In April, the Ontario government announced a 16-point plan to make housing more affordable. In general, its intention is to help level the playing field, balancing the interest in maintaining a viable real estate market in the greater Toronto area with ensuring that middle- and lower-income families can afford to live in that area.
Foreign buyers tax
Perhaps the most important element of the plan is the 15% Non-Resident Speculation Tax (NRST) imposed on real estate buyers who are not Canadian citizens, permanent residents or Canadian corporations. This tax applies to real estate purchased in a region around Toronto known as the Greater Golden Horseshoe (GGH), which is one of the most densely populated parts of Canada.
Taxes such as surcharges on non-resident buyers of real estate are a tool that many local governments have turned to recently in order to slow speculative investment and combat housing unaffordability. In particular, this has been a common response to a significant amount of real estate buying on the part of Chinese nationals who are seeking to diversify their wealth and move it out of China by investing in foreign real estate. Hong Kong, which has long struggled with housing affordability, has a 15% surcharge for real estate purchases by foreign buyers, as does Singapore. Last June, Sydney, Australia imposed a 4% surcharge on foreign buyers of real estate. In July, Melbourne increased its surcharge on non-resident property purchasers from 3% to 7%. And last August, the city of Vancouver imposed a 15% surcharge on foreign real estate buyers.
Surcharges distort markets by impacting supply and demand. A tax impacting only one kind of buyer – a foreign buyer – will typically result in lower overall demand, although the level of the decrease is dependent on what percentage foreign buyers comprise the total home-buying market. According to the Toronto Real Estate Board, fewer than 5% of real estate buyers in Toronto in 2016 were foreign.1
In contrast, Vancouver had a much higher percentage of foreign buyers before the surcharge was instituted, but it fell sharply afterwards. The percentage of foreign purchasers of Vancouver real estate fell from 17% to 1% in the roughly seven weeks before the end of August, 2016, after the tax was implemented.2 Further, the number of homes sold declined while home prices also fell in Vancouver. However it is worth noting that this largely impacted single-family homes as opposed to condominiums, according to RBC Economics’ Housing Trends and Affordability Survey. We can assume that the Toronto surcharge will have a smaller impact on demand and prices because foreign buyers comprise a smaller number of total buyers than they did in Vancouver.
In addition, how much demand falls is dependent on whether the foreign real estate buyer has other alternatives. Given that ever more municipalities are imposing taxes on foreign real estate purchases, foreign buyers may be running out of alternatives, and so demand may not drop as significantly as some believe. The net result of Ontario’s surcharge will likely be a drop in home prices in the GGH, although they are unlikely to drop the full amount of the surcharge level.
Extended real estate measures
It is important to note that Ontario’s housing affordability plan is more comprehensive than just a surcharge on real estate purchases by foreign buyers. The regulations also expand rent control to include all private rental units, regardless of whether they were built after 1991. Rent increases would be limited to the rate of inflation – about 2.5% per year. There would also be increased protections for tenants through the strengthening of the Residential Tenancies Act. This would include standardization of leases and greater regulation of evictions and elevator repairs. In general, Ontario would make it less attractive and lucrative to be a landlord through the imposition of these regulations. This also could place downward pressure on real estate market prices.
In addition, Ontario will make it less attractive to be a homeowner through provisions to ensure greater documentation and appropriate taxation of homebuyers as well as the prevention of “paper flipping.” Overall,, this will likely lower demand, thereby lowering prices. Also decreasing future demand is the provision empowering Toronto and other municipalities to create a tax on vacant homes. Conversely, though, Ontario might encourage more existing property owners to become landlords given this provision. An increase in supply will of course drive down the price of rent, making housing more affordable.
In addition, Ontario has enacted other provisions to increase the housing supply. These include the creation of a $125 million, five-year program to encourage the construction of new rental properties by providing a rebate for some of the development expenses, as well as a team of government employees dedicated to helping remove barriers to housing development projects. These initiatives, all else being equal, would increase supply, thereby lowering prices further.
Finally, Ontario has included a provision to update the GGH Growth Plan. This will enable Ontario to be more strategic about development going forward and ensure the area supports economic diversity and its natural resources, while also supporting economic competitiveness. While this may create some short-term hiccups, it should be a positive for the housing market and the economy over the long run.
In summary, Ontario’s housing affordability plan is thoughtful and holistic. The short-term result will most likely be a decrease in demand and an increase in supply for real estate, which will in turn result in a reduction in real estate prices.
Given that the Canadian housing market is arguably overheating, this surcharge may ultimately prove positive as it may help to slowly diffuse what has been a major increase in home prices over the past several years. For example, Capital Economics calculates that the Canadian housing market is overvalued by as much as 40% – which their calculations indicate is worse than the overvaluation of the U.S. housing bubble a decade ago. In an environment where Chinese millennials can use apps to purchase properties overseas, sight unseen, a 15% tariff and other affordability measures should help to countervail what are dramatic pricing pressures.