You’ve done it. You’ve survived on canned beans, you’ve shopped at Goodwill, you haven’t had a vacation in ages and you’ve finally paid down your high-interest debt. You’ve scrimped and sacrificed in order to save a significant down payment for a home, and now BOOM. New mortgage rules come into play. But do they mean that it’s a bad time to buy a home?
We’ve already discussed how the new stress tests effective October 17th will affect your purchasing power and how much you much of a mortgage you qualify for. But there’s another aspect of the new rules that will affect lenders, which may in turn affect the competition in the marketplace and mean less choice for you when it comes to mortgage features and interest rates.
Non-bank lenders and portfolio insurance
As you may know, if you get your mortgage through a mortgage broker, you’ll have access to bank mortgages as well as those of monoline lenders, lenders who only deal with mortgage-related products and services, as opposed to other financial services offered by banks (credit cards, GICs, etc). Monoline lenders don’t have brick-and-mortar locations, which contributes to their lower overhead costs and gives them the ability to undercut the banks on certain features like interest rates and prepayment penalties. Contrary to popular belief, monoline lenders prefer to work with the same type of client as the banks (i.e. top-notch borrowers with good credit), although monoline lenders may be more flexible when it comes to working with borrowers who have less conventional applications and situations.
But another reason why non-bank lenders are able to offer lower interest rates on their mortgages that you may not be aware of has to do with the way that they finance mortgages. That is going to change dramatically on November 30th, having big repercussions in the industry – and for you.
If you have less than a 20 per cent down payment on a home, then your mortgage is deemed as being high-risk and you are required to get mortgage default insurance, which protects the lender in the event that you default on your mortgage. But lenders will often separately get what’s called ‘portfolio insurance’ on groups of their low-risk, uninsured mortgages (mortgages that had down payments of 20 per cent or more and/or homes worth more than $1 million) to protect them against these defaults as well.
According to CHMC, “Portfolio insurance helps lenders manage their capital more efficiently and small lenders to compete on an equal footing with large lenders. It allows more lenders to compete in the mortgage loan insurance market by lowering entry barriers, thus expanding consumer choice.”
Lenders then sell the loans to investors through what’s called ‘mortgage-backed securities programs’ – basically bonds that allow the lenders to free up capital for other things, including providing more mortgages. And, according to the Department of Finance, lender access to low-ratio insurance “primarily supports lender access to mortgage funding through government-sponsored securitization programs.”
This cheap source of financing has given non-bank lenders another way to stay competitive with bank-offered mortgages, which can be funded in a number of ways.
We know this is all a lot to absorb, but stay with us.
Here’s the kicker: according to the new rules, lenders will no longer be able to insure mortgages with amortization periods beyond 25 years, homes worth more than $1 million, rental properties, or mortgages that are being refinanced. This applies to a lot of low-risk mortgages that non-bank lenders insure themselves, which means that the lenders will have to either find other ways to finance these mortgages or eliminate them altogether.
Either way, many of these lenders may find it more difficult to compete with the major banks, and as we’ve all seen, less competition in the marketplace means higher costs for the consumer.
In addition to less competition among lenders, the powers that be in Ottawa have proposed new risk-sharing requirements when it comes to mortgage insurance. Instead of the government backing the insured mortgages, lenders will be required to share in part of that risk. Higher costs of lending will undoubtedly translate to higher costs for the borrower in order for the lenders to remain profitable. Some of the bigger lenders, banks included, will be able to shoulder the risk and expense, while some of the smaller lenders will no longer be able to lend money in a way that makes sense for them financially. Again, fewer lenders means less interest rate and mortgage product competition among the remaining lenders, and higher interest rates and fees for borrowers.
Bite the bullet anyway?
We can’t forget that interest rates are still at historic lows. (Some may say that we’ve been benefiting from artificially low rates, which is part of the problem, but that’s neither here nor there.) They’ve been low for years, and when you’re paying off hundreds of thousands of dollars in mortgage debt, low interest rates make it very affordable on a monthly basis to purchase a home. If you buy below your means, then that also means that you have extra money to contribute to any repayments that you’d like to make, and that extra money goes toward paying down your principal amount, not your interest. So now is still a good time to take advantage if you’ve got your ducks in a row – and if you can still qualify according to the new stress tests.
Timing the market is impossible. If you’ve been following real estate for the past two, five, seven years, you may have noticed a trend: people thinking that home prices couldn’t rise any more, and then they did. Obviously markets across the country vary, but overall, home prices have at best risen and at least remained stable. So if you’ve waiting for a Great Housing Crash to buy a home, then you could be waiting six months, you could be waiting three years, you could be waiting even longer – especially since all of the new measures taken in the past several years (from reducing the maximum length of an insured high-ratio mortgage in 2008 to changing down payment requirements in 2015) have been put in place to try and prevent a housing bubble from forming, or at least to prevent it from popping and greatly disrupting the Canadian economy. The latest measures, some taken locally or with specific markets in place – we’re looking at you, Vancouver and Toronto – have been designed to rein in the runaway growth that some people say is unsustainable. But whether or not home prices will drop dramatically in a short period of time or more gradually slow demand and mortgage accessibility, returning inventory to those markets and restoring affordability, remain to be seen, as well as whether there will be negative consequences on markets in the rest of the country.
Ultimately, it may be harder for you to buy a home, regardless of where in the country you reside. Tougher criteria for mortgages is generally thought to be a good thing for the country, though, as the housing market becomes even stronger. But risk-sharing and changes to portfolio insurance eligibility also mean that buying a home will end up costing more for Canadian homeowners in the long run.
There’s never a ‘best’ time to buy a home. Maybe home prices will drop in another couple of years, but the interest rates will have gone up; maybe not. If you want to buy, you have to do so when you have enough money and find a property that fits within your budget and your means. If you’re unsure, a mortgage broker will help you translate what these new rules mean to your bottom line and your home expectations, and you’ll be able to make an informed decision. If you’re able to get a home in the current climate and you think it's the right time in your life to do so, don’t let fear of the unknown stop you.
What the new mortgage rules mean for first-time home buyers, part 1
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