The Canadian government is trying to cool the hot real estate markets in metropolitan cities such as Vancouver and Toronto, by rolling out new rules on mortgage lending. The most recent of these measures, are the rules implemented by the Office of the Superintendent of Financial Institutions (“OSFI”), on January 1st, of 2018.
The new rules introduce a new minimum qualifying rate or “stress test” for prospective buyers, with a 20% or greater down payment. Previously, a borrower with a down payment of less than 20% would have had to pass such a stress test. The new rules may also affect Canadians wanting to renew or refinance their mortgage. Furthermore, refinancing a mortgage will require you to qualify, according to the higher stress test rates, rather than the existing contractual mortgage rate. This will have the effect of decreasing the amount the borrower qualifies for. Ultimately this may mean individuals will have to settle for smaller loans.
What is a stress test?
A stress tests puts the potential borrower in a hypothetical situation to see whether they could still meet their mortgage obligations. Based on the borrower’s financial situation, lenders have to determine if the borrower would be able to pay their mortgage should interest rates spike in the future.
Uninsured mortgage consumers must now qualify using a new minimum qualifying rate. Potential borrowers will be tested against the greater of either the Bank of Canada’s five-year benchmark rate (i.e. now at 5.14%) or the rate offered by a lender plus two percent (2.00%). As noted, these rules affect borrowers with a down payment or total equity of 20% or greater or the purchase price of fair market value of the property.
What does the change mean?
Previously, a potential home buyer would qualify for a mortgage, based on the lenders posted or contracted rate. Now a prospective buyer must qualify at the higher rate, while actual mortgage payments will be paid at the lower contract rate. Therefore, a potential borrower will have to show that they can meet the obligations of the “stress test rate”, even though they will be paying the lender for the borrowed funds, at the lower contracted rate.
The biggest impact is expected to be felt by those already struggling to put together a down payment and qualifying for a mortgage. As the housing market in cities such Vancouver and Toronto are still hot due to high demand and a lack of supply, finding a cheaper place to buy which is the logical alternative, might not be that easy.
Arguably, these new rules were implemented as a safety measure for Canadians and Canadian banks, to protect the Canadian economy. Implementing tighter borrowing rules, is one way of ensuring borrowers are less likely to default on their mortgages. Beyond that, the intention is to keep Canadian debt levels from rising too high and therefore limit the number of foreclosures in the future.
Though this concept is not new, insured mortgages in Canada were already subject to a stress test, the new rules apply now also to uninsured mortgages. Bare these new rules in mind when shopping for a mortgage or upon mortgage renewal.
If you any questions about mortgage related stress tests, please contact our firm at (604) 688-4900, or email Paul Barbeau at paul@barbeau.co.