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It’s not a bubble – It’s a devastating storm

Real estate lawyer, closing costs

I believe it is everyone’s right to have a safe and affordable home to raise a family.  The reality in today’s economy is quite the opposite.  I see people making desperate decisions to buy a home out of their price range for fear that they won’t be able to afford anything similar if they wait.  They are maximizing their credit cards, borrowing more from parents and cutting back on certain activities for their children just to make ends meet.

I had recently quoted Benjamin Tal, Chief Economist with CIBC World Markets, who spoke of a generation that is going to “inherit inequality”.  I won’t event attempt to explore the depth of the subject, but suffice it to say that there is a growing demand on rental units.  Just yesterday, I had a client that is selling her home because she can’t afford to live in it.  Yes, she intends to bank the little amount of equity she will get out of selling her home and rent.  I see this trend more and more.

The implication of what Tal was saying is that, if you are not a home owner now that you may not likely be a homeowner in the near future given the trend of skyrocketing home prices.  And, today’s Globe and Mail article about Ontario pushing Ottawa for some form of tax on speculative buyers or increasing the capital gains tax is a sign that governments recognize the seriousness of the problem.

Just think, you have people buying properties based on speculation of profiting, low inventory of homes on the market and first time home buyers trying to get into the market.  How does a first time home buyer compete with an investor with very little homes for sale?

Don’t get me wrong.  I don’t criticize investors.  After all, they have children for whom they want to provide a home and ensure a financial nest egg for themselves.  I get it.  But, if average people can’t afford to buy their own home and must turn to renting, that will put a corresponding strain on all levels of government, primarily provincial and municipal, to provide affordable housing.  It is a storm brewing like no other.

Ironically, I know that builders are in tune with this growing demand for rental housing units and have already started building a mix of condominiums and rental apartments.  The only issue is that market pricing remains an issue because demand is growing for good rental units.

My question is whether all levels of government can create a unified strategy in concert with builders whereby builders have the right incentives to build affordable rental units for growing families?  A grand idea perhaps, but if it works, would this not be a more cost effective alternative to managing government deficits and pressure to keep increasing tax revenues?  Just saying……

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“WHY” the new stress test lending requirements?

 

stress-test

The federal government, bless their heart, have implemented a financial stress test for homebuyers effective October 17, 2016.

Qualifying for a mortgage has always been a “stress test” for borrowers but we never called it that.  The federal government tweaked their lending rules in four substantive ways:

  1. Banks now have to assess mortgage applicants against the Bank of Canada’s five-year fixed rate (currently 4.64%);
  2. No more than 39% of your total household income can go towards your housing costs such as utilities, property taxes, mortgage and home insurance;
  3. You must have a minimum credit rating of 600; and,
  4. Amortization must not exceed 25 years.

In the past, homebuyers could qualify under the bank’s five-year variable rate (currently under 3% for most financial lenders).  Now, of course, the new lending rules mean that many new homebuyers or high ratio borrowers will have to wait until they have a larger down payment or consider buying a cheaper home.

Quite frankly, the new lending rules are most unfair to first-time homebuyers.  Others before them got away with much more lenient lending rules and, as a result, were able to buy their new home.  That doorway has now been closed.

Why the new lending rules by the federal government?  Many know that the federal government, through the Canada Mortgage and Housing Corporation (“CMHC”), insures high ratio lenders.  Those are individuals that put less than 20% and more than 5% down on the purchase of a home.

The federal government has legislated a $600 billion limit on the total dollar amount of its mortgage insured loans and, the current balance of CMHC insured outstanding loans sits at $523 billion as of 2016 Q2.  The upper cap of $600 billion is almost maxed out.

In looking at the CMHC Mortgage Loan Insurance Highlights 2002 – 2016 Q2 https://www.cmhc-schl.gc.ca/en/hoficlincl/homain/stda/data/data_005.cfm, it appears to me that the federal government wants to stabilize the risk to itself and to homeowners from the volatility of the market.

Although there are several CMHC indicators which remain consistent (such as the average loan to value ratio of CMHC insured homes remaining between 53% to 55%), the soft and unpredictable economy coupled with other CMHC indicators suggest borrowers are being more aggressive in their borrowing habits.  In my view, this trend is concerning to the federal government.

Looking at some CMHC statistics and specifically, CMHC insured households:

  • the average loan amount per household prior to 2015 sat around $140,000 and increased in 2015 to $175,000; that’s an average increase of $35,000 insured per household;
  • the number of insured households per quarter:
    • 2013 Q1 – 52,000;
    • 2013 Q3 – 114,000 (highest prior to 2016 Q2);
    • 2014 to 2015 Q4 range of 50,000 to a high of 91,000;
    • 2016 Q1 dropped to 63,700 households; then,
    • 2016 Q2 dramatic spike to 117,500 newly insured homes (highest ever).

When you consider the recent spike of $35,000 in the average dollar amount insured per household and the highest jump ever in 2016 Q2 to 117,500 of insured households, these raise huge concerns for the federal government.  Clearly, first-time homebuyers are caught up in the buying frenzy and bidding wars.  With the stagnant low interest rates, people are making more and more aggressive bids, including high ratio borrowers which is likely contributing to the overall increase in the average insured amount per household.

When you also consider the borrowing trend of high ratio borrowers insured by CMHC/federal government alongside a recent report (http://www.huffingtonpost.ca/2016/07/21/canada-economic-outlook_n_11108646.html) that downgraded Canada’s economic growth forecast to 1.4% for 2016, plus the fact that the Bank of Canada is hard pressed to increase its lending rate, the federal government stepped in to tighten its lending rules for high ratio (and low ratio) borrowers.

In the event the “bubble bursts” in the housing market, the symptom will be the decline or attrition in housing prices while the substantive socio-economic impact will be families losing their home.  This is what, I suspect, the federal government wants to avoid.

Article written by Karmel Sakran

Oct. 19, 2016