New rules on mortgages were just introduced by the federal government October 17th to make sure that new homebuyers are not taking on more debt than they can afford with a potential rise in interest rates.
What are the new rules?
The new rules apply to all homebuyers who have an insured mortgage, which is a mortgage in which a down payment of less than 20 per cent is provided. While you’ll still be paying the bank’s current rate for your mortgage, you have to qualify for a mortgage at a higher interest rate. Currently, the Bank of Canada’s stress test rate is 4.64 per cent, while the average mortgage rate is 2.5.
This means that a borrower will qualify for much less of a home value than they would previously. An example used by a mortgage broker in this article breaks down this way:
- Salary: $70,000 in combined income
- Debt: $500 of non-mortgage monthly debt payments (e.g. car loan)
- Qualified value pre-Oct.17: $370,000
- Qualified value post-Oct.17: $270,000
It is important to note that despite improperly fact-checked media reports, the rule does not just apply to first-time homebuyers, but rather all buyers who have less than a 20 per cent down payment.
How does this apply to landlords?
As we’ve cautioned in a previous piece on whether or not being a landlord will make you rich, you shouldn’t be considering purchasing a first or second rental property unless you are financially prepared to shoulder the cost, so the new rules shouldn’t apply to most financially savvy landlords. It does put a damper on the dreams of many Canadians hoping to purchase their first rental property.
Many properties in the GTA market come at a high price, so those who were looking to buy a detached home to rent out to a family may have to downsize their expectations to a townhome or a condominium, or put things off for a few years entirely.
The most obvious thing to do to get around the rules is to come in with a higher down payment above the 20 per cent cutoff – but this isn’t practical for many who are purchasing their first rental property.
So what can I do if I want to buy my first rental property?
Ideally, you’ll enlist both a mortgage broker and a financial planner to help you with figuring out what you can and can’t afford under the new rules. Once you have that number, figure in a stress test of your own – could you continue to pay your household bills and the bills for a non-tenanted property in the event of a job loss or a lengthy illness? If the answer is no, you have to decide if you are comfortable with that risk. However, with the new rules, the risk of not having tenants just got much lower.
Whatever you do, don’t look to the “shadow lending” market in which you can get a mortgage for your preferred amount, but at double-digit interest rates that will eat away at any profit you may have realized from tenants. This is a very bad strategy for someone who wants to be a landlord.
New rules create more of a landlord’s market
Young couples, singles and families who were looking at buying their first home will now have to put off their dreams of home ownership for a few years, or until their incomes rise and their debt levels lower. Where landlords have had no problems filling vacancies before, it’s virtually guaranteed that there will be more renters on the market now than there were before October 17, 2016.
In that sense, this is a very smart time to get into the market – just make sure you are planning for the long term when this glut of renters move into the homeowner category. While it’s an exciting opportunity, it’s important to balance the reward with the risk of overextending yourself – which is precisely what the new rules are forcing Canadian homebuyers to avoid.