In recent months, we have seen numerous news articles and even government policies capping rent increases for landlords, as the media and politicians try to blame Canada’s housing problem on rental increases by multifamily landlords. Granted, inflation’s devastating impact on purchasing power has affected everyone negatively. However, blaming the housing affordability issue on landlords is utter nonsense. The truth is that landlords’ expenses are not capped, and worse, mortgage interest rates aren’t capped either—both of which have risen dramatically in recent years.

Having worked as a full-time real estate broker for the past 21 years, focusing on apartment buildings in the Greater Montreal region for the past 16 years, I have never experienced mortgage interest rate turmoil like we did in 2022, when rates spiked nearly 250 basis points almost overnight.

This was indeed dramatic and had a negative impact on buyers’ purchasing power, thus reducing sales volumes for all of us. However, we may face an even bigger problem in the coming year.

In our real estate industry, most of us, along with our clients, rely on leverage. Where would real estate prices be without leverage? That’s a discussion for another day.

The Next 12 Months Are Crucial

The next 12 months will be crucial for the apartment building market due to the dramatic events we experienced during the COVID-19 period, particularly between April 2020 and March 2021, when interest rates sank to nearly zero.

This was, of course, an excellent time to buy real estate or finance existing properties at record-low interest rates. However, this may come back to hurt borrowers in the next 12 months if interest rates remain at current levels. Why?

Since March 2021, real estate borrowers have faced significant rate increases, with most of these hikes occurring between November 2021 and August 2022. The real impact of these rate increases will be felt during the 2025 mortgage renewals (many mortgages have 5-year terms), as multifamily investing is really about the numbers and leverage.

A High-Level Look at the Numbers

For example, a $1 million mortgage taken in 2020 at a 2% interest rate, amortized over 35 years, would have a debt service of $39,700 per year. By 2025, the remaining balance on this mortgage would be $897,000. If the borrower decides against refinancing and continues paying down the loan, the amortization period would be 30 years at renewal time, down from the original 35 years. In my experience, it is very difficult to extend the amortization period with Canadian lenders unless the borrower refinances, adds to the mortgage, and pays the applicable loan renewal or application fees. So, what would this mean for the borrower?

Assuming interest rates remain at current levels, with 5-year CMHC rates around 4.0%, the original $1,000,000 mortgage amortized over 35 years at a 2% interest rate would have a balance of $897,000 at renewal in 2025, with 30 years remaining at a 4.0% rate. The debt service would increase from $39,700 per year in 2020 to $51,132 in 2025—a 29% increase in debt service despite the mortgage amount decreasing by over 10%.

Here, I assume that this real estate investor is a capable multifamily investor and has managed to keep up with market rents, as average rents in the Greater Montreal region increased by 20% between 2020 and 2023 (source: CMHC https://shorturl.at/gJmSU). This 20% increase would help offset part of the increased debt service.

In the above example, I haven’t discussed anything beyond mortgage interest rates—no mention of increased heating costs, insurance premiums, renovation expenses, etc. My focus is purely on what we can see in the charts: the rise in mortgage interest rates.

Now imagine if additional rent control were imposed on the investor / landlord. The Tribunal administratif du logement in Quebec is powerful and sets the allowed rental increase amounts, yet its formula does not consider interest rate risk. Its calculations focus only on gross rents, vacancies, renovations, and utility and administrative expenses, without accounting for interest rate hikes.

Any form of increased rent control beyond what we have today would be catastrophic for the multifamily investing and ownership community. Without adequate cash flow for landlords and real estate investors, there is no way that our aging stock of properties can receive the necessary funding to maintain these properties for both tenants and landlords if restrictive caps are placed on rent. The free market will penalize landlords who attempt to overcharge tenants—we don’t need more legislation on this topic. The solution to our housing affordability issue is to make it easier for builders to construct new properties and increase housing supply, not penalize landlords who are already affected by inflationary pressures without caps on their expenses or borrowing costs.