Yahoo Finance Why the mortgage stress test is likely here to stay, even as qualifying rates hit 8%
Last week’s Bank of Canada interest rate hike has pushed the qualifying rate under Canada’s mortgage stress test to above eight per cent for many borrowers, raising questions about whether the test is too strict.
The concerns come as regulators prepare to announce a review of the stress test on Dec. 15. On Friday, the Office of the Superintendent of Financial Institutions (OSFI), Canada’s top banking regulator, poured cold water on calls to amend the formula amid soaring interest rates, which have climbed 400 basis points so far this year,
“We see great risk in speculating on the mortgage rate cycle, and we do not consider the minimum qualifying rate to be a tool to manage the demand for housing,” OSFI superintendent Peter Routledge said in a statement. “We see the minimum qualifying rate as an underwriting practice that adds an important safety buffer to residential mortgage portfolios, the largest exposure Canadian lenders have on their books.”
In 2018, the Canadian government rolled out the mortgage stress test. Since then, federally regulated lenders have been forced to ensure borrowers could still afford their payments at an interest rate two percentage points higher than the contract rate being offered.
With the big banks now offering a prime lending rate of 6.45 per cent following the latest Bank of Canada rate increase, the qualifying rate for many mortgages will exceed eight per cent.
Dan Eisner, chief executive of True North Mortgage, said that since Wednesday’s rate hike, a homebuyer must earn around $200,000 a year to afford a million-dollar home.
“A typical client has $10,000 worth of credit card debt and a car payment so you’re going to have to be making about $200,000 a year to buy that home with a 20 per cent down payment … given that you have some other debt,” Eisner said in an interview.
Average home prices in Toronto and Vancouver both exceed the million dollar threshold, while the national average home price stood at $644,643 in October, according to the Canadian Real Estate Association.
While OSFI put the emphasis on protecting lending portfolios, the stress test does so by giving borrowers a buffer in the event interest rates rise or their personal financial situation changes, such as through job loss or a drop in income. It also ensures borrowers have some protection against other changes in the economy, such as recessions or the climbing cost of living. Currently, all of those issues are at play.
Even before Routledge’s statement was released on Friday, most mortgage industry professionals suspected that OSFI planned to leave things as they are when it announces its review this week.
“I would say that the stress test is proving its value,” Robert Hogue, assistant chief economist at the Royal Bank of Canada said in an interview last week. “It was largely designed to protect against what we’ve experienced since March — a sharp rise in interest rates — and to ensure that the vast majority of borrowers are able to manage the increase and not get in trouble. This is a very important safeguard tool that is in the policymakers’ toolbox.”
While Hogue said a case could be made to soften the buffer as the odds that rates rise by another two percentage points have diminished, he said there is still too much uncertainty about the path of the economy.
“I suspect that OSFI is going to leave things as they are,” he said.
Bank of Montreal economist Robert Kavcic said he sympathizes with borrowers.
“Fundamentally, the issue here is that the stress test was really designed to operate in an extraordinarily low interest rate environment, under the assumption that that period was not normal,” Kavcic said in an interview. “Now that we’ve gotten back to a period that’s more normal, I can sympathize with the question out there, ‘Do we still need to qualify people 200 basis points above rates that are on the ground today?’ ”
Although Kavcic sees areas for improvement when it comes to the MQR, he thinks it may not be the right time for OSFI to make changes.
OSFI raises capital buffer for big banks to 3% as household debt risks rise
Montreal home sales down 38% to one of the lowest levels on record
“On the other side of it, is now really the best time to make changes as we potentially go into an economic slowdown?” Kavcic said. “Maybe rates are peaking, but we also could be facing an income shock over the next year or so if the economy goes into a recession.”
Karen Yolevski, chief operating officer of Royal LePage Real Estate Services Ltd. doesn’t believe that OSFI will make any changes to the MQR simply because regulators strongly believe in the purpose of the test which is to ensure that borrowers can keep up with their mortgages.
“The purpose of the test has been well established since its initiation and I don’t think that that reasoning has changed for regulators,” Yolevski said in an interview. “So for that reason, I don’t think that they’ll make a change now.”
• Email: shcampbell@postmedia.com
