As we begin 2018, one of life’s biggest financial commitments — getting a mortgage — has become a little more confusing. New Canadian mortgage rules have come into effect, and for many Manitobans who have been looking to buy, renovate or refinance, it could also mean they’ll have to rethink those plans.
What are the new Canadian mortgage rules?
As of January 1st, 2018, the Federal government is increasing the ‘stress test’ — the test to see how much you can actually afford to borrow. With Canada’s household debt to income ratio at a record high and the Canadian economy at higher risk, the new rules will attempt to control the amounts that average Canadians are overextending their borrowing.
Under the new rules, everyone will be required to qualify for a mortgage at higher interest rates. Prior to this, the rule only applied to people who had less than a 20 per cent down payment. Now, it includes everyone – even people with more than a 20 per cent down payment or those with large amounts of equity in their existing property.
Why is the stress test being increased? The idea is that it helps ensure that borrowers will be able to afford their mortgage in the long-term. If you can currently afford to make payments at the higher rate used for the ‘stress test,’ there is a much better chance that you will continue to afford future payments if rates increase. That puts less pressure on the borrower and lower risk on the lender.
Keep in mind that your actual mortgage payments may still be based on a lower rate, but you must qualify for the higher rate.
How does the ‘stress test’ work?
The stress test will require financial institutions to qualify their borrowers at the higher of the following two rates:
In this case, you would be required to qualify based on the financial institution’s higher rate of 5.5 per cent. You would then make mortgage payments based on the contractual rate of 3.5 per cent.
How will the changes impact me?
This really boils down to having less purchasing power. You may still qualify for a mortgage, but you might not receive as much as before.
For example, if you’re in the market to buy your first home for $500,000, you might have to lower your price bracket closer to $425,000.
For those looking to upgrade to a larger property, say from three bedrooms to five, they might only qualify for 4-bedroom options in their neighbourhood.
Or if you’re hoping to refinance an existing mortgage by utilizing the equity in your home for another purpose (such as starting a business or doing major renovations), you might not free up as much capital as expected.
Now, if you’re renewing an existing mortgage with your current lender, breathe easy, as financial institutions are not required to apply these rules in those situations. But if you are refinancing or shopping around for a better rate, then the new rules will come into effect.
Does this apply to credit unions, too?
Here’s the good news. Not all financial institutions are impacted by these new rules — and that’s where credit unions have a helpful advantage.
Right now, Assiniboine Credit Union will not be applying a ‘stress test’ to members who have at least a 20 per cent down payment or equity in their property.
If you are mortgage shopping, this could make a significant difference in your home buying plans, renovation or refinancing plans. By qualifying based on lower mortgage rates, members would be able to access up to 20 per cent more purchasing power compared to other financial institutions.
Example: How this could impact you in the real world
As an example, let’s say that a Winnipeg couple is looking to buy a new home and needs to qualify for a mortgage. They’re hoping to find a great property that doesn’t need a lot of renovations and that has a little extra room to grow their family. They have:
- A joint income of $120,000
- Monthly car and credit card payments totalling $1,000
- Expected heat and property taxes of $1,000
With a 20 per cent down payment, the couple would qualify for the following amounts (approximated based on the below rates):
Because the couple can cover a 20 per cent down payment, the credit union does not have to subject them to the stress test. That means they could qualify for the lower 3.34 per cent rate and a $490,000 mortgage. That’s $80,000 more than if they were given the Bank of Canada rate and $90,000 more than the bank.
Two main scenarios would prevent them from accessing the lower rate…
The first would be if the couple didn’t have a 20 per cent down payment. The second would be if they didn’t go to the credit union. In both of these alternate scenarios, the new mortgage qualifying rules would come into play, and the 5.56 per cent financial institution rate would be higher than the Bank of Canada’s 4.99 per cent rate. That would mean the couple could only qualify for $400,000, significantly lowering their buying potential. They’d have to consider smaller properties, fixer-uppers or even move their search to other neighbourhoods.
What if I don’t qualify for the lower rate?
Clearly, the stress test could have a big impact on your purchasing power. But if you don’t qualify for the lower rate, it doesn’t mean the end of your new home dreams.
The new rules could actually prevent new buyers from stretching their budgets too far and being locked into larger mortgages. And if the housing market cools, lower home prices could bring prices back into range.
No matter what, it’s important to consider all your options. Make sure you:
- Talk to your financial institution about all available options
- Account for all liquid assets (cash) and applicable property to try and reach the 20 per cent down payment level
- Consider waiting and saving up for a larger down payment
- Take into account other factors than just the rate, including the term, pre-payment privileges and penalties
As a final tip, calculate your affordability at two per cent higher than the mortgage rate that any financial institution is offering you. This will help you live well within your means and keep your long-term housing expenses in check.