MUNICIPAL RED TAPE, UTILITY INFRASTRUCTURE, FINANCING
The Devils We Know Too Well
In a rare moment, almost everyone in Canada is now agreeing on one thing: we need to build more houses, and fast!
The consensus starts to fall apart when we all start talking about the specifics of where, how and who.
Much has already been exposed about the lengthy delays and obstacles to building new homes at the permit stage. Each municipality has their rules, and their staff. The federal government is currently attempting to “encourage” towns and cities to change their rules to allow more densification. They are literally offering federal funding in exchange for new bylaws; this week’s example is in Airdrie. Bribery or capitalism at its finest? You can decide. In theory, if the rules change in each municipality, it should be easier to build more homes on existing properties. We are noticing that cities like Calgary have received the promise of funding, but are continuing to work through their own red tape to adapt their bylaws to a rapidly growing population. And even when that does happen, each municipality needs enough staff to approve the permits. Hint to Gen Z: there is a huge demand for urban planners, architectural technologists, and civil engineers.
Utility infrastructure is the most recent hot button at every level of government. This is also being talked about at length, but the implementation of solutions will take years, if not decades. New water treatment plants aren’t built or financed in a heartbeat. Expanding the electrical grid, for both EV’s (electrical vehicles) and an environmental shift away from gas furnaces, is a massive project. Worse it requires some cooperation between various levels of governments. In addition, the sad truth is that some municipalities are still struggling post Covid: https://www2.deloitte.com/content/dam/Deloitte/ca/Documents/public-sector/ca-en-ps-building_the_foundation_for_cities_to_thrive_after_covid-19_pov_en_aoda.pdf. How can towns and cities pay for infrastructure upgrades? Real estate investors and homeowners are already seeing significant increases in property taxes in an attempt to both recover and grow.
The third devil in this obnoxious trio of obstacles is an interesting story of risk and financing. Who is building all these homes? Well, it isn’t the government. So far, they don’t want public housing. So private developers, builders and real estate investors MUST take on the responsibility. Developers have some risks related to the land. And real estate investors have some risk, but are currently working closely with CMHC for their financing and insurance. Now I ask, who is actually building these homes?
Here is where a dirty little secret is emerging. Who is financing the foundation? The framing? The electrical and plumbing? Oh yes, and then all the stuff that makes these homes functional and pretty (kitchens, bathrooms, etc…). Construction financing used to be easy, but banks have grown very cautious these days—and perhaps rightly so. Home building (small or large builders included) is a tough business, with rising costs and diminishing labour pools.
So again I ask, who is financing the building? Even with construction loans, it is the builder who must finance the first 25%-50% of each build, before receiving any funding. This means that every builder is limited by their cash on hand, or business lines of credit, to how much they can build at any one time. If Project X for 4 homes costs $1,000,000, then Builder Bob must have at least $250,000 available to start, unless negotiated otherwise. If Builder Bob uses a line of credit to start a project, that used to be no problem. It was easy to absorb a 2% interest fee into the overall cost of the build. But it has become much more expensive to borrow—even with an excellent credit rating. Operating lines of credit for builders these days are anywhere between 5% and 15%. Builders must find a way to pass these costs along to their customers. Profit margins are already too slim to absorb all of the extra financing fees. The old business model is broken.
The current paradigm is that the builders must absorb all of the risk, and assume much of the financing. The underlying belief is that builders have some magical access to copious amounts of capital. The dirty little secret is that this belief is actively slowing down many companies, or causing business failures. If banks don’t want to finance builders, and homeowners won’t pay until a building is finished, there is a significant gap. Homebuilders are currently trying to run 2 businesses: building houses/multifamily properties AND managing loans/etc… like a bank. It’s no surprise to us that some builders in Ontario and Vancouver are seeing problems and defaults. Tarion is Ontario’s Home Warranty Provider. They are currently facing a record $90 Million in payouts, because builders are walking away from projects. https://www.jenlaschinger.com/toronto-real-estate-updates/tarions-90m-challenge-protecting-ontario-homebuyers-amid-developer-abandonment.
I would LOVE to be able to offer solutions to this rather un-holy trinity of obstacles to new home-building. Many people are already working incredibly hard to move things forward with municipal red-tape; any improvement is helping and welcome. The country is awakening to a dramatic need to upgrade services and utilities for our rapidly growing population; there is no overnight solution here. But we are worried that the carnage in Canada’s lack of affordable housing cannot be fixed without providing solutions for the gap in financing new builds. Unfortunately, builders never entered their business to become bankers.
