Today, the Federal Government announced new, tougher mortgage lending rules. The new policies are a result of worries expressed by the Bank of Canada and Bay Street lenders who fear that economic conditions could further deteriorate given Canadians’ record levels of household indebtedness.
There were three primary changes that were made:
1) The maximum amortization period was reduced from 35 years to 30 years for insured mortgages or for Buyers with less than a 20% down payment
2) The maximum insured value that existing home owners can draw from their homes has been reduced to 85% from 90%.
3) The Government will not insure Home Equity Lines of Credit (“HELOCs”)
So what does this all mean?
1) By reducing the maximum amortization period, Buyers that were on the cusp of qualify for a new mortgage maybe priced out of the market. The 5 year reduction could result in a $100 increase to monthly payments. This change will encourage Buyers to be more prudent about their purchasing decisions and look for lower priced homes.
2) By reducing the maximum value that that can be drawn from an existing home, the Government is hoping to curb Canadians treating the equity in their homes as “ATM” machines. Although 5% does not seem like a large percentage, on a $600,000 home 5% represents $30,000. As the equity in Canadians’ homes has been growing so has their appetite to spend. Rather than saving for the vacation or the new kitchen renovation, Canadians have been drawing from their homes to pay for such purchases. The Government is trying to ensure consumers are looking to their homes as long term savings rather than for meeting immediate purchasing gratification.
3) The decision to stop insuring HELOCs is also in an effort to stop using the equity for new purchases. This decision goes hand-in-hand in the reduction of the maximum value that can be borrowed or refinanced from an existing home.
“We want to make sure we don’t have the kind of medium-term problem that has been experienced elsewhere because of this tendency by some to assume large indebtedness at low interest rates,” Mr. Flaherty, Minister of Finance said. “People need to demonstrate that good Canadian trade of prudence and reasonableness in terms of their debt assumptions.”
In regards to HELOCs, Mr. Flaherty said: “That’s particularly risky. “Some of those loans are not used to create housing in Canada. They are used to buy boats and cars and big-screen TVs. That’s not the business mortgage insurance was designed for.”
What the Government has not done was increase the size of the minimum down payment from the existing 5%. They are expecting that the three new policy changes will be sufficient at this time to help reduce growing household debt. It is also expected that interest rates will start to climb in the second quarter of 2011 which will also deter consumers from taking on further debt as borrowing cost will increase.
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