Landing an affordable mortgage may become even more difficult in Canada if the country’s banking regulator moves forward with rules reducing the length of uninsured home loans.
The move — if it happens — is meant to prevent a housing market collapse in the face of record-high prices, record-low interest rates and the appearance of potentially irresponsible lending practices.
But it will likely raise the alarm in the home lending industry, which has already been complaining about Finance Minister Jim Flaherty’s move last year to tighten mortgage rules.
Flaherty last year reduced the maximum length of a mortgage covered by Canada’s government mortgage insurer, CMHC, to 25 years from 30, and reduced the amount you can borrow against the value of your home.
But the Office of the Superintendent of Financial Institutions (OSFI), which regulates Canada’s banking sector, is apparently growing worried about uninsured mortgages — those not covered by CMHC.
OSFI is contemplating limiting the maximum length for any mortgage to 25 years, from the current 35, according to Canadian Mortgage Trends.
If that were to happen, lenders would no longer be able to reduce monthly payments by stretching out a mortgage’s amortization over 35 years, and monthly payments for many prospective borrowers would have to be higher. That, in turn, would price some people out of the market.
The Globe and Mail cites a banker's estimate that about 40 per cent of uninsured mortgages have amortization periods greater than 25 years.
The volume of home sales in Canada was 25 per cent lower in April of this year than it was during the same period last year, although prices have held up and are still about 62 per cent higher, on average, than in the U.S.
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Some economists expect prices to start following the downward trend in sales at some point this year. Will Dunning, an economist with the Canadian Association of Accredited Mortgage Professionals, predicts house prices will start falling this year and has estimated that Flaherty’s rule changes will kill 190,000 jobs related to construction and real estate. Further tightening of the rules would likely further dampen housing activity.
(Not everyone agrees that Flaherty’s rules began the housing market’s slide, as evidence exists some weaker elements of the housing market were already in decline when the rules were put in place.)
In an email to the Globe and Mail, OSFI stressed no decisions have been made.
“We are working to determine the desirability of some changes given current conditions in housing markets and recent trends in household indebtedness,” OSFI spokesman Brock Kruger told the Globe.
Flaherty, Bank of Canada Governor Mark Carney and OSFI have all expressed concerns that Canada’s housing market has become overheated, with prices rising too high and borrowers taking on too much debt.
But the industry has been busily working against Flaherty’s attempts to cool the market, offering rock-bottom interest rates and various forms of discounts and rebates.
Canadian lenders have to get CMHC insurance for any mortgage on which the buyer puts less than 20 per cent down. But in the wake of the tougher CMHC rules, lenders have been increasingly turning to uninsured mortgages with longer amortization periods to get people to buy homes.
Even before the new rules came in, OSFI appeared concerned that segments of Canada’s housing market are beginning to resemble the subprime lending mess in the U.S. in recent years.
Home Capital, a lender that focuses on customers who have been rejected for mortgages by the big banks by offering uninsured loans, was recently singled out by a renowned hedge fund manager as a company that could be in big trouble if house prices decline. (Home Capital claims that everything is fine with its business model.)
Other market observers and investors have even suggested Canada’s banks could face financial difficulties due to their exposure to Canada’s housing market.
“Our review reveals that the average loan/value ratios of U.S. banks just before the housing collapse are similar to those we currently see on residential loans in Canada,” investment research firm Morningstar recently said in a report.
“More important, their distribution is eerily similar. … [I]t appears that the CMHC and the banks have significant risk of losses or impairment to capital levels.”
Despite the negative sentiment recently, Canada’s banks continue to ride high in the rankings of the world’s safest, and economists from Canada’s big banks pretty much unanimously agree the housing market is in for a soft landing, and not a U.S.-style collapse.