Monday Morning Quarterback: CMHC Raises Insurance Rates

Is Jim Flaherty on a mission?

Or is he just an attention-seeker?

Every time we open the newspaper and see the letters “CMHC,” it’s usually followed by a story about Jim Flahtery, on some sort of mission to cool the housing market.

Nothing he, or CMHC, has done thus far has worked, and I might argue that a few of the policies they’ve implemented have backfired, and actually helped to raise house prices in some segments.

Let’s look at the new policy change, and crunch some numbers…

CMHC_Headquarters

“Housing Bubble”

I’ve heard that phrase a thousand times since I started in real estate ten years ago.

And while I’m not going to suggest that prices will continue to rise forever, you must admit that society has this preoccupation with the idea of a “bubble.”

SIX YEARS AGO, almost to the day, I wrote a column on this blog about my opinions on any sort of bubble forming in Toronto.  Media members, critics, and market bears were out in full force, suggesting that 2008 was going to be the year of the 30% drop in prices.

Read my original article HERE.

Evidently, prices didn’t drop 30% in 2008.  In fact, prices are up 30% since then.

We don’t need to argue about the past, or the present today, but rather let’s look ahead to the future.

Jim Flaherty has been screaming from the top of a small mountain for the last few years, as he believes that Canada’s real estate market is over-priced, over-inflated, and over-leveraged.

Maybe he’s right.

But despite his “warnings,” the market hasn’t responded, and the public hasn’t listened.

Mr. Flaherty has undertaken steps in the past to cool the housing market, but nothing has worked.

The average price of a Toronto home increased by about 9.2% last year, and that followed a 6.9% increase the year before, and a 7.8% increase the year before that.

It doesn’t sound like a “cooling market” to me, but I’m not the one in charge of writing policies for the CMHC.

Last week, it was announced that CMHC would be increasing their insurance premiums, and just about every media outlet picked up the story.

Mortgage brokers scrambled to send out emails to their clients, and Realtors were urged to explain the difference in premiums to potential buyers.

I barely moved a muscle.

I don’t think this policy will cool the market at all, and I don’t think buyers will be lacking in affordability after the changes are implemented on May 1st.

But before we get into that, here’s the press release from CMHC:

CMHCPressRelease

Note that the press release specifically states, “This is not expected to have a material impact on the housing market.”

But doesn’t this contradict virtually everything Jim Flatherty says?

Every time he’s interviewed he says something about “cooling the market,” or that he has to “intervene.”  He’s taken it upon himself to do something about Canada’s “bubble.”

We’re getting conflicting reports here.

Was this increase in CMHC insurance premiums intended to cool the market, or is CMHC just trying to put more money into the company’s till?

Those in the know might suggest that private-sector mortgage insurers, Genworth and Canada Guaranty, have been putting so much pressure on CMHC to raise premiums that they finally followed suit.  The private insurers have a fraction of the market share that CMHC has, and thus they can’t really act on their own and raise premiums without CMHC doing so first.

Regardless, I’d like to talk about two questions that stem from this latest announcement; one that can be addressed with numbers, and the other that can be addressed with opinion:

1) How does the increase in insurance premiums affect the average buyer, and will it be significant enough to have an affect on the market?

2) Have the past CMHC rule changes had an affect on the market?

Let’s use an example to illustrate the first point.

Consider a buyer who is purchasing a $500,000 property with a 10% down payment.

Under the current mortgage insurance system in place, this buyer would pay $9,900 in mortgage insurance, which amortized over 25 years, would amount to $30 per month.

Assuming a current 5-year, fixed-rate mortgage of 3.39%, the mortgage payment would be $2,220.67, plus the $30/month CMHC premium, for a total monthly payment of $2,250.67.

After May 1st, the rates change.

The mortgage premium charged on LTV of 90% (ie. a buyer who has 10% down), goes from 2% to 2.4%.

This means that the buyer would pay $10,800 instead of $9,900, or $36/month instead of $30/month.

The buyer’s monthly mortgage payment increase from $2,250.67 to $2,256.67.

Six bucks.

That’s not enough to change anybody’s affordability, is it?

I don’t think so, but was that the intent?

The CMHC’s press release says that these changes are not expected to have an impact on the housing market, and I whole-heartedly agree.

So what is the purpose of these changes, if Mr. Flaherty isn’t trying to cool the market?

Well, early estimates have CMHC taking in $150 to $175 Million more as a result of the increase in mortgage insurance rates, so perhaps this isn’t about Mr. Flaherty trying to cool the housing market, and it isn’t about trying to scrape away the bottom-buyers in this marketplace who are just barely able to qualify for a mortgage.  Maybe it’s just about CMHC making more money.

After all, CMHC hasn’t raised their mortgage insurance rates since 1999.

As for the second point I wanted to discuss today – whether or not past CMHC changes have had the intended effects, let’s look at the last “major” change: increasing minimum down payment to 20% for homes over $1 Million.

This came into effect two years ago, and at the time, the intended effect (direct or indirect) was to cool the market – something Mr. Flaherty loves to talk about!

So no longer could a buyer purchase at any price point with a 5% down payment.  Over $1 Million, the buyer had to provide a 20% down payment or more.

The intent was to reign in debt, force consumers to save more for a downpayment, and yes, as a result – cool the housing market.

In my humble opinion, this move completely backfired, and it could be argued that this policy change is one of the largest reasons why the $600 – $800K price points in Toronto have increased so rapidly over the last two years.

Do you know how many clients come to me with pre-approvals for $999,999?

Suddenly, the $1M+ market is a bit cooler, and the sub-$1M market is red-hot.

Buyers with a 5%, 10%, or 15% down payment can’t look at houses over $1M anymore, and this means droves of buyers are now focusing on those $800K homes.

It doesn’t take a genius to conclude that more buyers, equals more competition, and that equals higher prices.

And we’ve seen ample evidence of this over the past two years.

Think about all thouse houses listed at $799,000 that sell for $960K.  Would this be happening if buyers had the option of putting down less than 20% for purchases over $1M?  If there were more options available to buyers at or above the $1M range, would there be as much pressure on the $800-$900K price point?

The question was meant to be rhetorical, as evidence has shown that house prices in the sub-$1M range have outpaced the market average in the last two years.  The list-to-sale ratios would back that up as well, although we know how many agents deliberately list houses low, so perhaps that’s not the best metric.

My point is this: did Mr. Flaherty foresee this turn of events when he instituted the 20% minimum downpayment requirement for houses over $1M?

I honestly don’t think he did.  I think Mr. Flaherty was right to try and force Canadians to take on less debt, and that with the debt-to-income ratio approaching 170%, perhaps he needs to do even more.

But the policy change from two years ago completely backfired, and put pressure on the middle-tier buyers who are far more price-sensitive than buyers for million-dollar-homes.

I’m not doubting Mr. Flaherty and CMHC’s collective abilities, but I am calling into question some of their policy changes.

If Mr. Flaherty really wants to cool the market, then the answer is simple: minimum 10% downpayment on all properties under $1M, up from 5%.

Anything less than that is just fodder.

This latest increase in mortgage insurance rates made headlines, but I don’t know why.  This is just another $150 Million in profit for CMHC, but it has nothing to do with affordability, nothing to do with the housing market, and will have zero impact on borrowers.

9 Comments

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  1. Rob Fjord says:

    abolish CMHC and lets see what the private lenders demand as down payment.
    bubbles are more often created in sham markets where governments create imbalances, speculators exist because corrupt governments create plum opportunities to speculate.
    flaherty and harper are socialists.

  2. Kyle says:

    “This latest increase in mortgage insurance rates made headlines, but I don’t know why. This is just another $150 Million in profit for CMHC, but it has nothing to do with affordability, nothing to do with the housing market, and will have zero impact on borrowers.”

    True, but i think it goes a long way in improving the risk profile of CMHC. I like Flaherty’s moves so far, as they’ve targeted the risk in the system, without upsetting the market. His moves are akin to tapping the brakes to keep everything in control. This is a good thing, not bad. His real job is to make sure the economy is stable and performing, not to control the price of real estate, and in that regard i think he’s doing an admirable job (and i’m not even a Conservative). I know there are a lot of bitter bears, out there who are probably thinking Toronto prices are still too insane, he isn’t doing enough. Reality is his actions affect all of Canada, how can he cool the market in Toronto and Vancouver without freezing the market in Winnipeg and Saskatoon? Well the answer to that is very simple – that isn’t his job!

    1. Joe Q. says:

      how can he cool the market in Toronto and Vancouver without freezing the market in Winnipeg and Saskatoon?

      The CMHC insurance caps in place before 2003 were regional — the size of the mortgage they would insure varied from one area to another.

      I agree with you that Flaherty’s job is “not to control the price of real estate” but to the extent that RE prices are driving the growth in household debt levels, one can understand why he is concerned.

  3. Joe Q. says:

    I don’t think there’s anything revolutionary here, David, and I don’t see anyone claiming that this move is intended to “cool the housing market”. Rather, as per the Steven Mennill quote that you pasted above, it is about increasing CMHC’s capital reserves — obviously the CMHC or Flaherty (or both) did not feel that the premiums being collected previously were sufficient for the level of risk in their portfolio of insured mortgages.

    As for the 20%-down for $1M+ homes rule, I agree that this had unintended consequences, but I think the principle behind it is largely sound. Rather than a hard-and-fast cut-off, they could have implemented a sliding scale, and / or region-based guidelines (as they had before 2003).

    Out of curiosity, are a lot of people buying $850-$950k homes with 5% down these days?

    1. @ Joe Q.

      Yes, a ton of people are buying $900K homes with 5% down.

      Some of these people would rather keep their capital and invest it (Dow Jones went up 30%+ last year), than put it against their home at 3.39% interest.

      Then some people just happen to have $45K, and great incomes to qualify for the loan.

      1. Geoff says:

        Personally I kind of wonder if the type of person who can only come up with 5% down is really dilligent enough to avoid the temptation to spend their excess cash on fancy cars to purchase DJIA ETF’s. I suspect that it’s more likely they’re interested in meeting their minimum monthly payments more. I realize there will be exceptions.

        1. Jim Smith says:

          I would argue the opposite. If someone has managed to save 5% on a home purchase (especially 5% on more expensive property) that likely shows that they are more diligent with regards to savings. Most likely they choose to enter the market now instead of saving for several more years.

          Now if that person is someone who has no savings but comes into the 5% through whatever means (inheritance, proceeds from a condo sale, etc), your point may hold.

  4. exVancouverite says:

    There is also the second issue of increasing the insurance premiums to reduce the risk to the taxpayers who have to foot the bill the next us-style 2008 housing default happens.

    The real difficulty here with this approach is if the intended target is to discourage speculators who have bought a dozen properties, this is unlikely to have any impact on them. The first time buyer will take the brunt of the hit. But there is something to be said about the safety of aiming to save 20% down before plunging into your first house.

    I suspect that a better law would be to set a target of a 50% surtax on capital gain taxes from real estate transactions that goes down by 10% on every anniversary date from closing. This might work.

  5. Paully says:

    I checked an online mortgage calculator and $10,800 over 25 years at 3.39% is actually $53.30 per month, not $36. The total including interest, assuming a constant 3.39% for the full amortization, would be $15,990. That is still probably not enough to make much of a difference to most people, but neglecting the interest on the CMHC premium somewhat diminishes your argument.

    As far as Mr. Flaherty is concerned, he should be trying to rein in the real estate market. It was his ridiculous decision to allow insured mortgages with $0 down and 40-year amortizations that threw gasoline on the fire in the first place!

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