Financing a 5+ Unit Building in Canada | Mortgage Guide

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Commercial vs Residential Financing: A Major Distinction

In Canada, the boundary between residential and commercial financing sits at five units. A one-to-four-unit building can be financed with a conventional residential mortgage, insured by CMHC, Sagen, or Canada Guaranty if the down payment is less than 20%. Once a building has five or more units, the rules change dramatically. The financing falls under the commercial or multi-residential segment, with analysis criteria, rates, and conditions that differ significantly.

Down Payment Requirements and CMHC Multi-Unit Financing

The minimum down payment for a five-or-more-unit building is typically 20% to 25% from conventional lenders. However, CMHC offers a specific program for multi-unit rental buildings, the MLI Select program (formerly the Multi-Unit Mortgage Insurance program), which allows a loan-to-value ratio of up to 85%. This program requires meeting specific criteria, particularly regarding energy efficiency, accessibility, and rent affordability. The CMHC insurance premium for this type of product varies depending on the loan-to-value ratio and can be added to the loan balance.

Income-Based Valuation

Unlike a residential property valued primarily through the comparable sales method, a five-or-more-unit building is valued using the income approach. The appraiser calculates the net operating income (NOI) by subtracting normalized operating expenses from effective gross rental income. A capitalization rate, determined by comparable sales in the local market, is then applied to establish value. For example, a building generating an NOI of $100,000 in a market with a 5% capitalization rate would be valued at approximately $2,000,000. Normalized expenses typically include property taxes, insurance, maintenance, management, owner-paid utilities, and a vacancy provision (usually 3% to 5% of gross income).

Lender Eligibility Criteria

Minimum debt service coverage ratio (DSCR) of 1.10 to 1.30 depending on the lender
Down payment of 20% to 25% (or 15% with CMHC multi-unit insurance)
Mandatory certified appraisal based on the income approach
Phase I environmental assessment for larger buildings
Building inspection by a commercial building specialist
Borrower's financial statements and positive personal net worth

Quebec-Specific Considerations

In Quebec, multi-unit building investors must contend with the Tribunal administratif du logement (TAL) rules on rent setting and increases. Rent increases are governed by the annual indices published by the TAL, which can limit projected revenue growth. Lenders take this into account in their analysis: they generally use current rents rather than potential post-renovation rents, unless the borrower can credibly demonstrate the planned improvements. Additionally, the Act Respecting the Legal Publicity of Enterprises requires companies acquiring buildings to be registered with the Registraire des entreprises du Québec. Mortgage brokers who assist their clients with these transactions must understand these particularities to present strong files to commercial lenders.

Frequently Asked Questions

Why is a 5+ unit building considered commercial?

In Canada, lenders and CMHC classify one-to-four-unit buildings as residential and five-or-more-unit buildings as commercial or multi-residential. This classification leads to different requirements for down payment, interest rates, and eligibility criteria, as risk is assessed primarily on the building's financial performance rather than the borrower's personal income.

What is the minimum down payment for a 5+ unit building?

The minimum down payment is typically 20% to 25% depending on the lender and the file profile. However, CMHC's MLI Select mortgage insurance program can allow financing up to 85% of the building's cost, reducing the down payment to 15%, provided strict eligibility criteria are met, particularly regarding energy efficiency and accessibility.

How do lenders evaluate a multi-unit building?

Valuation relies primarily on the income approach, which calculates net operating income (NOI) by subtracting operating expenses from gross rental income. The capitalization rate applied to this NOI determines the estimated building value. Lenders typically commission an appraisal by a certified appraiser who is a member of the Ordre des évaluateurs agréés du Québec (OEAQ).

Are interest rates higher for commercial financing?

Yes, interest rates for commercial mortgages are generally 0.50% to 2.00% higher than conventional residential rates. This spread reflects the increased risk perceived by lenders. Rates vary based on the DSCR, building quality, location, and the borrower's financial strength.

What additional costs should I expect for a commercial purchase?

Beyond the usual costs (notary, transfer duties, appraisal), a commercial purchase often involves Phase I environmental assessment fees ($1,500 to $4,000), detailed technical inspection fees, higher legal fees for commercial lease review, and potentially commercial mortgage brokerage fees. Total closing costs can represent 3% to 5% of the purchase price.