{"id":13176,"date":"2025-06-05T13:56:57","date_gmt":"2025-06-05T13:56:57","guid":{"rendered":"https:\/\/www.rbc.com\/en\/?post_type=rbc_tl&p=13176\/"},"modified":"2025-06-09T17:19:40","modified_gmt":"2025-06-09T17:19:40","slug":"a-housing-trifecta-how-governments-can-tap-private-capital-and-improve-supply-sustainability-and-affordability","status":"publish","type":"rbc_tl","link":"https:\/\/www.rbc.com\/en\/thought-leadership\/uncategorized\/thought-leadership\/a-housing-trifecta-how-governments-can-tap-private-capital-and-improve-supply-sustainability-and-affordability\/","title":{"rendered":"A Housing Trifecta: How governments can tap private capital to improve supply, sustainability and affordability"},"content":{"rendered":"\n
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Key Takeaways<\/h2>\n\n\n\n
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Tackling Canada\u2019s housing shortage will require $2 trillion in capital deployment over the next 5 years\u2014that\u2019s a 5X increase from current levels <\/p>\n<\/div>\n<\/div>\n\n\n\n

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Two taxation tools\u2014tax-free municipal bonds for housing and infrastructure, and tax credits for affordable housing\u2014have spurred housing supply in the U.S., attracting $5 in private capital for every $1 of foregone taxation revenue<\/p>\n<\/div>\n<\/div>\n\n\n\n

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Municipalities could cut housing costs by 20% by financing infrastructure with municipal bonds.<\/p>\n<\/div>\n<\/div>\n\n\n\n

The housing shortage in Canada has reached a crisis point.1<\/a><\/sup> An estimated 3.5 million new homes are needed to keep up with demand.2<\/a><\/sup> A staggering number, especially compared to the U.S., where the shortage is 12 times smaller, on a per capita basis, despite having eight times the population.3<\/a><\/sup> Canada\u2019s growing housing shortage has contributed directly to affordability challenges. Average home prices have sky-rocketed in recent years\u2014particularly in Ontario and British Columbia, which accounts for two-thirds of the country\u2019s shortage\u2014such that prices are now nine times household income.4<\/a><\/sup><\/p>\n\n\n\n

The federal government proposed a National Housing Strategy in 2017. But the program has only delivered 10% of its commitment to build 131,000 affordable rental homes.5<\/a><\/sup> Mark Carney\u2019s government has now pledged to spend the bulk of its $36-billion housing commitment on prefabricated homes. Tax cuts and concessionary financing for developers round out the government\u2019s policy package.<\/p>\n\n\n\n

It\u2019s a start, but more can be done. The U.S. approach to housing can be instructive in how to attract continuous private capital into homebuilding. Canada and the U.S. both provide government subsidies to encourage developers to build more affordable rental and ownership housing. Canada\u2019s preference is grants or concessionary financing, for rental housing, and waiving of government fees, and downpayment support for first-time homebuyers.6<\/a><\/sup> This policy playbook requires the federal government, and provincial governments to a more limited extent, to fund these programs through direct capital outlay.<\/p>\n\n\n\n

The U.S. relies more on federal tax incentives to draw in money from corporate, institutional, and mom-and-pop investors to finance housing and housing related infrastructure, including roads and stormwater sewers. At the heart of the U.S. taxation playbook are two tax tools: tax-free municipal bonds and a low-income housing tax credit for affordable housing.7<\/a><\/sup> In 2024, these tools cost the U.S. Department of the Treasury a combined US$59.1 billion\u20141.2% of all federal revenue\u2014but crowded in nearly US$500 billion in direct-equity investments.8<\/a><\/sup><\/p>\n\n\n\n

The introduction of similar federal income tax changes in Canada could achieve a housing trifecta: increased supply, improved affordability, and more sustainable homes. By our estimates, housing costs could decrease by 20%. These savings would allow developers to free up more capital, enabling them to build twice the number of projects with the same amount of equity financing. An acceleration of building activity that could help the Carney government fulfill a key priority: making housing in Canada more affordable.9<\/a><\/sup><\/p>\n<\/div>\n<\/section>\n\n\n\n

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Tax-free Municipal Bonds<\/h2>\n\n\n\n

U.S. local governments have the power to raise debt in public markets, through bond issuances, to finance operating and capital needs, including housing. Local governments have US$4 trillion in outstanding municipal debt, and the U.S. municipal bond market is the largest, globally.10<\/a><\/sup> <\/p>\n\n\n\n

The demand for local government debt can largely be attributed to the tax shield it provides investors. Holders of municipal debt, mainly institutional and retail investors, do not have to pay income tax on interest earned on these bonds.11<\/a><\/sup> Since investors are willing to accept a lower rate of return in exchange for lowering their tax obligations, local governments can borrow from the public debt markets at lower costs, typically 100 to 160 basis points lower than taxable bonds with similar risk characteristics.12<\/a><\/sup><\/p>\n\n\n\n

To prevent the misuse of proceeds, the federal government places restrictions on what can be financed. Proceeds are principally used to finance projects where the benefits flow to public rather than private interests. To be considered for public purposes, bonds must meet one of the following criteria: more than 90% of the proceeds are used by a government entity, or less than 10% of the proceeds are secured for a property that is used in a trade or business. Municipal bonds that satisfy either of these conditions are classified as government bonds and the federal government does not impose a cap on the amount of debt that can be issued.<\/p>\n\n\n\n

Activities that fail to satisfy either of these tests but provide both public and private benefits, such as multi-family residential housing projects, green buildings, and sustainable design projects,13<\/a><\/sup> are eligible for financing with a type of municipal bond classified as a private activity bond (PAB). Unlike government bonds, PABs are subject to capital raising limits, which is US$48 billion in 2025.14<\/a><\/sup> While PABs are used to fund a variety of initiatives, they are critical for developers building affordable housing projects. About 44% (or US$18 billion) of PABs are used to finance affordable rental housing projects, in 2022.15<\/a><\/sup><\/p>\n<\/div>\n<\/section>\n\n\n\n

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Low-Income Housing Tax Credit for Affordable Rental Housing<\/h2>\n\n\n\n

A second tool in the U.S. tax code playbook are low-income housing tax credits (LIHTC). Since its inception in 1987, the LIHTC has been responsible for the development of 7.8% of new U.S. housing stock, or 3.65 million units of affordable housing.16<\/a><\/sup><\/p>\n\n\n\n

Two types of credit exist, a 4% and a 9% tax credit.17<\/a><\/sup> The 9% tax credits are allocated to states annually by the Internal Revenue Service (IRS). In 2025, credits are capped at $49.6 billion. States distribute these credits to eligible projects, and eligibility criteria is refreshed annually, to remain aligned with each state\u2019s affordable housing priorities, including the construction of greener or more energy efficient homes. The 4% tax credits are awarded automatically to projects that receive 50% of funding through tax-exempt municipal bond financing. There\u2019s no ceiling on the amount of 4% tax credits available each year, since developers apply for the credit directly with the IRS.<\/p>\n\n\n\n

While there are several approaches to accessing the 9% tax credit, the most common is for a syndicator, typically a bank, to play match maker between developers and investors. A limited liability corporation (LLC) is formed in which investors are the limited partners owning 99.99% of a housing project, and the developer as the general partner owns 0.01%. The developer flows to investors the tax credits they receive from their state housing finance authority once a project is occupied. Investors in return provide equity financing to developers, that\u2019s generally $0.90 on the dollar for a credit. These investment partnerships are structured to last 15 years, which is the mandated affordability period in the tax code. At the end of the 15-year holding period, the investors, who are mainly corporations, have the option to sell the housing project back to the developer or enter a new deal for the same property.18<\/a><\/sup><\/p>\n\n\n\n

Investors in LIHTC are mainly motivated by the after-tax returns on their equity investments. As a result, they are comfortable with providing 80% equity financing for a project where they will receive lower returns because their contributions will be used to lower rents. Investors internal rate of return (IRR) of after-tax savings range from 350 to 800 basis points which on the upper end of the IRR range is almost twice the yield of a 12-month U.S. treasury bond.19<\/a><\/sup> Two forms of tax savings exist\u2014general tax savings and income tax savings. The former is realized through asset depreciation and operating losses. Income tax savings are realized by using the tax credits to offset federal income tax liability for 10 years, although the credits can be recaptured if the housing project fails to comply with rent and income requirements.20<\/a><\/sup><\/p>\n\n\n\n

Tax credits, while benefiting investors and businesses, come with a downside cost: foregone taxation revenue, which, as noted above, cost the government US$59.1 billion in 2024. On the positive side, the LIHTC is estimated to crowd in US$2 of investment spending for every dollar in foregone revenue. The multiplier effect is even more staggering for municipal bonds, crowding in US$10 of private investor capital for each dollar in foregone tax revenue.21<\/a><\/sup><\/p>\n<\/div>\n<\/section>\n\n\n\n

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What\u2019s required to adopt the U.S. tax playbook in Canada<\/h2>\n\n\n\n

Investment tax credits and tax-free capital gains are not novel taxation concepts in Canada. The federal government\u2019s Multiple Unit Rental Building (MURB) program, which ran from 1974 to 1981, permitted retail investors in rental apartments to lower their income tax obligations by claiming capital depreciation and other costs against their income. The program, which cost the federal government between $1.3 and $2.1 billion in foregone taxation revenue in today\u2019s dollars, was eventually discontinued due to its ineffectiveness in creating below market rental housing and lowering rental construction costs.22<\/a><\/sup><\/p>\n\n\n\n

The U.S.\u2019s LIHTC program is like Canada\u2019s MURB program in providing tax incentives to attract private capital to finance affordable housing projects. But it differs in its prescriptiveness, governance, and tax-incentive design, which draws in more corporate and institutional rather than retail investor capital. By imposing thresholds for income and rent levels, along with a 15-year compliance period, the program has been successful in ensuring a steady supply of affordable rental housing that\u2019s privately owned. The effectiveness of the program is further enhanced because states are given the flexibility to tailor the program to meet regional priorities, such as Washington state\u2019s preference for projects that are located near mass transit.<\/p>\n\n\n\n

Adopting the U.S. affordable housing taxation playbook in Canada will require all orders of government to tweak or introduce new legislative or governance changes in how they deliver and fund housing, and housing-related infrastructure. The greatest shift will be required at the local government level. There, long-standing capital budgeting practices will need to modernize to leverage debt financing that\u2019s available from institutional investors.[1]<\/a> The crowding in of private capital, however, hinges on the federal government making the necessary changes to its tax code, as the quantum of benefits of similar tax code changes at the provincial level are insufficient for investors.<\/p>\n<\/div>\n<\/section>\n\n\n\n

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Federal Government<\/h3>\n\n\n\n

The federal government would need to enact tax code and governance changes to implement a low-income housing tax credit and a tax-free municipal bond regime in Canada. <\/p>\n\n\n\n

For tax-free municipal bonds, changes are required to the Income Tax Act<\/em> to exempt interest earned on municipal bonds. Guardrails would be needed to ensure bond proceeds are earmarked for housing related infrastructure projects, such as watermains and sewers. To encourage green infrastructure, the government could also impose a requirement that proceeds be used to build low-carbon infrastructure, such as district energy systems using waste heat. Both guardrails could be achieved by defining the circumstances when interest earned on municipal bonds is not income. For these changes to work, municipalities would need to develop borrowing frameworks, such as a social debenture framework or a green debenture framework, which specifies how bond proceeds will be used.<\/p>\n\n\n\n

Changes to the Income Tax Act<\/em> would also be required to create an investment tax credit for the financing of affordable housing, along with corresponding eligibility criteria of what constitutes affordable housing. To encourage the construction of greener homes, the Department of Finance could replicate the IRS\u2019s approach of defining a range and type of eligible projects. <\/p>\n\n\n\n

The final broad change that may be required at the federal level is the expansion of the Canadian Mortgage and Housing Corporation\u2019s (CMHC) mandate to administer the income and rent limit elements of a LIHTC program, if its current remit related to core housing need does not include these activities.   <\/p>\n\n\n\n

Provincial Governments<\/h3>\n\n\n\n

Canadian provinces do not have housing financing agencies but could leverage housing ministries or departments to administer the provincial components of an LIHTC program. The mandate of these ministries and departments may need to change to encompass all provincial-level elements of a program, such as setting housing priorities, scoring applications, allocating tax credits, and monitoring compliance.<\/p>\n\n\n\n

Municipal Governments<\/h3>\n\n\n\n

For decades, municipalities have been permitted to raise capital through bond issuances and loans to fund capital projects, but rarely for affordable housing.24<\/a><\/sup> This is partly because the federal government along with the provinces are the key funders of market and non-market housing programs, aimed at housing affordability and more recently at climate change. Ontario is the only province where municipalities are actively engaged in funding affordable rental housing, mainly government-owned community housing.25<\/a><\/sup> Funding for these initiatives is primarily paid for by revenue generated from municipal property taxes and user fees, and, in rare cases, municipal bonds, with the latter confined to the largest cities with a growing population and stable economic base, such as Toronto.<\/p>\n\n\n\n

We are not proposing municipalities adopt the U.S. municipal bond playbook wholesale, whereby municipalities directly fund affordable housing with bond proceeds.26<\/a><\/sup> Such a proposal may be unworkable in provinces that require public money to finance only public assets. Instead, we encourage municipalities, especially those in Ontario and B.C., to study the costs and benefits of paying for infrastructure with long-term public debt financing instead of development charges.27<\/a><\/sup> Our analysis of proposed and under construction housing projects found that removing the cost of infrastructure from the price tag of homes can potentially reduce the per-unit construction costs of new homes in the Greater Toronto Area and Metro Vancouver by an average of 20%.28<\/a><\/sup><\/p>\n\n\n\n

 Moving to a debt-financing model does not change who pays for housing related municipal infrastructure\u2013renters, homeowners and ratepayers. The conduit for this cost pass-through however changes from developers to municipalities. Because municipalities can borrow at a cheaper rate than developers or homeowners, the interest costs that are passed through are lower.29<\/a><\/sup> Fundamentally, the proposed change addresses a structural housing affordability problem that\u2019s rooted in having renters and homeowners of new construction pay for infrastructure costs upfront, rather than spreading the cost over many decades, through monthly utility fees.<\/p>\n\n\n\n

Public-debt financing can occur either as on-book or off-book financing. On-book financing requires municipalities to stay within their annual debt repayment limit, which is generally 25% of own revenue sources.30<\/a><\/sup> Off-book financing provides municipalities greater borrowing flexibility, as annual debt repayment limits are not applicable.31<\/a><\/sup> This form of financing, however, is more administratively complex, as municipalities would need to establish a municipal services corporation (MSC) or a public utility, and scope out the services they want to provide. The most common uses of MSC, or public utilities, are for water\/wastewater and local electricity distribution. Both types of corporations operate arms-length from municipalities and take on the public debt used to finance an infrastructure project, in addition to owning and operating the asset.<\/p>\n\n\n\n

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