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Flaherty announces mortgage crackdown

Dana Flavelle & Les Whittington – Yourhome.ca

Thousands of would-be homeowners – particularly young, first-time buyers – will find it harder to acquire their dream house under federal mortgage changes meant to cool the red-hot real estate market.

“It’s going to push the borderline first-time home buyers out of the real estate market,” predicted Derek Holt, vice-president, economics, of Scotia Capital.

The new rules, which go into effect April 19, mean borrowers must have higher incomes or larger down payments, or opt for cheaper properties, finance officials explained.

Federal Finance Minister Jim Flaherty unveiled the new measures Tuesday as part of a larger package that also took aim at “reckless real estate speculation” and excessive refinancing, which he likened to using your home “as an ATM machine.”

But the centrepiece of the announcement is one that requires lenders to use tougher criteria when assessing borrowers’ ability to carry a loan.

The rule applies only to insured loans, extended to borrowers with less than 20% as a down payment. Nearly all first-time buyers fall into this group, according to industry data.

Currently, lenders test a borrower’s ability to repay using the three-year mortgage rate as a yardstick, even if the homebuyer is planning to opt for a short term at a lower rate. The three-year rate is now around 4%.

On Tuesday, Flaherty announced that lenders must now use the five-year fixed rate as their stress test as of April 19. The five-year rate at most banks is currently about 5%.

That’s more than double the cheapest rate, which is 2.25% on an open variable mortgage that floats with the market.

Comment: Actually, the best 5-year variable rates are 1.95%. And will the banks make you qualify on their posted 5-year rate, or the discounted rate that people actually get? That one percent difference is huge.

In practical terms, the new rule raises the bar for home ownership, even though it doesn’t raise the borrowers’ out-of-pocket expense. Borrowers can still opt for lower rates and shorter terms but must meet the higher standard, at least on paper.

For example, a borrower earning $59,626 a year could afford a $377,000 mortgage under the old rules.

After April 19, that borrower would need to be earning $68,838 to qualify for the same loan, according to TD Canada Trust.

The move comes in response to rising household debt levels and fears Canada’s record low interest rates could fuel a “bubble” followed by a U.S.-style real estate crash. While denying housing prices are dangerously overinflated, Flaherty said the real estate boom is fostering risky investment habits, rampant speculation and other excesses.

“Our government is acting to help prevent Canadian households from getting overextended and acting to help prevent some lenders from facilitating it,” Flaherty said.

The government also announced real estate speculators would have to come up with a 20% down payment, up from the current 5% minimum.

Comment: And how do they plan to enforce this? How can you prove someone is buying as an investment? New condo builders already charge a 20-25% down payment, so it would affect only resales. But there is no way to police it.

Flaherty also reduced the amount people can borrow against their homes to 90% of its value from 95%.

Banks and mortgage brokers, who feared the government might opt for more stringent measures, applauded the announcement, saying it would have a minimal effect on consumers or the housing market.

The difference between a five-year rate and three-year rate is only one percentage point, noted Tim Hockey, president and chief executive officer of TD Canada Trust.

“The measures seem to be quite balanced,” Hockey said.

And while they’re likely to have a “cooling effect,” he said buyers will still be in the market but more realistic about what they can afford.

Some economists, however, said it might have an unintended short-term consequence if more buyers rush in to clinch their deals ahead of the April 19 deadline.

“You’ll get a very hot spring market and a sudden softening in the back half of the year,” Holt predicted.

Doug Porter, deputy chief economist at BMO Nesbitt Burns, said it is more a case of short-term pain for long-term gain. He compared it to the Bank of Canada raising its trend-setting rate by a quarter of a percentage point.

Will Dunning, chief economist with the Canadian Association of Accredited Mortgage Planners, said his research shows that consumers are already acting cautiously and borrowing less than they could afford.

Heather Paterson, a senior mortgage broker with Invis, the country’s largest independent mortgage brokerage, said she has had several emails and phone calls from concerned clients. But only one client, who buys to invest, will be directly affected by the higher minimum down payment rule, she said.

The higher minimum applies only to properties that will not be owner-occupied, she noted. People buying cottages and second homes for their own use, or duplexes they plan to live in, can still buy with 5% down, she said.

Peter Aceto, president and chief executive officer of ING Direct Canada, said the measures are bound to have some dampening effect on the real estate market. But the rules affect mainly people who were going to be hurt anyway once rates started to climb, he said.

Flaherty decided against raising the minimum 5% down payment or shortening the maximum 35-year amortization period on insured loans but said all options remain open.

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Contact Laurin Jeffrey for more information  –  416-388-1960

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