Impact of Lease Structure on Commercial Mortgage Approval in Ontario
When it comes to securing commercial mortgage financing in Ontario, many property owners and investors focus on the basics: property valuation, borrower credit, and income history. But an often-overlooked factor with outsized influence is lease structure.
The way your commercial tenants are leased—from term length to cancellation clauses—can make or break your approval, especially for mixed-use and income-producing properties.
This article explores how lease structure impacts commercial mortgage approval in Ontario, with a focus on the nuanced requirements of banks, B-lenders, and private lenders. Whether you’re financing a warehouse, artist studio building, or small retail plaza, understanding lease dynamics can save you time, money, and rejections.
Why Lease Structure Matters to Lenders
Lenders don’t just lend on the building itself—they lend on income stability. Lease agreements are a proxy for this stability. A lender wants to see that the building will continue to generate reliable income, even if the borrower exits the picture.
Leases that are short, easily cancellable, or poorly documented make lenders nervous. They raise questions like:
Will tenants stay?
Is there risk of sudden vacancy?
Could revenue drop before the loan matures?
The answer to each of these influences your interest rate, down payment, and whether you're approved at all.
Term Length: Month-to-Month vs. Long-Term Leases
Month-to-Month or Short-Term (1-Year or Less):
Viewed as high-risk.
May require stronger personal guarantees or higher interest rates.
Reduces overall loan-to-value (LTV) ratio.
3-5 Year Leases:
Considered stable.
More favorable terms with A-lenders and credit unions.
Lenders may capitalize a portion of lease revenue into the property’s appraised value.
In Ontario, many tenants operate on yearly leases with an automatic renewal unless terminated—often 60 days notice. This can look stable to a landlord, but from a lender's view, a 60-day out clause means instability.
Termination Clauses and "Escape Hatches"
One of the biggest hidden pitfalls in commercial leasing is the termination clause. Many Ontario leases—especially those for creative or shared commercial spaces—allow for either party to terminate with 60 or 90 days’ notice.
This means that what appears on paper to be a 3-year lease can evaporate with a couple months' notice. To lenders, this is only marginally better than month-to-month tenancy.
Red Flags for Lenders:
Lease can be terminated by tenant with short notice.
Lease lacks clear penalty for early termination.
Leases are handshake agreements or poorly documented.
Rent Roll and Consistency
The "rent roll" is a list of tenants, what they pay, and their lease terms. This is a central document in the mortgage process.
Desirable Rent Roll Traits:
Diversified tenants (no single tenant dominates income).
Long-term leases aligned with loan term.
Regular payment history.
No recent mass vacancies or evictions.
Inconsistent rent or deferred payments can hurt your position even if your lease paperwork looks good.
Ontario Commercial Lease Law Considerations
Ontario’s Commercial Tenancies Act gives landlords significant flexibility, but this cuts both ways. For lenders, the lack of strict enforcement on tenant obligations (compared to residential) can introduce risk.
Key Legal Notes:
Commercial leases are less regulated than residential; more is up to contract.
Lease agreements should include enforceable terms around duration, termination, and penalties.
Leases should be registered (in some cases) to improve enforceability.
Banks are more likely to approve mortgages where legal risk has been mitigated through tight contract wording.
Lease Structure Impacts on Appraisal
The appraisal process evaluates the income approach to value—especially for income-producing commercial properties. Lease structure plays a direct role here.
Positive Appraisal Factors:
Net leases (tenants pay property taxes and maintenance).
Long-term leases with stable tenants.
Low vacancy history.
Negative Appraisal Factors:
High vacancy rate.
Multiple short-term or informal leases.
Tenant mix includes unstable or unproven businesses.
In Ontario’s hot mixed-use and downtown commercial zones, these factors can affect property value by tens or hundreds of thousands.
Bank vs. B-Lender vs. Private Lender Requirements
A-Lenders (Big Banks & Credit Unions):
Require professional leases, ideally 3+ years.
Often reject properties with month-to-month tenants.
Require full rent roll and tenant financials in some cases.
B-Lenders:
More flexible on lease structure.
May accept short-term leases but compensate with higher rates or lower LTV.
Accept properties with higher vacancy if future lease-up is realistic.
Private Lenders:
Least concerned about lease terms.
Focus more on exit strategy and equity.
Useful for bridge financing until lease structure improves.
Creative Properties and Artist Studios: A Special Case
In Ontario cities like Hamilton, Guelph, and parts of Toronto, there is a growing trend of small-scale commercial properties hosting artist studios, maker spaces, or hobby units.
These often operate on:
Verbal or handshake agreements.
Informal rent structures.
Communal/shared-use leases.
This lease environment, while culturally rich, is difficult to underwrite. A bank won’t value those income streams as highly—if at all. To improve mortgage viability:
Convert leases to formal 2-3 year terms.
Use clear rent schedules.
Show track record of rent collection.
Tips to Improve Lease Structure Before Applying
Convert Tenants to Fixed-Term Leases: Offer small discounts or improvements in exchange for signing a 3-year term.
Avoid One-Sided Termination Clauses: If a termination clause exists, it should penalize early departure.
Hire a Commercial Lease Lawyer: Even basic leases should be reviewed for enforceability.
Formalize Informal Arrangements: Handshake agreements should be converted to written leases.
Consolidate the Rent Roll: Present a clean, unified picture to the lender.
Get Professional Advice
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Conclusion: Lease Quality Is Mortgage Leverage
In Ontario, commercial property owners often underestimate how much their tenants’ lease terms impact financing. But lenders look at your leases the way investors look at cash flow: as the lifeblood of the property.
The better your lease structure, the better your mortgage terms. More importantly, the better your chances of approval when buying or refinancing.
Whether you’re trying to upgrade from private financing to a bank mortgage or prepare a building for sale, improving lease structure is one of the highest-ROI steps you can take.
If you own commercial property in Ontario and are considering financing, start with your lease agreements. They could be your best friend or your biggest obstacle.
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