Come January 2018, new Ontario mortgage applicants likely won’t be able to afford the same home they’ve set their eyes on this year, as they will be subject to new and stricter mortgage rules, posed by the Office of the Superintendent of Financial Institutions Canada (OSFI) and published in the Residential Mortgage Underwriting Practices and Procedures document.
The new rules will decrease affordability, as federally regulated financial institutions will be required to put all new applicants through a “stress test.”
The test is being used to determine if applicants can still afford mortgage payments if rates were to ever increase. Under the stress test, applicants must be able to afford the greater of two options: either the conventional mortgage rate (the five-year rate published by the Bank of Canada – which is currently 4.99%), or the contractual mortgage rate plus two percentage points.
Currently, stress tests only apply to those applying for high-ratio mortgages, meaning those with less than a 20% down payment. The new rules, though, apply to anyone applying for any mortgage, regardless of down payment and whether they’re shopping for a variable or fixed rate.
More specifically, the new rules are targeting those who are stretching their finances thin by often signing up for an ultra-low variable rate mortgage in order to buy their dream home. When interest rates rise, anyone with a floating rate loan, like a line of credit or a variable loan, is immediately affected. And since variable mortgages are the most vulnerable to a rate hike, the government wants to make sure applicants can manage payments if rates rise.
Those with a fixed rate mortgage are not impacted by an Bank of Canada interest rates, but their affordability will still be affected by the rules changes.
How fixed rate mortgages can still be affected by the new mortgage rules
Let’s say a family with a household income of $150,000 has saved a healthy $200,000 down payment. They are looking for a four-bedroom home in the Toronto area.
They have no outstanding debts or financial obligations. Their car is paid off and they pay their credit card off in full every month.
Under the old rules, this family could spend $1,091,649 on a home. This is based on the best five-year fixed rate offered – currently 3.14%.
Under the new stress test, however, they would have to prove that they could still make payments if rates were two percentage points higher – 5.14%. As a result, this family would have to lower their expectations and look for a home with a maximum value of $926,594.
Now let’s look at another situation.
A family has their heart set on a home with a purchase price of $562,000 – close to the current average home price in Ontario. They also have a 20% down payment saved - $112,400.
Once again based on a fixed rate of 3.14%, and with a mortgage of $449,600, they would have to prove that they can afford to make monthly payments of $2,160 if they applied for a mortgage this year.
Under the new 2018 rules, however, they would need to prove that they could make payments of $2,651 per month. If they can’t afford it, this means they would have purchase a home at a lower price.
How to calculate your new affordability
If you are looking for a home in 2018, you can see how the stress test will affect you by using RATESDOTCA’s mortgage affordability calculator and inputting your own numbers.
Fixed rate mortgages are based on bond rates, as opposed to variable rate mortgages which are pegged to the Bank of Canada’s current benchmark rate. While the RATESDOTCA Mortgage Outlook Panel foresees no change to mortgage rates in the next few months, Dominion Lending Centres is projecting bond rates to rise by a full percentage point within the next year.
Since most mortgage applicants will have to qualify at an even higher rate next year, this could cool real estate prices, most economists are predicting. This could also push several potential home buyers out of the market until they can afford more, unless they are willing to lower their expectations. Regardless, Canadian home buyers and homeowners should brace themselves for lowered affordability and softening of home prices because of these new rules.