The new “Stress Test”
Effective June 1 anyone applying for a mortgage must meet the more stringent parameters as set by the Federal Office of the Superintendent of Financial Institutions (OSFI). The rationale behind this increase, from 4.79% to 5.25%, is to ensure that people taking out mortgages in the current low interest rate environment will be able to continue to carry the debt should rates increase dramatically at the time of their renewal.
Anyone applying for a new mortgage, regardless of the size of the deposit or credit rating, must now be “tested” as being able to carry the higher of:
1: the current mortgage offer PLUS 2% (or 200 basis points)
2: 5.25% Interest Rate
This also applies to renewing mortgages IF you change institutions. For the record, I would highly recommend exploring rates from different banks. In the Spring of 2019, our mortgage was up for renewal – and subject to the terms of the original OSFI stress test. We went to our existing institution 90 days before to begin the process of renewal. We were offered terrible rates, 3.95% at the time, with no room to negotiate. As a result, we took our mortgage and all our banking to another institution that offered us 3.14%. Even though we had to meet the stress test, it was absolutely worth the effort!
The consequence of this new test will increase the pressure at the “lower” end of the market. It is going to make it even more difficult for these buyers to get into the market as it will reduce the actual amount of their mortgage approval.
Consider this scenario:
A couple with annual income of $112,500 is offered a 1.78% 5 year fixed mortgage with a 25 year amortization. Based on that rate and adhering to the 40% Total Debt Service ratio, they would be approved for a $577,500 mortgage.
Under the PRIOR Stress Test of a 4.79% rate, that mortgage amount was reduced to $418,500.
Under the NEW Stress Test of 5.25%, that mortgage amount is $400,000. EVEN though their actual mortgage is based on 1.78% for 5 years.
While this increase seems fairly nominal compared to the original introduction of the stress test, it does have a roughly 5% impact on what buyers can actually borrow. To put it into real numbers, if our clients had a budget of $1,000,000 prior to June 1, with a 20% down payment their borrowing just went from $800,000 to $760,000. This means they are either downsizing their expectations on the size of the home or condo they will buy or they are changing neighbourhoods.
If there is good news in this it is that our market seems to be naturally calming since the record breaking high’s of both prices and number of sales in March. Furthermore, we haven’t seen a panicked frenzy of buying prior to the June 1st change in the test levels.
Please reach out if you have any questions, we are here to help you navigate all aspects of the Real Estate Market.