The real truth behind the new mortgage regulations

Canadian Finance Minister Jim Flaherty introduced new, tighter regulation this morning in attempt to slightly cool our red hot housing market.  The first change is the maximum amortization will drop from 30 years to 25 years, making it harder to qualify for a mortgage for many people.  While amortization length really doesn't affect the amount of debt someone has, it does affect the amount of interest they pay.

But is it really going to affect qualification that much?  

One thing many people tend to forget is that mortgage rates are ridiculously low right now.   If we look back four years ago when we had a 40 year amortization available to us, 5 year fixed mortgage rates were 5.99%.  At this rate, a $300,000 mortgage with a 40 year amortization would carry a monthly payment of $1,633.23.   At today's 5 year fixed rate of 3.19%, the same $300,000 mortgage with a 25 year amortization would be only $1,449.14. (There are 5 year fixed rates as low as 2.94% right now, but 3.19% is more widespread).  Even with the lowered amortization, the lower payment still makes it easier for home buyers to qualify for mortgage today than it would have been 4 years ago.

That being said, I think the drop in amortization is a good idea overall.  It well help home owners build equity much quicker over the term of our mortgage.  

Another major change made today is the maximum refinance will drop from 85% of the homes value to 80%.  This I have mixed feelings about, as it can actually cost some people a lot more money than need be.  Rather than implementing this regulation across the board, I would just restrict it based on the use of the funds.  For example, if someone is refinancing their home to raise money to take the family to  Disney World, than they are just going into further debt unnecessarily. This type of equity take out is what should be restricted.  

What should be still allowed however, is equity take outs for debt consolidation.  

If John and Mary Homeowner have $40,000 in credit card debt at 19.99% interest, why not let them consolidate that into their mortgage at a 5 year fixed rate of 3.19% (or lower)?  Even if they had to go up to 90%, as long as the regulation required them to than cancel those cards, or at least lower their limits to a manageable $1,500 to allow them to maintain a healthy credit score.  If this were the case, instead of having a $1,200 MINIMUM monthly payment on their credit cards, John and Mary Homeowner would only have to pay an additional $193.22 per month as part of their mortgage, saving them $1,006.78.  

The regulation could even take it one step further and require them to put that savings toward their mortgage which would pay it down SIGNIFICANTLY saving them literally tens of thousands of dollars in interest in the first 5 years alone.  Under the new regulation, they are stuck with this debt and added strain on their finances. Hmmmmm... maybe I should be the finance minister? 

The third change in regulation is lowering the gross debt service ratio (GDS) to 39% from the current 44%.  The GDS is your principal, interest, property tax and heating costs divided by your gross income.  It will definitely affect some home buyers, but at the same time, gives them flexibility to carry other debts as well, without feeling any added financial strain.  It is the homebuyers with little to no current monthly debt obligations that this will affect the most. 

The fourth regulation is to limit CMHC insured mortgages to $1 million.  Definitely not something that is going to affect the masses by any means. 

One thing that we know, is that we will eventually see fixed mortgage rates increase.  History shows that 5 year fixed rates were often between 5 and 6%.  If the mortgage regulations continued to let people buy with extended amortization and higher qualifying ratios, many homeowners may find themselves in tough situations at time of renewal when they find out that their mortgage payment has now increased by several hundred dollars.  These tighter regulations open the door for them to loosen them back up again one the mortgages rates are higher, which will give people more options to keep their payments affordable at time of renewal.

[Edit] These new mortgage regulations will be implemented on July 9th.

Prime lending rate remains unchanged

As you know, a variable rate mortgage or line of credit is based on the prime rate. At 9:00am this morning (Tuesday, June 5th, 2012), the Bank of Canada did what we expected them to do once again.....they maintained their overnight rate (which is what prime rate is based on). What this means to you is that the prime rate on your variable rate mortgage or line of credit will remain unchanged at 3.00%. This is great news as anyone on a variable rate mortgage or with a line of credit can continue enjoying their low rate and low payment. Here is an excerpt from the announcement made by the Bank of Canada and what they had to say about their decision: "Although economic growth in Canada was slightly slower than expected in the first quarter, underlying economic momentum appears largely consistent with expectations. However, the composition of growth is less balanced. In particular, housing activity has been stronger than expected, and households continue to add to their debt burden in an environment of modest income growth. Despite external events, business and household confidence has held up and domestic financial conditions remain very stimulative. The contribution of government spending to growth is expected to be quite modest over the projection horizon, in line with recent federal and provincial budgets. The recovery in net exports is likely to remain weak in light of modest external demand and ongoing competitiveness challenges, including the persistent strength of the Canadian dollar." While it states that economic growth in Canada was slightly slower than expected, the key word is is 'growth' which means we are not in recession. This growth is expected to continue, although we still may not see an increase in prime rate until well into 2013. When it does start to increase, it will be gradual, slow, controlled increases to be in line with economic recovery. Changes in prime rate are typically only 0.25% at a time and it has been this way since 1992. This doesn't affect fixed rates, which remain at 3.19% - 3.39% for a 5 year fixed, although I have 5 year fixed rates as low as 2.97% at the moment. Given this information, I would recommend anyone currently enjoying a deeper discount (prime -0.50 or more) to stay where they are, unless they are feeling uncomfortable with all the economic volatility. Anyone with less of a discount may want to consider switching to take advantage of today's historical low rates, which may be very similar to what you are paying right now. It may also be a great time to consolidate any higher interest debt into your mortgage to take advantage of such low rates and lowering your overall monthly payment significantly.