Exploding real-estate prices in Canada, fuelled by the pandemic and low interest rates have policy makers in Canada making changes to cool the market. How do these changes effect you? The changes are proposed for June 1st, 2021, so gives consumers in the know just enough time to make changes before they go into effect.
The changes are set to effect “uninsured mortgages”. Those are mortgages with 20% or more down payment, investment properties and refinances. It will not effect those purchasing with less than 20% downpayment that are required to have default insurance.
The Office of the Superintendent of Financial Institutions (OSFI), proposed that the stress test bench mark for “uninsured” mortgages change from the greater of the contract rate on the mortgage plus 2% or a rate that is equal to the big bank’s current five-year posted rates, which is currently 4.79%. The proposal is to increase the stress test rate to 5.25%. This represents a further squeeze on borrowing of about 5%.
Banks lend on ratios, Gross Debt Servicing GDS, and Total Debt Servicing TDS. These ratios are a product of debt to earnings. Each time there is a change to the stress test, ie increase from the 5 year fixed borrowing rate, pre-stress test, to the proposed 5.25%, you need more income to offset the debt side of the equation.
Who do the proposed changes effect the most, and what are the benefits? Let’s look briefly at the benefits. I have long talked about becoming a “Super Saver” and how Canadians who are saving and thriving handle their finances differently. It is clear that if you manage your total debt servicing, meaning that you are not spending to the maximum of your lending ability you will be able to save. Pre-stress test that was a value of 25-30% TDS and you would be able to save 10% of your income or more. Policy manipulations that were originally designed to ensure borrowers could afford rates at renewal, have nearly tripled in today’s rates. The positive is that homeowners debt to income ratios are being controlled so savings should increase. The current 5 year fixed is in the 2.24% range, previously what was used to qualify and the proposed changes would make you qualify at 5.25%. The negative is that for some home owners I work with here in BC, that means they can take out less equity from their home for renovation, purchasing a second property or for refinancing to pay off debt. It also means that homebuyers may have to add a co-signer to their mortgage to qualify. Watch my future blogs for “Why you should never co-sign a loan.
From my years of working with families in BC, and watching home prices soar and incomes not match inflation, I am most wary of the trap that they may be lead into with this new policy.
If home owners have not already refinanced high interest rate debts into ultra low rates, they may no longer qualify to get additional money out of their homes to do so with the new policy.
They have gained equity, that they want to use, but with the stress test bench mark climbing and their incomes remaining the same, the ratios will prevent them from consolidating debts. This leads them further into the “loop” which I have written many articles on. You are just able to pay your mortgage and debts but not getting ahead. In this case the banks win with you having high interest rate credit cards, and are trapped by not being able to consolidate them.
The benefit that was desired was to cool the red hot market place, and some suggestions for that would have been to improve money-laundering enforcement, put in place some policies to prevent blind bidding, increase vacancy taxation, or try to curb short-term home flippers with capital gains. The underlying issue seems be affordable housing and addressing these issues. Updating zoning laws to accommodate coach houses, duplexes and increase supply, while suppressing the above negatives. Instead we may have effected the common family trying to stay afloat with stable salaries and rising costs, without the ability to access equity, or have to purchase with a co-signer.
You still have time to review your mortgage. Use your mortgage as a financial tool to consolidate high interest rate debt.
Perhaps switch to a mortgage with a line of credit feature that will allow for future purchases without having to prequalify to access your equity. Get a pre-approval if you are thinking of purchasing.
Start with a review of what you have. I am happy to answer your questions and see how you can set yourself up for future changes as we negotiate this new world.