I’m the kind of guy who gets his car repaired at the dealership.
I believe in specialization.
I believe in experts; the best at what they do.
And I believe in subject matter experts as well, so while I don’t acquiesce to the incessant requests for guest and sponsored blogs here on TRB, once in a while, I’ll look for insight from folks who can speak to certain subjects more eloquently than I.
Last week in my “Discussion Points” blog posts, I brought up two topics related to mortgages:
1) The Mortgage Market
2) First Time Home Buyer’s Incentive
The first point was really about potential changes to the mortgage market in 2020, and most of the discussion surrounded the “stress test” and any alterations that could be on the horizon.
The second point involved me voicing my displeasure with the FTHBI because it’s useless for an overwhelming majority of Canadians (zero people in Toronto/Vancouver will use this), and not only that, I don’t think it’s the government’s job to lend money to people who can’t afford to buy real estate.
So I’ve asked my mortgage broker, Tony Della Sciucca, if he would provide us with his thoughts on both subjects.
Here is what Tony had to say….
The Mortgage Market In 2020
When the Office of the Superintendent of Financial Institutions (OFSI) fully launched the “Mortgage Stress Test” in January 2018, their mission was quite simple; ensure that would-be home owners could afford (and continue to afford) to make mortgage payments in the event that interest rates would rise or potential income loss.
With rising consumer debt levels at an all-time high, inexpensive interest rates and accelerating home prices, the policy made complete sense. The notion to prevent borrowers from biting off more debt than they can chew left many of us in the industry giving this a thumps up.
However, when digging a bit deeper, there are some flaws within the “stress test” worth mentioning,
For a quick recap, the “stress test” is a metrics whereby applicants looking to purchase a home, transfer or refinance their existing mortgage from a federally-regulated lender would need to “qualify” at their contracted rate, plus two per cent, or the Bank of Canada’s five year Benchmark Rate, whichever is greater.
Presently, the Bank of Canada’s five year Benchmark rate is set at 5.19%. So, despite receiving a lower contracted rate with your lender, you will need to qualify “as if” you’re inheriting a higher interest rate. Because of this qualifying metric, the mortgage stress test reduces affordability by approximately 20% for all borrowers.
Let’s take a look at a few examples;
- interest rate is 2.99% (5yr fixed) + 2% = 4.99%. ….Qualifying rate = 5.19%
- interest rate is 3.29% (5yr fixed) + 2% = 5.29% ….Qualifying rate = 5.34%
Since the “stress test” only applies to federally-regulated institutions, credit unions and private lenders are left roaming “stress free” given that they are provincially regulated and thus, not mandated to follow the same set of guidelines outlined by OFSI policymakers.
This creates an unfair playing advantage as provincially regulated lenders will simply charge a surplus to borrowers who cannot pass the federal test. To compare, If we consider a 50 basis point (0.5%) interest rate premium on a $500,000 mortgage, that would equate to approximately $12,000 in additional interest over the five-year term.
The current method used to set the stress-test qualifying rate is based on an arithmetic mean of our big banks’ posted five-year fixed rate. Since higher posted rates favour banks when calculating pre-payment penalties, many feel that lenders can manipulate these posted rates to work in their favour to increase profit margins.
Instead, some within the mortgage industry have advocated that the stress test be correlated to the five-year government bond yield as this is what dictates the fluctuations of fixed interest rates.
Another criticism and flaw surrounding the “stress test” is that it does not apply to borrowers who renew their mortgage with their existing lender.
Once again, lenders will have the ability to charge higher renewal rates knowing that their borrowers cannot qualify elsewhere. This exemption can lead to predatory lending, with many borrowers feeling handcuffed at time of renewal.
If OFSI’s intention was to limit default loses and ease home prices from skyrocketing, then the stress test has certainly achieved this to some extent. But in terms of the efficiency and fairness, some will call it a failure, including myself.
Given the ongoing policy changes hitting the mortgage industry over the last several years, aspiring home owners are finding it increasingly more challenging and difficult to enter the real estate market.
Because of this, Prime Minister Justin Trudeau requested his federal Finance Minister Bill Morneau to “review and consider recommendation from financial agencies related to making the borrower stress test more dynamic.”
In terms of what specific changes we can anticipate from OFSI in 2020, it’s a still a little premature to tell, but many are advocating and anticipating for longer amortizations (thirty years) on insured mortgages and purchases over 1M, along with a lower and more transparent qualifying stress test.
Only time will tell!
The First-Time Home Buyer Incentive
If you’re a first-time buyer, you’ve probably caught wind of the First Time Home Buyer Incentive (FTHBI) being offered by the Federal Government.
The “incentive” which was fully launched on September 2nd, 2019 was set out to provide interest free loans in the form of “Shared Equity Mortgages” or SEM (via CMHC) for first-time homebuyers looking to enter the already scorching real estate market in cities like Vancouver and Toronto.
Doesn’t sound so bad right?
Well, before you start fist-pumping your family and friends at this “interest free loan,” there’s a catch. So, saddle up as you’re probably not going to like what’s coming next.
To recap, the incentive would allow eligible first-time homebuyers to apply for a portion of their home purchase (down payment) with the Federal Government in exchange for an equity stake in your home.
For the purchase of a resale home, the incentive or equity stake would be capped at 5%, and 10% for newly constructed homes.
Simply put, the Government would proportionally share in the profits (or loses) of your home value at time of repayment.
On the programs’ website, here’s an illustration of how this works; “You receive a 5% incentive of the home’s purchase price of $200,000, or $10,000. If your home value increases to $300,000, your payback would be 5% of the current value or $15,000. https://www.placetocallhome.ca/fthbi/first-time-homebuyer-incentive
Still not phased and looking to apply? Well….let’s make sure you meet the requirements, along with some of the repayment conditions;
- Must Be a First Time Home Buyer
- Insured Mortgages Only ( > 80% Loan To Value)
- Have at least 5% Down Payment
- You are a Canadian Citizen, permanent resident or non-permanent resident authorized to work in Canada
- Household Income cannot exceed $120,000
- Have a combined mortgage, plus incentive that does not exceed four times the household income *
- Loan must be paid in full if the home is sold or after 25 years
- Meet all the normal default insurance requirements
If you’re feeling a bit puzzled, don’t worry you’re not alone. Many of us are too.
Assuming the best case scenario; someone purchasing a home with a down payment of 14.99% and household income of $120,000, would qualify for a maximum purchase price of $565,000.
In soaring markets such as Vancouver and Toronto, this “incentive” does very little to “incentivize” buyers where average home prices have skyrocketed to well over $850,000 in each of those respective cities.
So, is there an ideal candidate for the FTHBI and are there any benefits? Sure, if you’re willing to relocate to Regina, Saskatchewan or Thunder Bay, Ontario where average home prices still remain quite modest, then congratulations the FTHBI could be a consideration.
The benefits you ask?
Well, according to their website (read HERE), a borrower with a qualifying income of $70,000 will be able to purchase a home in Montreal for $310,000 with a Shared Equity Mortgage (SEM) and save themselves a whopping $93.35/month or $3.11/day.
In their attempt to assist Canadians trying to enter the real estate market, many of us are left scratching our heads as to how the FTHBI actually achieves this.
According to Mortgage Professionals Canada, 47 per cent of first-time buyers are putting 20 per cent down or more. These buyers would be excluded since FTHBI requires a loan-to -value of 80.01 per cent or more.
In addition, due to the number of restrictions that come with the FTHBI, specifically four-times income rule, borrowers on average will qualify for a higher priced homes and larger mortgages if they forfeit the program altogether compared to a traditional insured mortgage.
If you’re a millennial looking to buy your first home, and home prices don’t rise too much before you sell, the FTHBI has your name all over it.
Conversely, if home prices continue to soar in 2020 and beyond, get ready to pony up some serious cash as the Federal Government will be eagerly licking their chops.
Tony Della Sciucca
Mortgage Agent, FSCO Lic #12214
Dominion Lending Centres
tony.dellasciucca@dominionlending.ca
I’m picturing Bill Morneau standing in front of a giant wheel, not so much like the wheel at The Price Is Right’s “Showcase Showdown,” but rather one that you’d see at a casino or carnival, and on that wheel, are a whole lot of different ways to change the mortgate market in 2020.
I remain unconvinced that there is some sort of “master plan” for how best to serve Canadians, and I think Mr. Morneau spinning this wheel to determine what moves to make might actually produce a better result than any well-thought-out course of action would.
For years, it was “We have to shrink mortgage amortizations!” Now, we’re looking at increasing amortizations again.
Rates are too high, rates are too low.
We want to stimulate the economy with a rate cut, but we’re afraid Canadians will take on more debt as a result.
The stress test was a great idea, until it wasn’t.
We want Canadians to afford real estate, but we’ve put measures in place that help non-residents, and punish hard-working tax-paying Canadians.
We encourage fiscal responsibility, but we’ll loan people money to buy houses they can’t afford.
We know the CMHC is over-stretched, but we’ll come up with new ways to stretch it some more.
Look, I don’t have the answers. I never said that I did. But I will say that this government continues to invest in change for the sake of change, and I don’t really understand their long-term “plan.”
Is it possible that there isn’t one?
johnny chase
at 9:19 am
i thought your mortgage guy was Joe Sammut?
Thomas
at 10:00 am
The mortgage stress test basically accomplishes the same thing as reducing amortization periods: it forces the borrower to be more responsible.
If we’re going to bring back 40-year amortization then why not 50-year? Don’t they still have 140-year amortizations in Sweden?
The talk about tinkering with mortgage rules is useless if we’re not talking about how the government views debt and how they encourage their citizens to use it effectively. David, this goes to your point about the “plan.”
Chris
at 10:08 am
It only seems to be Morneau/Trudeau who don’t have a cohesive plan. Other agencies have made their opinions and recommendations quite clear.
Bank of Canada: “Stronger housing activity also means more household debt, of course, which continues to be Canada’s biggest financial system vulnerability. The good news is that with the B-20 guideline working to reduce the riskiest borrowing, we are confident that the stock of household debt is becoming less of a threat over time.”
CMHC: ““The stress test is doing what it is supposed to do,” wrote president and CEO Evan Siddall in a letter dated Thursday to the Standing Committee on Finance, calling out accusations of unintended consequences…“My job is to advise you against this reckless myopia and protect our economy from potentially tragic consequences,” he said, asking the committee to “look past the plain self-interest” of the Canadian Home Builders Association, the Mortgage Professionals Association of Canada and the Ontario Real Estate Association.”
OSFI: “The revisions to B-20 are working; strengthening mortgage underwriting across Canada and improving the resilience of the Canadian financial system to future shocks,” OSFI’s information sheet said. “While improvements have been made OSFI will continue to monitor lender practices, particularly in the area of income verification, and will be proactive with lenders when it identifies areas requiring attention.”
condodweller
at 10:08 am
I believe in leading by example. If the government wants to tell people how to manage their debt, perhaps they should start managing theirs first.
Appraiser
at 11:24 am
No one is seriously suggesting 40 or 50 year amortizations. Straw man argument.
condodweller
at 10:05 am
David you have said that Canadians don’t have a birthright to own RE in the GTA. Is it possible the government agrees with you and the plan is to incentivize people to move out where RE is somewhat affordable yet still help them out? The maximum qualifying amount being below going prices would certainly indicate that. Unless the government is playing the political game to be seen as helping but effectively they’re not.
As Mr. Holmes said once you eliminate the possible, what remains, no matter how improbable, must be the truth.
Geoff
at 1:40 pm
where is “affordable”, while jobs are well paying and plentiful too?
Chris
at 1:48 pm
CMHC defines housing affordability as shelter costing 30% of before-tax household income. Using this definition, per RBC, Regina, Winnipeg, Quebec City, Saint John, Halifax, and St. John’s appear to be affordable, measured by ownership costs as a percentage of median household income.
https://royal-bank-of-canada-2124.docs.contently.com/v/housing-trends-and-affordability-december-2019
condodweller
at 10:23 am
While this is the official definition, for Toronto qualifying for a mortgage would be affordable. Maybe we need a new term for this but even if you are willing to put a large percentage of your earnings towards the mortgage, as long as you can get one is what I meant by affordable. Weather it’s reasonable that’s a different question.
Chris
at 12:08 pm
Just being able to attain something doesn’t necessarily mean it is affordable. If something is attained at the expense of severe financial stress and reduced spending in many other categories, I certainly wouldn’t qualify it as affordable. CMHC’s definition is, in my opinion, meant to be a line in the sand as to what is reasonable and affordable, not what is attainable.
condodweller
at 12:38 pm
Yes, maybe the term attainable would be more appropriate. There is a middle ground though. I find 30% way too conservative. I think one can do higher comfortably as long as they are willing to commit to paying a higher mortgage.
Appraiser
at 11:35 am
The stress test is unnecessarily punitive in it’s current iteration.
It was an overshoot – get over it.
It will be tweaked; not eliminated.
Professional Shanker
at 12:28 pm
Don’t agree with you most of the time, but this iteration of the ST is not practical in it’s current form, esp with regards to refinancing, it is due for a reassessment which is exactly what is happening.
Appraiser
at 5:19 pm
If you agreed with me more frequently, you’d be correct more often 🙂
condodweller
at 10:27 am
@PS Screwing existing customers might have been an oversight on the governments part, at least I hope they wouldn’t willfully do something like this. Even I would agree that the test is too high or should be eliminated all together. I mean unless your employment changed, once you qualified that should be sufficient to get over the hurdle as the renewal amount would be less than the original loan. On a refinance though it’s fair game.
Professional Shanker
at 6:13 pm
Good catch, I meant renewal not refi
Alex
at 11:37 am
Don’t you guy remember that stress test was selling by government PR staff and media in 2017 as a last resort of the household protection during the imminently raising interest rates? For our own good? Did they – GASP-lied to us ?
Where are all those increased interest rates 3 years later?
I am also wondering who are those people who are tinkering with something as important as livelihood of all property owners in Canada and who did not have a clue how to write a law/regulation that does not need adjustments merely 2 or 3 years later?
cyber
at 6:32 pm
At the time of stress test introduction, economy was chugging along in a growth spur, significantly driven by our largest trading partner’s longest economic expansion in recent history. Before Trump tariffs. Before NAFTA/USMCA/CUSMA prolonged re-negotiation and associated uncertainty. Any economist worth their salt would have expected interest rates to be increased in order to create ‘firepower’ in the form of eventual rate cuts needed to re-invigorate the economy during the upcoming downturn (size/timing of which obviously almost no one can reliably predict). And with reasonable near-term expectation of interest rates rising and record Canadian household consumer debt levels, stress test was more than a reasonable measure to try to protect Canadians from themselves in a hot, FOMO driven real estate market.
Obviously things change, unforeseen events happen, there is more data. Hopefully legislature can ‘keep up’ with developments in a relatively timely manner. Being responsive to changes in on-the-ground realities is not a bad thing – I would consider it a positive over trying to ‘save face’ on now-historical decisions or being absolutist/dogmatic in policy approach.
No need to be melodramatic – ‘livelihood of all property owners in Canada’ certainly was not affected. Sure, some flippers and speculators in GTA suburbs, some families that recently bought and needed to sell due to moves and life events… but by and large, there’s a reason we haven’t seen a US-style meltdown back in 2008/2009, and it’s thanks to the similar type of thinking by the regulators. Give up some upside for much greater system-wide stability – quite fair actually.
Joel
at 4:27 pm
I am a mortgage broker and one of the big downsides to the stress test was pushing people that were already home owners into worse rates and alternative lenders.
If you were used to refinancing your house every 5 years to pay for upgrades or general life that has been changed. So many people had a house and credit card debt and maybe a line of credit, then were not able to qualify for a refinance to get rid of that debt.
I think if they were going to change anything of the stress test it would be to help these people pay off 19.99% credit card debts with a 3% mortgage.
Right now they are paying 4-5% and a fees on top. Tough pill to swallow for many people who have owned a place for 20 years and are hoping to use some of the equity that they have built up.
Jimbo
at 5:56 pm
Are we talking $5,000 in CC debt and $15,000-$20,000 in Line of Credit or more on average?
Joel
at 10:12 pm
Depends on the person, but it is not uncommon for a couple to each have a 20K line of credit maxed and a couple of credit cards of 5-10K.
Most common refinance would be debt of 50K-100K and higher if they are doing or paying off renos.
condodweller
at 10:32 am
This is a very good point. One of the biggest impact could be on seniors who have opted to use their line of credit to finance their retirement instead of a reverse mortgage. By the time they get near end of life they could have well over $100k in a line of credit and if planned properly it wouldn’t be irresponsible. I find so often people pass judgement one other simply by the size of their debt without having any clue as to what their circumstances are.
Appraiser
at 4:26 pm
And debt is only one side of the balance sheet.
Mxyzptlk
at 5:15 pm
Exactly. A senior couple own a house in central Toronto worth, let’s be conservative, $1m. Their income consists of OAS, CPP, a modest pension and maybe some GIS. They use a HELOC for some additional “day-to-day expenses” income, and after a decade their DEBT is $150,000. They are vilified by the “voices of reason.” Toronto real estate has plummeted so their house is now worth only $600,000, meaning their net worth is still close to half a million bucks. They are still vilified as “irresponsible.”
Jimbo
at 2:10 am
I find this to be a scary situation…..
That being said, if you own a $1 million house and you have taken out $100k HELOC on that mortgage free value to live off of or upgrade your investment to make it livable than so what.
I don’t think Mr. A and Mrs. B bought a house 50 years ago in the hope they could utilize it to finance their retirement but who am I to judge that they have been able to do so.
If Mr. A and Mrs. B bought their property 10 years ago for $300k and it is now work $900k plus need to refinance because they took out $40k to $120k on credit to Reno then I think this is very very worrisome……
I know I know the deficit we run each year is a measure of our success, I mean the credit we have at our exposure is a measure of our success….
condodweller
at 5:56 am
Assuming they paid off $0 the last ten year their mortgage would be in worst case scenario $420k (400k+120k) which is less than half of current value. Are you expecting 60% RE crash any time soon? And they call me a bear! So let’s assume there is a 60% crash, as long as they can maintain their mortgage payments there is nothing to worry about.
Jimbo
at 3:23 pm
“Assuming they paid off $0 the last ten year their mortgage would be in worst case scenario $420k (400k+120k) which is less than half of current value. Are you expecting 60% RE crash any time soon? And they call me a bear! So let’s assume there is a 60% crash, as long as they can maintain their mortgage payments there is nothing to worry about.”
I’m not worried about a crash, it is the idea that you pay for something you can’t afford with your equity.
So in your estimate the way I look at it is this. The person in your scenario used all of their money to pay for food, car, daycare, utilities, upgrades etc. At the end of their 10 years they are $420k in debt instead of $285k. The only equity they have is the increase of the asset, as they have technically put negative $120k into the house to live and maintain life in it.
Essentially they were $1,000 a month short on their obligations every month for 10 years. Just doesn’t seem sustainable for that individual household.
It is my hope that this individual put $1,000 a month away in their pension and are getting a better return than the interest paid on their mortgage, due to leverage the pension account needs to have a sizeable primary balance to keep up with mortgage interest. The individual can also plan on making more money as their career progresses but a dollar today is worth more than a dollar tomorrow so it is best not to borrow all future earnings away today…..
Ed
at 9:41 pm
see! this is why this blog is so important.
Real life stuff.
You get a feeling for is what is going on.
Chris
at 12:18 pm
The cover story and Special Report of The Economist this week is on the topic of housing and real estate in The West:
https://www.economist.com/special-report/2020/01/18/housing-is-at-the-root-of-many-of-the-rich-worlds-problems
Haven’t read the entire report yet, but so far it is very interesting.