Tuesday, February 16, 2010

Flaherty Changes Canada's Mortgage Rules

Verbal comments are always hard to assess when we are talking about something as concrete as mortgages and property purchases.

After reading about Flaherty's changes to mortgage rules in Canada, I find myself left with as many questions as answers.

The changes as described sound fairly innocuous:

(1) Under the new rules, all borrowers will need to meet standards for 5-year fixed-rate mortgages regardless of whether they're seeking a loan with a lower rate and shorter term.
(2) Also, the government is lowering the maximum amount Canadians can withdraw when refinancing to 90 per cent of the value of their homes, from the current 95 per cent.
(3) “We will require a minimum down payment of 20 per cent for government-backed mortgage insurance on non-owner occupied properties purchased for speculation"

The first item is probably the only one that appears to directly impact people who are getting into the housing market. It creates a situation where people will have to plan, and budget, as if they will be paying an interest rate 2%-5% higher than the lowest available. This will push some people who are on the edge of being able to afford a property out of the market.

What is left open as a question here is whether the high ratio mortgages ( < 10% downpayments ) continue to be eligible for CMHC insurance or not. There is a clear push here towards a floor equity position of at least 10% for primary residence and 20% for investment properties - I'm not sure if CMHC will continue to accept 5% downpayment mortgages for insurance or not.

I am actually a little surprised by the revelation that CMHC would underwrite investment property mortgages. I was under the impression that they existed solely to underwrite primary residence mortgages - apparently I was mistaken.

I don't see anything particularly evil about the changes for refinancing rules or for that matter the investment property mortgages. I'm not a big fan of reducing your equity position in your home below 10% to begin with. The costs of selling a property can absorb any gains made in the market when you are at a 5% downpayment position.

As for investment property purchases, I don't even think that CMHC should be underwriting those loans - if you don't have 25% down to enable you to take the mortgage out of the insured market, chances are you are tying up money that you will need at some future point anyhow and a more liquid form of investment would be a better choice.

With all of that said, what I'm really concerned about with Flaherty's changes to the mortgage game in Canada is whether he will trigger a sudden downturn in the housing market values as people at the lower end of the market withdraw entirely. If this happens, it will actually create a double whammy problem for those same people. Not only will it remove them from the home ownership market, but it will increase pressure on the rental market, driving up the cost of housing rentals.

Additionally, existing home owners will find themselves punished as their houses drop in value as the supply/demand balance resets itself. Given the fact we are in the early stages of coming out of a fairly severe recession, this kind of blow to people's overall financial position could also trigger a further retraction of consumer spending - thrusting us once again into a second recession.

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