Executive summary
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One of the most important financial decisions that Canadian households make is the decision to own, rather than rent, their homes. For younger households, homeownership can be a financial challenge, as mortgage payments often account for a significant portion of household income. For older households, their homes often represent a large asset that provides a substantial implicit, tax-free income and one that may be eventually liquidated and turned into income. Therefore, the decision to own is one that affects household finances throughout the life cycle. It is simultaneously a decision about how to provide shelter and where to invest household savings in order to support future consumption.
Recent analyses suggest that the tendency of Canadians over the last four decades has been increasingly to own rather than rent. However, these aggregate statistics mask diverging trends across income classes. Rates of homeownership have fallen among young lower-income households, but have risen for young upper-income households. The picture that emerges, therefore, is that of a generalized trend towards increased homeownership, but one in which gains in homeownership may be concentrated toward the upper end of the income distribution.
This paper investigates the degree to which changes in demand-side, economic incentives account for the divergent trends in homeownership across the income distribution. In theory, the decision to own depends largely on the cost of owning relative to renting an equivalent dwelling, household income, and household wealth. If these economic incentives have shifted differentially across the income distribution, then part of the divergent trends in homeownership between lower- and upper-income households may be traced to these standard economic forces. If these trends are not accounted for by these demand-side factors, then it may be necessary to expand the scope of future work to the supply-side of the market.
This paper also takes into account a range of socio-demographic factors that may also underlie these divergent trends. Since 1981, the demographic profile of households has shifted away from couples with children and towards single persons who are less likely to own, and this shift has been most pronounced amongst younger lower-income households.
By testing the association between the economic and demographic characteristics of households and the decision to own across the income distribution, this paper provides two types of information. First, it assesses the degree to which economic incentives associated with the decision to own are able to account for the divergent trends in homeownership across the income distribution. That is, are these changes simply a reflection of the changing nature of the demand side of the housing market? Second, if these economic forces cannot account for these divergent trends in homeownership, the evidence would suggest that a substantial structural shift has taken place in the housing market which has had a differential effect across the income distribution. This being the case, future research would have to push beyond the standard economic incentives associated with the decision to own a home.
What are the overall trends in homeownership?
Between 1981 and 2006, Canadians increasingly chose to own, rather than rent, their homes. Over this period, homeownership in Canada increased by 7 percentage points, from 62% to 69%. This trend would likely have been even stronger if it were not for the tendency for Canadians to delay family formation, which often coincides with the purchase of a first home.
Although homeownership has become an increasingly popular alternative to renting, this trend is not universally true of all households. For couples aged 20 to 39 with children in the bottom income quintile, homeownership fell from 47% to 35% between 1981 and 2006 while, for young couples with children in the top income quintile, homeownership increased from 88% to 94%.
Non-family individuals have also turned progressively towards owning. This is true of both lower- and higher-income households in this group, but the trend is stronger for higher-income households. Young non-family individuals aged 20 to 39 in the bottom income quintile saw their rate of homeownership rise from 9% to 17%, while the same type of household in the top income quintile saw the rate of homeownership rise from 38% to 60%.
What factors are associated with the decision to own?
As expected, households are more likely to choose to own their homes when the cost of renting relative to owning is higher, a finding which suggests that rental housing and owner-occupied housing are substitutes. However, this is the case only for lower- and middle-income households. For households in the top income quintile, there is no association between the relative cost of renting and homeownership. There is little evident interaction between the rental and owner-occupied housing markets at the top end of the income distribution. Households are also more likely to own when the house price-to-rent ratio is higher. A rising price-to-rent ratio is consistent with rising expected gains in house prices that would make housing a more attractive place to invest household savings. Not surprisingly, households are less likely to own as the ratio of mortgage-carrying costs to income rises.
It is also the case that households with higher permanent incomes and sufficient wealth for a standard down payment are more likely to own. This is consistent with the fact that owning a home provides a greater tax advantage for higher-income homeowners with higher marginal tax rates. It is also consistent with borrowing constraints (i.e., minimum down payment requirements) negatively affecting the ability of households to finance a home.
To what extent do economic factors account for the differing trends in tenure choice across income quintiles and household types?
After accounting for standard demand-side economic incentives, by and large the trends in the data remain. Lower-income households in relative and, at times, absolute terms are less likely to own relative to higher-income households. There is an apparent structural change in the housing market that cannot be fully accounted for by demand-side factors.
Controlling for demand-side incentives reveals an important change in the housing market that occurred between 1981 and 1986. Over this period, there is a significant decline in the probability of owning a home that persists to the end of the study period.
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