To illustrate this, pretend you live in the typical Canadian household which makes about $66,343 a year. Perhaps your family has $500 a month in non-housing debt obligations. How much mortgage can you afford?
Well, maybe your name is ‘Mr. Leveraged’ and you want to stretch your budget. You can get yourself qualified today using a 3-year fixed rate of, say, 3.49%. That’ll get you a $314,000 mortgage, or thereabouts.*
If the new qualifying rules were in effect today, you’d get more buying power with a 5-year fixed mortgage. That’s because variable-rate mortgages and 1- to 4-year fixed terms would (will) require you to qualify using a 5-year posted rate. Posted is 5.39% today.
The qualifying rate on a 5-year fixed mortgage, however, might only be 3.75% (and even less with some lenders).
Having to qualify with 3.75% instead of 3.49% would knock Mr. Leveraged’s maximum mortgage down to $304,000. That’s a mere $10,000 less than he can get under today’s qualifying rules (which still apply until April 18, 2010).
This small loss in buying power isn’t that big a deal. The government’s new qualifying rate policy will not be an obstacle to people buying homes.
What it does, however, is funnel people with higher debt ratios and less equity into 5-year fixed mortgages.
Who’s happy about that?
Big Lenders: Because 5-year fixed terms are usually more profitable than variables or shorter terms.
Bankers and Mortgage Professionals: Because they often get paid more up front for selling 5-year fixed mortgages as opposed to shorter terms.
Many Others: Because 5-year fixed terms help: 1) Keep high-ratio applicants with less equity from overextending themselves; and, 2) reduce payment shock as interest rates start climbing.
Who’s not happy?
Qualified Homeowners Without 20% equity: Because many of them will no longer be approved for lower-cost variable-rate mortgages, 1- to 4-year fixed terms, or hybrid mortgages.
Smaller Non-Bank “A” Lenders: Because it’s harder to compete with big banks in the prime 5-year fixed market.
A final reminder for good measure: The new posted qualifying rate will not apply to all mortgages. CMHC says it will apply after April 19 only to insured mortgages with less than 20% down.
* The maximum mortgages were calculated assuming a 35-year amortization, 5% down, 680+ credit score, 44% maximum TDS, a 1% property tax rate, $100/month for heat, and a 3.15% default insurance premium. Median income source: 2006 census.