Canada’s national housing agency isn’t just forecasting price declines, they’re preparing for them. Canada Mortgage and Housing Corporation (CMHC) announced changes to its mortgage insurance. Homebuyers with less than 20% down should now expect lower debt service maximums, a more stringent credit quality check, and a ban on borrowing down payments. If those sound like good things, that’s because they are… unless you’re trying to sell the borrower a home.
Maximum Debt Service Ratios To Decrease
The new policies lower the maximum debt service ratio – the amount of income used to make payments. The maximum gross debt service (GDS) will be set firmly at 35%, from a maximum of 39%. The maximum total debt service (TDS) will drop from 44% to 42%. The higher ratios were only available at some lenders, for people with excellent credit scores. However, that option will no longer exist – at least for the next few months.
What kind of impact will that have on buyers? This should translate to a drop of 11% in buying power for someone with few to no bills other than their mortgage. Additional debt would weigh it down further. Once again, this was only available to people with great credit, but no longer is an option. Most likely because the next rule is you need better credit to qualify anyway.
Canadian Homebuyers Will Need A Higher Credit Score
The CMHC is looking for higher quality credit for insured mortgages. The new minimum for credit scores will be 680, up from 600. In Equifax terms, this means credit considered “fair” will no longer qualify as a minimum. This is similar to an informal trend in the US earlier this year.
How this impacts the market will be a little more tough to estimate, but we can give you an idea. Equifax data shows just 14% of the total mortgage market would rank above that threshold. Now, not all of those are insured mortgages – which are more likely to have more green credit. An additional data point to consider TransUnion recently told clients 5.5% of accounts moved from the prime to non-prime segment. This trend is expected to accelerate, as a “severe” scenario plays out. Their words, not mine.
Say Goodbye To Borrowed Down Payments
The CMHC will no longer count borrowed and insured funds as equity. This would mean people will have to find the whole down payment. Tragic, I know. Data from Mortgage Pros Canada (MPC) shows 52% of first-time homebuyers borrowed funds for a downpayment. Two-percent of first-time buyers borrowed 100% of the down payment from family. Another 5% relied on loans for at least half of their downpayment, but less than the total. The impact most likely wouldn’t deter these buyers, but instead delay them. An important point if a sudden spike of liquidity were to occur, like a negative cap investor sell off.
Insured Mortgages Represent 35% of Mortgages In Canada
How big is the insured market? Insured mortgages represent 35% of mortgages at chartered banks. The majority are likely recent buyers, since very few markets would have less than 20% equity over 5 years. MPC data shows from 2015 to 2019, 49% of first-time buyers had a downpayment smaller than 20%. So it’s a substantial portion of the market.
The CMHC manages insurance for mortgages, therefore assessing risk is a primary task. If they’re putting up hurdles for buyers, it’s to prevent default risk (and taxpayer liabilities) from climbing. They didn’t just forecast real estate price declines last month. They’re now preparing to avoid exposure to these declines. In the insurance industry, this is putting their policy where their mouth is.
So what? It’s just the insured market, the general market is going to be fine, right? An easy way to understand the short-term impact here is to do what all Realtors say – think of the market as a property ladder. As buyers on the first rung move up, they need to find someone to take their position. If home prices are falling, and there’s a smaller pool of qualified buyers – they may not be as motivated to move. With fewer buyers ready to take on financial risk, shrinking demand works its way up the ladder.
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