New Mortgage Rules in Canada: Too Little, Too Late?

In a press release dated February 16, 2010, the government of Canada announced new rules for mortgage funding:

The Honourable Jim Flaherty, Minister of Finance, today announced a number of measured steps to support the long-term stability of Canada’s housing market and continue to encourage home ownership for Canadians.

“Canada’s housing market is healthy, stable and supported by our country’s solid economic fundamentals,” said Minister Flaherty. “However, a key lesson of the global financial crisis is that early policy action can help prevent negative trends from developing.

The Government will therefore adjust the rules for government-backed insured mortgages as follows:

• Require that all borrowers meet the standards for a five-year fixed rate mortgage even if they choose a mortgage with a lower interest rate and shorter term. This initiative will help Canadians prepare for higher interest rates in the future.
• Lower the maximum amount Canadians can withdraw in refinancing their mortgages to 90 per cent from 95 per cent of the value of their homes. This will help ensure home ownership is a more effective way to save.
• Require a minimum down payment of 20 per cent for government-backed mortgage insurance on non-owner-occupied properties purchased for speculation.

“There’s no clear evidence of a housing bubble, but we’re taking proactive, prudent and cautious steps today to help prevent one. Our Government is acting to help prevent Canadian households from getting overextended, and acting to help prevent some lenders from facilitating it,” said Minister Flaherty. “If some lenders aren’t willing to act themselves, we will act. These measures demonstrate the Government is committed to taking action when necessary to support the long-term stability of a sector that is so vital to our economy and the financial well-being of Canadian families.”

These adjustments to the mortgage insurance guarantee framework are intended to come into force on April 19, 2010.

In October of 2008 the government tightened the rules, requiring all borrowers to have at least a 5% down payment, and for mortgage terms to be no longer than 35 years. These rules apply to all borrowers who required CHMC insurance.

What does this mean?

It means that it is no longer as easy to qualify for a mortgage as it was three years ago. Back during the housing boom (say in 2005, 2006, and 2007) you could get a mortgage with no money down, and you could stretch out the amortization for 40 years to reduce your monthly payment, meaning you could qualify for an even bigger home. You could continually refinance your home as house values increased.

So what’s the problem? Why should we care what the government is doing with mortgage insurance?

For most people a mortgage is the single largest amount they will ever borrow. The more you borrow, the greater the chances are that you will experience financial trouble (see my previous article on Debt in Canada: The Ticking Time Bomb). (Of course the greater your debt, the more likely you are to get scammed trying to deal with your debt, as discussed in Debt Management and Debt Settlement Plans: Scams, or a Good Alternative to Bankruptcy in Canada?). It would be logical to conclude that the less we borrow, the less likely we are to experience financial problems.

As a bankruptcy trustee in Canada, I have personally met with hundreds of people who have, over the good years, used their home as their personal ATM machine. They had credit card debt, but since their home had increased in value, they were able to refinance their home and use the money to pay off their credit cards. I have met with many people who did this many times. Every two years, when they needed money, they refinanced their home. They would increase their mortgage and use the money to pay off their credit cards, and also get a reduced interest rate.

That strategy works when house prices are increasing, but over the last two years house prices in many areas of Canada have stabilized or fallen, so that when you apply to refinance the bank may say “sorry, you don’t have enough equity.” That’s the problem many Canadians are now facing: high debts, but no ability to refinance.

Should we blame the federal government for tightening up the mortgage rules at precisely the time more Canadians are dependant on debt?

The cynic would argue that the government should have tightened the rules a few years ago, to prevent the problems we are now facing. I personally don’t spend time worrying about what the government is doing. I prefer to focus on what I can do; I’m a big believer in taking personal responsibility for my own situation, regardless of what the government may or may not do. The new rules are a wake up call for all of us. Here’s my approach:

Start by assuming that your house will not continually increase in value forever, and may even decrease in value over the short or medium term. Knowing that, don’t expect that you will be able to refinance to solve your credit card debt problems.

Then, take steps to reduce your debt. That may mean selling your house and using the proceeds to repay your debts, and buying a smaller house, or renting. I know it’s a shock to most people, but a house is NOT an investment. There are periods of time when a house may increase in value, but there are also times, like the last two years, or during the late 1980’s and early 1990’s, when houses decrease in value. You must be prepared for both the good times and bad. You can’t rely on your house to save the day, so start reducing your debt now.

If you already have too much debt, make a budget and repay your debt on your own, or file a consumer proposal, or even consider bankruptcy. If you plan to buy a house in the future, save for as large a down payment as possible. With a large down payment, your monthly payments are lower, you can probably negotiate a lower interest rate, and you don’t have to worry about whatever new rules the government might propose for mortgage insurance.

The world is different today than it was a few years ago, so take stock of your situation, and take action to protect your future by keeping your debt as low as possible.