On Tuesday, the federal government announced plans to ease stress test requirements for borrowers who carry mortgage insurance.
However, the plan does not waive the stress test requirement for uninsured borrowers, who represent 71 per cent of all mortgage balances in 2023, according to the Canada Mortgage and Housing Corporation.
This means Canada’s 4.6-million uninsured mortgage holders will still need to pass a stress test if they want to renew their mortgage with a different bank. For uninsured borrowers, stress test rules require that a borrower be able to afford an interest rate of 5.25 per cent or two per cent higher than contract rates — whichever is higher.
In today’s high interest rate environment — where the Bank of Canada has raised its overnight rate more than four per cent in just one year — mortgage holders may be unable to meet this test, meaning they’ll be forced to stay with their existing lenders.
“People are at the mercy of the banking institutions,” said a mortgage specialist at a major financial institution, who Canadian Affairs agreed not to name because speaking out would affect her position. “The consumer has no power right now.”
Cannot afford to leave
At mortgage renewal time, if borrowers stay with their existing bank, they do not have to requalify, multiple sources said.
“At RBC, we do not require clients to requalify for their mortgage at renewal,” Jeff Junke, a Royal Bank of Canada media relations officer told Canadian Affairs in a statement. BMO, CIBC and TD did not reply to this question.
“For clients facing hardship or those who can’t afford their payment, we work together to find solutions to help clients manage their mortgage and continue to make payments,” Junke said.
Solutions might include “refinancing their mortgage, using available savings to pay down part of their mortgage balance, extending the amortization period or skipping payments,” he said. Refinancing can include switching from a variable to a fixed-rate mortgage. Payment skipping can involve the bank changing a payment date or permitting a missed payment.
What uninsured homeowners may struggle to do is get a better rate from another bank when their mortgage renews.
“Many people cannot afford to leave their banks because they cannot qualify [elsewhere] for the same mortgage,” said the mortgage specialist.
This is not good news for homeowners. It gives banks a monopoly over homeowners and their interest rates, says Thomas Davidoff, associate professor at the University of British Columbia Sauder School of Business.
Banks “can charge whatever interest rate they want,” said Davidoff, who is also director of the UBC Centre for Urban Economics and Real Estate.
Homeowners lose their negotiating power, said the mortgage specialist. “They are in the hands of their lender. They need to take what is being offered.”
What this means is a homeowner would not be able to negotiate the rate down by a half point, the mortgage specialist said. On a $500,000 mortgage balance, a borrower at a 5.5 per cent mortgage rate would pay $143 more per month than if he had been able to negotiate a five per cent rate.
This cost adds up. The borrower in this scenario would spend $8,600 more on interest in a five-year term compared to if they’d received a rate that was a half-point lower.Â
‘Down the drain’
Clients are turning to other means to afford their payments. The mortgage specialist says she sees clients renting out a room in their home or taking second jobs as housing payments go up.
“People are working Uber or another second job on the side,” said the mortgage specialist.
And in most cases, budgeting gets tighter.
In a May 2023 Angus Reid poll, 71 per cent of fixed-rate mortgage holders and 65 per cent of variable-rate mortgage holders said they had cut back on discretionary spending in the last few months. Thirty-nine per cent and 44 per cent, respectively, said they had deferred making contributions to an RRSP or TFSA.
“Elective purchases just go down the drain, and elective doesn’t necessarily mean luxurious,” said Davidoff. “Lessons for the kids… might go by the wayside.”
Despite higher interest rates, Davidoff does not believe Canada will see a large wave of defaults. Defaults tend to be triggered by job losses and employment in Canada remains strong.
“Certainly the economy’s slowed. But we’re not seeing high unemployment yet,” he said.
But for homeowners who do default, the consequences can be serious. The lender can force the sale of the mortgaged house. And if the sale price of the house is not sufficient to pay off the mortgage balance, the lender can generally go after the borrower’s other assets or income to cover the shortfall.
Despite the interest rate increases, home prices haven’t fallen much, Davidoff said. While this creates an affordability problem for purchasers, for existing homeowners, it is likely that the value of their homes still exceed their mortgage balances.
Editor’s Note: This article has been updated to reflect a correction in the amount a fictional borrower would pay over a five-year term.
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