Overview of Rule Changes
Change No.1
The Liberal Government has recently introduced 4 essential changes in current Canadian housing and mortgage rules. It is difficult to state that Canadian homebuyers were in a vulnerable position but announced adjustments intended to ensure additional protection of citizens from mortgages they cannot afford. They focus mostly on interest rates, which may seem difficult to pay off. Current housing policies obligate buyers to purchase a house with a 5% to 20% down payment and pass a stress test (Wood, 2020). In contrast, 20% or more down payment results in low ratio mortgage insurance and not obligating customers to pass the stress test. 4 new rules serve the purpose to assist Canadian homebuyers and home sellers and address concerns associated with foreign buyers.
Change No.1 makes it necessary for all homebuyers to pass the stress test, regardless of the down payment size. It serves the purpose of ensuring the affordability of the mortgage for a particular customer in case interest rates would increase for any reason in the future (Wood, 2020). Thus, qualification for a mortgage with a fixed interest rate is now due. The first change also adds two more regulations accompanying the stress test. The first is the assessment of the total percentage of income to carry the cost of owning a home. This value should not be more than 39% of the total income (Wood, 2020). The second is the total debt service ratio assessment, which includes all debt payments a potential buyer already has; thus, this value should be less than 44%.
Change No.2
The second change concerns customers that are looking for government-backed insurance for low ratio mortgages. There is a set of new requirements, in accordance to which any applicant should be qualified. Thus, the amortization period of the mortgage should be 25 years or less (Wood, 2020). The purchase price of the house should be less than $1 million (Wood, 2020). The property intended to be bought must be owner-occupied. Finally, a buyer’s credit score must be at least 600.
Change No.3
The third rule announced is more intended against frauds committed by foreign buyers. Now, homeowners are obligated to report the sale of their residence to the Canada Revenue Agency. This way, the capital gains tax still is to be waived (Wood, 2020). This regulation will prevent foreign buyers from purchasing Canadian homes and claiming the capital gains exemption when they sell the house. Even though the described fraud is not frequent, the newly introduced regulation can prevent such cases. Thus, it serves additional protection method that should be paid attention to.
Change No.4
Finally, the last rule announced affects the level of risk that lenders take on when they provide a customer with a mortgage. Under defaults terms, an insured mortgage is assumed to have 100% of the risk (Wood, 2020). Potentially, the government will require lenders to take on a percentage of that risk. This rule may significantly affect the perception of high-risk loans and may bring additional opportunities and challenges to lenders.
How Rule Changes Have Impacted Businesses
With respect to new housing and mortgage rules, the business primarily affected are mortgage brokers. It is possible to assume that many of them work for an independent mortgage company, having multiple lenders. It enables to offer multiple options and various interest rates to potential buyers, depending on a number of factors (McCallum, 2016). Regarding the introduced changes, both beneficial and disadvantageous nuances can be outlined to create a complete insight into the effect of new rules.
Thus, now it is ensured, by the stress test, that a customer can afford to take a loan to purchase a house. Therefore, pre-determined risks for lenders that their investments would not be paid off are significantly lowered. It is possible to expect a positive inflow of new lenders, attracted with higher integrity of investing in mortgage companies or becoming lenders of a mortgage company. At the same time, in accordance with change No.2, the new requirements are harder to comply with, despite lowering a credit score from 680 to 600 (McCallum, 2016). It can be predicted that fewer customers will be qualified for government-backed insurance, and thus, will be charged more by mortgage companies. It is also beneficial that foreign buyers cannot sell houses without paying capital gains. It may stabilize the market but is not expected to influence businesses significantly. In contrast, there is a significant challenge, which is the change in the level of risk lenders take on. Potentially, well-known default mortgages will be considered high-risk ones, making them less affordable for customers.
Risk Assessment
Risk Identification
There is a substantial risk that default debts offered to customers will be considered high-risk ones, artificially making lenders set higher interest rates to justify the risks taken. The other danger is that all the customers, regardless of their income, and especially first-time homebuyers, are decreased in affordability because of the new rules (McCallum, 2016). Being intended to ensure a person can pay the debt off, the changes make it more difficult to purchase a house for many potential buyers. Considering that now people often may not be capable of choosing a house they like because the proportion of their income they would have to spend is more than 39%, the number of buyers may drop. Those described above are risks not to have enough clients willing to purchase a house, while the number of lenders is expected to grow.
Risk Assessment
The likelihood of the risk is considered either “likely” or “possible” because the general tendency for Canadians to buy more and more houses and to raise competition between lenders may nihilate the effect of regulations. Consequences possible are major, as they would directly deteriorate profitability of mortgage companies left without a significant portion of customers who are not allowed to take a loan to purchase a house any longer.
Risk Control Measures
For obvious reasons, it is not possible to eliminate the hazard from the business environment. However, it is possible to affect interest rates, making them more affordable. It would result in lower profitability for lenders but increase the number of potential buyers that can pass the stress test and are currently allowed to take a loan. For this purpose, an increase in the number of lenders and, respectively, in the level of competitiveness is due.
Monitor and Review Control Measures
It may be difficult to evaluate their outcomes because of the certain degree of unpredictability the outlined control measures possess. However, it is still possible to stock the three statements for assessing the results of activities conducted. For this, it is needed to define if planned control measures are sufficient and effective, have there been any changes to the planned measures, and are the control measures required in the future. For this purpose, monthly reports for interest rate monitoring should be prepared. Additionally, the efficiency of measures for attracting new lenders should be evaluated.
Recommendations for Moving Forward
Some of the potential strategies may be focused either on assisting customers in choosing houses they are qualified to take a loan for or on increasing the number of lenders, making them compromise their interest rates, considering the established state of affairs. Thus, kind explanations to customers about the consequences of new interventions should be added in the general set of points to discuss (McCallum, 2016). Most first-time homebuyers would require a mortgage broker’s help with choosing a house it is possible to take a loan for. Such measures would reduce the number of clients that would decide not to make a purchase.
Moreover, it should be ensured that marketing campaigns focused on attracting new lenders make the increase in safety of lending to mortgage companies obvious. At this stage, new independent investors should not be asked to compromise the interest rates (McCallum, 2016). Thus, making default mortgages high-risk ones would likely increase interest rates, while the increase in the number of lending options would, on the opposite, lower it. Thus, lenders can still consider mortgage companies profitable businesses to trust money to.
References
McCallum, G. (2016). Canadian mortgage rule changes october 2016 – Winners and Losers. FirstFoundation. Web.
Wood, C. (2020). Major changes to canadian housing rules 2016. LoansCanada. Web.