So this past week there was much discussion and reporting on the new mortgage rules. One of the primary reasons for making the changes is that Canadians currently owe $1.48 for every dollar of their disposable income, which is more household debt per capita than in the United States. And the argument that household debt is immaterial as long as the value of the house increases is no longer adequate as seen in the past 3 years in North America.
Because of the high debt to income ratio the government had 2 options:
- Raise Bank of Canada interest rates, which increases mortgage rates or
- Change the way people borrow money.
The second was the chosen direction and one that will in the long-term be seen as the wisest decision.
Unfortunately, the way in which it has been reported seems to be causing some confusion so we wanted to put it into simple terms.
Amortization Change - The amortization period will be changing from 35 years to 30 years. This will affect monthly payments and in turn how much you can afford to borrow.
For example*, a $400,000 mortgage under the old rules (35 yr Amm, 5yr term at 3.8% paid monthly) would cost you $1,723 per month. Change the mortgage now to a 30 yr Amm with the same term and rate your payments are $1,863 per month.
This will affect us here in the Lower Mainland much greater than all other Canadian regions (except maybe Toronto) due to the general affordability of the Lower Mainland. To put it into perspective though, not long ago the Amortization was a maximum of 25 years which would have seen a monthly mortgage of $2,067 per month. Also keep in mind that while interest rates may be on the rise in Canada, they are at record lows and are not expected to go up by more than 1% in the near future. Furthermore, the interest payments you will save by shortening your amortization are significant.
Refinancing from 90 to 85% - This change seems to be the one that is most misleading. The way the media is reporting this change makes it sound like you can only buy a home with a 15% deposit. This is not the case. You can still purchase a home for 5% providing you meet the other qualifications such as the 5 year fixed term interest rate parameter instituted last year. What this does change however is when you want to refinance your home in the middle of your term to get out some cash. Previously you could refinance and get up to 90% of the value of your home. The problem is that rather than using that money to renovate your home for instance, too many of us went out and bought cars, tv’s and other depreciating assets. Basically, we went out and spent a bunch of money on stuff that we really didn’t need and really couldn’t afford. The good news is that we can still refinance, it just means we can’t get back as much cash as we thought.
Home Equity Lines of Credit - The reality is that this change to the HELOC will not affect those getting into the market but for those that want to refinance their mortgage. For years now we (Canadians) have followed the American market of consuming more than we should. Buy a car, buy new furniture, go on a dream holiday all by refinancing and loading the debt onto the home rather than maintain a greater level of personal equity. Yes the numbers look great as for years now people have been saying the money is almost free but you have to realize that you will be paying for that 3 week holiday to France for the next 35 years. The $1.48 debt to income number is in part due to this. Seeing this rising ratio the Canadian Government has chosen to try reducing that amount by no longer insuring lines of credit with homes as collateral, such as home-equity lines of credit.
Therefore, HELOC’s are still available to homeowners but it counts against your 85% value now that the government is no longer insuring it. Again, this is just another protective measure to ensure we don’t accrue quite so much debt without the asset to back it.
Check out our blog next week when we examine how these changes specifically affect first time homebuyers.
Suzana Goncalves
*Calculations based on Select Mortgage Corp. online mortgage calculator.
