Possible Valuation Issues with Life Lease Housing
Évaluation immobilière au Canada
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By Jane Londerville, Associate Professor and Interim Chair,
Marketing and Consumer Studies Department, University of Guelph
Life lease housing is a relatively new form of tenure in Canada, but a rapidly growing one in Ontario and the western provinces. It is widely used by the nonprofit sector to increase the range of housing options for the 55+ market. A life lease is a legal agreement that permits the purchaser to occupy a residence for life (or until they no longer want to or are capable of living there) in exchange for an initial lump sum payment. They are also responsible for monthly payments to cover the ongoing operating expenses (similar to a condo fee) and, in some cases, rent as well, depending on the size of the initial payment.
Life lease is a hybrid type of tenure. In some aspects, life lease holders appear to be owners. They are responsible for repairs to their own units, providing their own appliances and paying the property taxes associated with their unit. The monthly maintenance fee they pay is used to fund operating costs for the common areas and to put aside a reserve fund for capital replacements. In other ways, life lease residents are like renters. The operating budget is set by the owner of the building and may be presented to the residents, but they have little input into how the building is managed. Most complexes in Ontario are set up as condomnium corporations, but the Board of Directors is chosen by the developer and frequently does not have any residents on it. The owner of the building itself is still the developer, since the residents have only purchased the right to occupy a unit, not title to the unit itself.
Residents of life lease developments are active and healthy seniors; these are not complexes for seniors who need help with dailyliving. There are not extensive services offered in most complexes (no meals or health professionals on staff usually). If residents eventually need some additional personal care to function in their unit, they need to hire this assistance privately.
In design, most life lease units are similar to condominiums in the same locale. They are self-contained units with one or two bedrooms. The buildings have amentities comparable to nearby condo buildings. A study done for the Ontario Ministry of Municipal Affairs and Housing (Simmons, 1999) found prices of life lease units in London and Toronto to be similar to those for comparable condo units.
Currently, all life lease housing developments in Canada are located west of the Ontario-Quebec border. The exact number of life lease projects in Canada is unknown; the number was estimated at more than 200 in 2003 (Lumina Services Inc., 2003) and approximately 300 in early 2007 in a CMHC study of life lease issues (GGA Management Consultants, 2007). As of 2005, the Ontario government estimated that there were 125 projects (8200 units) in Ontario alone. These numbers are estimates, since there is no requirement for life lease developments to be registered, but it indicates an increase of at least 40% in the number of developments over a three-year period. Given the projected growth in the senior population over the next 20 years, and the general good health of seniors in Canada today, the demand for this type of development is likely to continue.
Manitoba is the only province to have enacted legislation specific to life lease housing: the Life Leases Act, December 1999, amended June 2005. This legislation specifically designates that life lease residents are renters and are subject to the protections and regulations of other renters in the province. Some regulatory mechanisms apply in other provinces within existing legislation not specifically developed for life lease housing. Other than in Manitoba, this leaves residents with some vulnerability to various issues.
One of the reasons for the rapid growth in this form of tenure is the advantage to the developer in financing the development. Life lease interests are presold to prospective residents who submit a deposit. These funds can be used as equity in the development to secure construction financing (some restrictions apply in Manitoba). Once the units are complete and occupied, residents complete the purchase and the additional funds are used to pay off the construction loan. The use of this form of tenure then leaves the developer, usually a non-profit group, with no financing on the property.
Forms of life lease housing
There are various forms of life lease arrangements in place across the country. This article concentrates on the primary form of life lease used in Ontario as the basis for the discussion, since it creates the most issues related to valuation. Life lease purchasers in Ontario pay ‘market value’ for their life lease interest. When they move out of the unit, they sell the life lease interest to a new purchaser for whatever market value is at that time. The sponsor of the development often charges an administrative fee of 3-10% for the transaction and may maintain a waiting list of interested purchasers. The occupant of the unit bears the risk of any loss in value of the unit.
In Alberta, some developments require that the senior sell the unit back to the developer at then current market value as determined by an appraiser, less an administration fee. In some BC developments, residents sell their units through the sponsor; they are guaranteed a minimum of 90% of their initial investment, but the maximum they can earn is 110%
There are four other basic forms of life lease models other than the market value model:
- Zero Balance – The resident pays an amount up front designed to prepay rent for his/her expected remaining life. No residual value is repaid to the occupant or the estate at the time of departure or death. Consequently, the purchase price for an interest in this type of life lease is least expensive relative to other forms.
- Declining Balance – The resident pays an amount up front based on his/her life expectancy. If they leave, they or their estate is paid an amount which declines each year to zero at the end of specific period of time.
- Return of Capital – The amount paid to the senior or their estate when they leave the unit is the same as that paid at the time of initial occupancy. This is in essence a zero-interest loan to the sponsor for the time of occupancy of the unit.
- Price Index adjusted – The amount paid to the senior or the estate increases based from the initial cost based on an annual price index factor applied, for instance, the Consumer Price Index (CPI). This has certain risks for the sponsor if real estate values are increasing more slowly than general inflation. They may have difficulty replacing the money paid out through a contribution from a new occupant.
The original concept for life lease housing was the zero balance model. It was considered to be a way to provide more affordable housing for seniors and with a predictable price tag over their remaining life. It had the added advantage that there was no property left for the estate to deal with when the senior died. However, seniors were not comfortable with this model because of the risk of paying for an expected 10 years of occupancy with the possibility of dying early and ‘losing’ the money spent. There are few, if any, life lease developments in Canada that have used this model. While originally conceived for moderate income seniors, most life lease developments are now targeted toward middle to upper income residents. Only in Saskatchewan are there developments which restrict the income that seniors may have to qualify for entry.
The declining balance model compensates to some extent for the problems with the zero balance. If the senior dies or leaves for medical reasons early on in their tenure, they or their estate gets some portion of the original capital back. This model is slightly more palatable, but for seniors anxious to leave a legacy and who are used to appreciation gains from real estate, it is still not very appealing.
In most Manitoba life lease developments, residents of a new project pay upfront costs for their life lease interest in the range of 25%-50% of the cost of the unit; they then pay rent while they occupy the unit. The sponsor uses the upfront funds as equity and, once a sufficient number of units are spoken for, they arrange with a private lender for a mortgage loan to cover the balance of construction costs. While living in the complex, the residents’ monthly rent covers payment on the mortgage, property taxes and other operating costs. When they vacate their unit, they get back their initial investment. Legislation requires these initial deposits be held in a separate fund.
The life lease holder whose unit value is related to its market value is greatly concerned with ensuring the building is well managed, that there is continuing demand and a waiting list for units, and that, ideally, the market value of the life lease interest increases over time (or at least does not diminish). In most complexes, however, the sponsor is the only entity that has any real control over how the building is managed.
The sponsor has the right to review the purchaser to ensure they fit the criteria for the building. There is always an age restriction (55+ or 65+), but some residences also cater to a specific ethnic or religious group. While it is not legal to discriminate on this basis, prospective purchasers are sometimes discouraged from buying on the basis that they would not feel comfortable in the building. This type of targeting of the building reduces the pool of potential purchasers for each unit. It may lengthen the time on the market and could affect the price achievable relative to a comparable condo unit with no market restrictions.
Life lease holders have the right to occupy their unit and may have their life lease interest registered on title. However, a study done for CMHC found that, although some residents had been advised by their lawyer to register their interest, most had not done so because of the time and expense involved. (GGA Management Consultants 2007).
The absence of legislation specific to life leases which would protect and clarify both consumer and sponsor rights can lead to value implications for the resident. There is no legislated requirement in Ontario for life lease developments to maintain a capital reserve, for example. Part of the due diligence a condo purchaser undertakes is to examine the health of the reserves by looking at the most recent reserve fund study. This information is only available to the purchaser of a life lease unit, if the owner has done a study and is willing to release the information. As well, life lease units are not protected under the Tarion New Home Warranty program because they are considered multi-family properties. This reduces the value of the unit relative to a new condominium unit with warranty coverage. It also means the purchaser’s deposit is not protected.
Other issues related to life lease housing include:
- As noted above, the lack of legislation governing life lease in most provinces; this is similar to the 1960s before condominium legislation was introduced. The implications of this are: no rescission period for purchasers who change their mind, no mandatory registration of life lease interest on title, no required resident representation on the Board, rent control legislation does not apply in most cases to the increase in the monthly maintenance fee, deposits may be used by developer to fund construction, there are no reserve fund requirements, no disclosure requirements prior to marketing the units, no restrictions on the term of the lease or method of sale of interest and/or other options for termination of the lease by either side, no construction warranties.
- If the sponsors need long-term financing to cover some development costs, they will prefer either to not have resident interests registered on title or, if they are, to have them subordinate to the lender’s debt. However, this puts life lease holders at risk as the mortgage may take priority over the life lease holder’s interest and their investment could be lost.
- Managers of life lease complexes should consider creating a minimum number of spaces on the board for residents; this is likely to increase resident satisfaction and, therefore, probably increase resale demand and value; these positions could be non-voting or a minority of the Board seats, but would give residents input into the management of the building.
- Seniors should be seeking professional advice before purchasing a life lease interest. The Manitoba legislation requires that life lease developers give this recommendation in writing during the marketing phase of development. Given the complexity of this type of investment, it is important that prospective purchasers are fully informed about the nature of what they plan to purchase.
- Some of the reluctance by lawyers and accountants about recommending the purchase of a life lease interest is based on lack of understanding of how life lease works. A website and other sources of life lease information, operated by an independent body, would greatly assist in this education process. The websites that currently exist tend to be operated by life lease consultants who may not be perceived to be totally objective.
Prospective developers of life lease housing, many of whom are non-profit groups with little development experience, need to:
- Carefully choose a location that will appeal to prospective residents and is accessible to services required by this age group.
- Carefully consider what services to offer in the new building. The capital and operating cost of these needs to be borne by the residents; if they are too expensive, residents may balk at paying for them; if they have to be discontinued or are not introduced in the first place after being promised in the marketing phase, some residents will be dissatisfied.
- Carefully choose the design for the building and units, in conjunction with someone familiar with senior’s issues and preferably with a focus group of potential purchasers.
- Inform themselves fully (and very early in the planning process) about the intricacies of obtaining financing for the construction of a life-lease project.
To date, there have been few problems with life lease developments, although some developments have not been successfully launched. However, given their hybrid tenure nature and the lack of legislation covering this form of housing, the possibility of a negative value impact for a life lease owner is there. In Ottawa, a group of seniors had to wait some time to have their deposits returned when not enough units could be sold to proceed and the developer had spent the deposit money on planning and site preparation (Tencer 2004). That said, the 2007 CMHC study by GGA Management Consultants found a very high level of satisfaction with life lease housing among residents and a strong feeling of community in these developments. It is likely to be a form of tenure that continues to grow.
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