Anatomy of mortgage changes
Updated: Mar 31, 2019
There is little doubt that housing sales have slowed down in the past year, due in large part to stricter mortgage regulations. Part of those regulations is a mortgage stress test that requires borrowers to qualify for an interest rate that’s at least 200 basis points higher than the contracted rate. Those in favour of the stress test saw it as a way to improve housing affordability by thinking it would result in falling home prices, as well as protecting homeowners from potentially higher interest rates at renewal.
While there were some house price reductions, there was also a major slowdown in house sales, which, one could argue, has helped fuel a slowing economy.
The first round of mortgage rule changes came into effect in 2016, then in January 2018, more changes were introduced, including using the stress test to qualify for uninsured loans. This had the greatest impact. The next month, in February, sales declined in greater Toronto by 35% from those recorded in February 2017. This past month (February, 2019) housing sales in greater Toronto were even 2.4% lower than a year ago.
Housing sales in greater Vancouver were even weaker, with February 2019 sales 33% lower than the same month in 2018. In fact, February 2019 sales are 43% lower than the 10-year average for sales in February.
Evan Siddall, who heads Canada Mortgage and Housing Corporation (CMHC), believes the stress test is bitter medicine that is working fine. Siddall credits the stress test for lowering housing prices. His comments were based on the stress test being introduced to lower housing prices; however, Carolyn Rogers, the Assistant Superintendent at OSFI, said something different in her speech to the Economic Club of Canada.
She explained, the stress test "was designed to target mortgage underwriting standards.” In her words, the test was intended to provide a safety buffer so that borrowers do not "stretch their borrowing capacity to its maximum.”
Is it plausible that OSFI and the CMHC had two different goals? Maybe. OSFI’s goal did indeed lower high-risk lending somewhat as reported by the Bank of Canada. House prices did drop slightly.
It appears the government may have overshot its mark with the stress test, and the slowdown in the housing sales may have been an unintended consequence.
Many housing and mortgage industry voices started to lobby the government -- some believed the stress test was working fine, other’s say the impact has been devastating to home buyers, especially first-time homebuyers.
CIBC economists, Bejamin Tal and Royce Mendes predicted in November, 2018 that the housing market would be a drag on Canada's economic growth in the coming year. Residential investment accounts for 7.5% of Canada's economy.
"It was a good run while it lasted, but the sun has officially set on the days of heady housing market growth fuelling Canada's national economy," Tal and Mendes wrote. "And that could be bad news because housing investment is more important to Canada's economy "than at any other time on record," they added.
Two ideas emerged from various stakeholders and associations -- lower the stress test threshold that requires borrowers to qualify at least 200 basis points above the contracted rate; and/or reintroduce the 30-year amortization for CMHC insured mortgages.
The Liberal government introduced the following two measures in their recent budget announcement to address the issue of housing affordability and first-time home buyers.
Home Buyer’s Plan Withdrawal Increase.
Effective immediately, first time home buyers can now withdraw up to $35,000 from their RRSP, tax free, up from $25,000, for a down payment. If you have a co-borrower, that total could be up to $70,000.
A first-time homebuyer, as defined by the Canada Revenue Agency, allows repeat homebuyers to also be classified as "first-time” if they or their spouse haven’t occupied a home, they owned in the prior four years.
Funds must be repaid over a 15-year period or the money gets added to your income for tax purposes. Starting in 2020, those who separate from a spouse or common-law partner will get to use the Plan, even if they’re not a first-time buyer.
First Time Home Buyer Incentive
Billed as a "shared equity mortgage”, the government will lend first-time home buyers’ money to buy a home. According to the budget document, this new incentive "enables homebuyers to reduce the amount of money required from an insured mortgage without increasing the amount they must save for a down payment.”
The government has earmarked $1.25 billion over three years, administered by Canada Mortgage and Housing Corp. (CMHC), to provide up to 5 % of the cost of an existing home and 10% of a new home through what amounts to an interest-free loan to be repaid when the property is sold.
Borrowers must have a down payment of at least 5% -- but less than 20% -- and a household income under $120,000.The insured mortgage plus incentive, combined, cannot be greater than four times the participants’ combined annual household incomes.Condo purchases are allowed.The program is expected to start in September 2019 with further details to come this year.If you use it, the government will share in price gains or losses when you sell. (The government hasn’t released many details on this yet)While the Department of Finance has not commented on this, the program is called a "shared equity mortgage”, so it may be safe to assume it will be a registered second.You must be a first-time homebuyer. (We don’t know whether the government’s definition of "first-time buyer” will be the same as with its RRSP Home Buyers’ Plan (see definition above)Your mortgage must be default insured. Buyers may use any of the three insurers.There are no monthly payments required on this incentive moneyYou have to pay the money back when you sell your home. There was no mention of what happens during a refinance but if similar programs abroad are any guide, a cash-out refi would trigger the repayment provision.
Paul Taylor, CEO of Mortgage Professionals Canada, which represents the mortgage-brokerage channel, said in an interview with the Globe and Mail, he is disappointed that the government did not heed his organization’s calls to reduce the stress-test burden, which is keeping many home buyers from qualifying for mortgages.
But he said the new interest-free loan program will help the earners most affected by the stress test, so it may be a good alternative. The program requires more analysis to assess how successful it will be, he said.
His organization estimated that the stress test would compel about 200,000 potential home buyers to change their plans in the first two years of operation. If 100,000 are helped by the loan program over three years, "a good chunk” of people most impacted may be getting help, he said.
Many other key details, including precise repayment terms and maximum available loans, have yet to be addressed. The government says CMHC will release full details later this year. That’s a long time, politically speaking and things could change again, given it’s an election year.
We will continue to monitor these announcements and update our readers as new information comes top light.