typically, a 3% rise in income is needed to counterbalance every 10% increase in costs according to a recent report from the REMI Network. This has a disproportionate impact on purpose-built rentals, where margins are tighter, and market conditions are less certain even before the pandemic. Because income and profits are generated over a longer term, and projects are more often financed by debt as compared to other residential developments, purpose-built rentals are impacted more severely when costs go up. This causes builders and investors to build fewer units, which is the opposite of what we need in the middle of a housing crisis.

So, what can be done? Addressing rising costs can be complicated as most are subject to market dynamics. However, there are measures governments can take to help alleviate costs for builders. For example, rental housing is a GST/HST exempt business, meaning that rental housing providers do not collect GST/HST from tenants. However, they still have to pay GST/HST on their inputs. Because building and maintaining purpose-built rentals is a capital-intensive business, that represents a significant outlay that is not balanced in the tax policy. Since they have no GST/HST stream themselves, rental housing providers are left stranded with input tax credit they cannot deduct from anywhere, amounting to added tax costs.

One potential option to address this situation would be zero-rating of rental housing, similar to how groceries are treated. Zero-rating would mean that while no GST/HST is collected from tenants, rental housing providers would be able to make claims on all the tax they pay on their inputs and have that refunded by government. The result would be that all taxes paid on inputs would be cleared and not buried in rental housing providers’ costs. That would help reduce both development and maintenance costs, and thus attracting more investment in purpose-built rentals.

Another potential solution to helping with rising costs would be deferring capital gains taxes. For older rental properties capital gains taxes can be very large, which discourages builders from wanting to invest in new purpose-built rentals. If capital gains taxes were to be deferred and written off against the development of new rental units, that would lower the costs of building new units and spur supply by incentivizing more builders and investors to get into the purpose-built rental market.

Both measures have been used successfully in the past to help alleviate costs on builders and stimulate the supply of rental housing. It would be wise to return to proven policies that once created the kind of success needed now. However, another alternative to counteract rising land prices would be for the government to make public land available at low or no cost. While that would affect some governments’ abilities to raise funds, it would also help the community build housing that’s desperately needed.

These policies fall mostly in the jurisdiction of the Federal Government, but the Ontario government can be a champion for housing in the province and lobby the Federal Government to enact policies that will help create more housing in Ontario. The two governments are already collaborating on the National Housing Strategy, but more joint solutions are needed.

Rising costs make up one of the biggest hurdles to more housing supply entering the market in Ontario. As the world economy continues to feel the effects of the COVID-19 pandemic, the costs are only projected to go higher at a time when Ontario has a significant housing supply gap that will only get worse. Now more than ever all levels of government need to step up and offer alternatives that can alleviate costs and encourage more purpose-built rental supply to be built all across the province. Whether they come in the form of more favourable tax treatment, or access to surplus land, the time to act is now.

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