Has the federal government’s increased mortgage regulation done anything to cool Canada’s hot housing markets? Are they pushing homebuyers into unregulated mortgages and the growing shadow banking industry?
Some Canadians may be having a harder time buying a home due to the change in mortgage rules last year. As banks become more risk-averse, wondering if and when interest rates will rise again, new federal mortgage rules have made it that much harder for customers looking for short-term mortgages, home renovation loans or debt consolidations. Because of the new mortgage rules, they may be forced to consider riskier lending alternatives, including the shadow banking sector.
While it sounds like something out of a Bond film, shadow banking is a serious concern for the Bank of Canada, which keeps a close eye on the sector. As an unregulated option versus the regulated banks, it can potentially make the financial sector more vulnerable.
That being said, there’s some good to shadow banking too. According to the Bank of Canada, these lenders “provide diverse sources of funding to the economy, help distribute risk among financial sector participants and can also be a source of financial innovation.” This strengthens the financial system’s resilience. In a recent Canadian Business article, the BOC said that shadow banking accounts for about 40 percent of the country’s nominal gross domestic product.
Is shadow banking causing the country’s rise in home prices? Are more and more of those homebuyers deemed too risky for traditional mortgages turning to shadow banking?
In a bid to calm Canada’s real estate market, the federal government started revamping mortgage rules shortly after the Liberals came to office, starting with a raise on the minimum down payment for homes over $500,000. Their goal with mortgage rule reform is to ensure that borrowers can pay if, and when, interest rates do go up. After several years locked in at low rates and rising housing prices in hot markets, the government wants to make sure taxpayers are not on the hook for default mortgages.
Under the new rules, all high-ratio insured homebuyers are required to take a ‘stress test’ to qualify for mortgage insurance at a rate that is the greater of their contract mortgage rate or the Bank of Canada’s conventional five-year fixed posted rate. With the rising level of debt amongst Canadian consumers and the rising costs of houses, this means more people may not qualify for a mortgage.
The other major regulation change was to apply all high-ratio rules to low-ratio portfolio-insured mortgages. This means that lenders insuring mortgage loans using portfolio insurance and other discretionary low loan-to-value ratio mortgage insurance must meet the eligibility criteria that previously only applied to high-ratio insured mortgages.
The new criteria for low-ratio mortgages means these four types of mortgages can no longer be bulk-insured:
- rental properties
- properties that cost $1 million or more
- mortgages with amortizations of more than 25 years
- mortgage refinances in their entirety
The government is also consulting on lender risk sharing, while also looking at possible changes to income tax, such as the principal residence exemption and disposition of real estate.
In light of these changes, some alternative lenders have reacted by announcing that they will be suspending operations amid new mortgage rules.
Are these changes forcing buyers into unregulated mortgages? What’s the risk to Canada’s economy, if any? Will the new rules help, and if so, how?
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