Scrap The Mortgage Stress Test: Yay Or Nay?


We briefly discussed this two weeks ago when I posted my angry rant about the Liberal government’s attempt to buy votes in the coming election.

One thing the government could do, to make housing more affordable, is eliminate, or alter, the mortgage stress test that was brought into effect in 2017.

Many of the readers suggested the mere presence of the test itself is useless, unnecessary, and/or unfair.

Others suggested that it’s a fantastic idea, especially in a climate of rising debt levels, and some went on to talk about abolishing the CMHC, which always comes up when we talk about anything debt-related.

There is so much to talk about today, I almost don’t know where to start.  I’m going to share four articles with you, chronologically, which explain where this is all going, and where the “yay” and “nay” sides stand.

First, for those that don’t know – what is the mortgage stress test?

It’s an initiative from the Bank of Canada to promote financial responsibility among mortgage borrowers, effectively ensuring that all borrowers can afford higher payments at some point down the line.  It’s a real-life “what-if” scenario being used in the qualification process.

The “test” portion of the term essentially comes from the fact that borrowers are all being tested against rates are 2% higher than prevailing rates, to see if they’d pass.

So if a 5-year, fixed rate mortgage is currently 3.29%, the Bank of Canada wants that borrower to be able to afford the same mortgage at 5.29%.  The BOC wants the borrower to qualify, “pass the test,” and ultimately be safe in an environment of rising rates.

An optimist would argue that being financially responsible is never a bad thing, and since the government protects us from ourselves all the time, by making it illegal not to wear seat-belts in cars, they’re protecting us from ourselves when it comes to home-buying by ensuring we can afford to pay our mortgages if and when rates rise.

A pessimist would argue that it’s not up to the government to address how or when we save for the proverbial rainy-day, and that the stress test has the greatest impact on those who are already clinging to the bottom rung of the housing market.  Foreign buyers, cash buyers, and high-end buyers are all unaffected.

In the end, I’m sure the votes will be split 50/50 on this one.  My personal opinion is that a 1% stress test would bridge the gap between two arguments, both with merit.

Two weeks ago, this article appeared in the National Post:

“Canada Considers Applying Mortgage Tress Test Rules To Private Lenders, Sources Say”

From the article:

Canada is considering subjecting private lenders to the same mortgage stress test rules faced by banks to prevent housing markets from being destabilized by the lenders’ rapid growth, three sources with direct knowledge of the matter said.

Officials from the country’s finance ministry, financial regulator, central bank and federal housing agency have discussed whether the private lenders’ expansion over the past year poses a threat to economic stability, said the sources, who declined to be named because the talks are confidential.

Private lenders, usually groups of wealthy individuals, currently account for around one-tenth of Canada’s $1.5 trillion mortgage market, according to economists, and are still dwarfed by banks but their growth has accelerated since rules introduced by the country’s financial regulator last year made it harder for banks to grant loans.

There’s a few things to discuss here.

First, most of the alternative lenders are already using their own version of the stress test.  They have higher rates, say, 4.79%, and they’re qualifying borrowers at 6.79%.  Equitable Trust and Home Trust are two examples of where this stress test is already in effect.  Granted, the alternative lenders use different qualification measures, ie. when it comes to commission-based income, stated income, etc.

Second, the credit unions are provincially regulated, not federally regulated, so perhaps this article and these “sources” are aimed at credit unions.

Lastly, the idea that the government can regulate how private individuals lend their money is ridiculous.  If the owner of a $2,000,000 house, with no debt, wants to borrow $100,000, but has no job, and no income, would that home-owner have to qualify based on a mortgage stress test?  We can debate the merits of this, and the Libertarians will probably end up on the other side of the argument of the folks who work at banks, and have their hands tied.

Earlier this week, the following article appeared in the Financial Post:

“More Debt Not The Answer: Watchdog Says Contentious Mortgage Stress Test Is Safety Buffer For Banks And Borrowers”

The sub-heading reads: “answer to the rising cost of housing cannot be more debt,” and that seems like a very reasonable conclusion.

But that won’t stop those who no longer qualify for mortgages from crying foul, and as we know, the cries are getting louder and louder.

From the article:

A federal banking regulator defended on Tuesday a stress test for uninsured mortgages that has been criticized for making it harder than it should be for some Canadians to own a home.

“The stress test is, quite simply, a safety buffer that ensures a borrower doesn’t stretch their borrowing capacity to its maximum, and leave no room to absorb unforeseen events,” said Carolyn Rogers, assistant superintendent at the Office of the Superintendent of Financial Institutions.

“This is simply prudent. It’s prudent for the bank and it’s prudent for the borrower.”

Later in the article, we see how politics is going play a role, whether simply as a measure to buy votes, or in terms of actual change:

“The government, through the stress test, changes to the mortgage rules, carbon taxes and higher daily costs of living, is suppressing the ability of people to meet the day-to-day needs and pay for their needs,” said Conservative MP Tom Kmiec in a speech in the House of Commons on Jan. 31.

The Mortgage Professionals of Canada also chimed in, with a quote that will surprise nobody:

“Our report illustrates that a more reasonable stress test level and lending restriction reforms are now needed to strike a better balance for borrowers and policymakers, improving housing affordability and Canada’s economy,” said Paul Taylor, president and CEO of the group, in a release.

And the day after this article was posted, the good ‘ole Toronto Real Estate Board, yes, everybody’s favourite, put their two cents into the bucket.

This article by the Canadian Press was picked up in multiple news outlets:

“Toronto Real Estate Board Calls On Ottawa To Revisit Mortgage Stress Test”

No kidding?

TREB is on the “nay” side of the stress test?

Well I’ll be damned!

And here I thought they were so busy agreeing to share sold data with their membership-paying agents who want to give better customer service to their clients, that they wouldn’t have time to back a horse in this particular race.

From the article:

Canada’s largest real estate board is calling on Ottawa to revisit whether a stricter mortgage stress test introduced last year is still needed, arguing that the policy has negatively impacted the economy and Toronto’s once red-hot housing market.

“While we saw buyers return to the market in the second half of 2018, we have to have an honest discussion on whether or not today’s homebuyers are being stress tested against rates that are realistic,” said John DiMichele, chief executive of the Toronto Real Estate Board (TREB) in a statement Wednesday.

“Home sales in the GTA, and Canada more broadly, play a huge role in economic growth, job creation and government revenues every year. Looking through this lens, policymakers need to be aware of unintended consequences the stress test could have on the housing market and broader economy.”

I will give John DiMichele credit for that one point – that rates might not be “realistic.”

I was the one who predicted at the start of 2019 that despite rumours of interest rate increases, not only did I think rates would fail to be increased, but that I think rates will decrease.  So is a 5.79% interest rate realistic?  We’re looking at a five year horizon, so it’s unreasonable to say “Not a chance.”  But do I think we will see a 5-year, fixed rate mortgage of 5.79% in the next five years?  No.  I don’t.

Having said that, it looks suspect when the CEO of a real estate board comments on public policy that currently makes buying real estate less affordable.  I don’t know why TREB even bothered.

But that’s what TREB does, right?

When they’re not busy making optimistic predictions about the real estate market, case in point…

“Toronto Area Home Prices Predicted To Rise 4 Per Cent This Year”

I love headlines like this.

Predicted?

Who predicted?

Oh.  A bunch of real estate agents.

And last but not least, I give you today’s article in the Globe & Mail:

“Why Ottawa Must Rethink The Stress Test On Mortgage Switches”

At first glance, seeing that this article is by Rob McLister, who is the founder of Ratespy.com, and works in the mortgage industry, you might think the article is biased.  I probably wouldn’t blame you.

But Mr. McLister is arguing a different point, that of mortgage renewals, and how the stress test applies to borrowers looking to renew a mortgage, but not to those who are renewing with a new lender.

This ends up “trapping” buyers with their existing lender, and who thinks that less choice in a free market is a good thing?

From the article:

The stress test, which requires federally regulated lenders to confirm you can afford a rate that’s at least two percentage points higher, does not apply if you simply renew your mortgage with your existing lender.

As a result, lenders industry-wide have enjoyed watching their customer retention rates climb. Last October, OSFI reported that renewals surged an unusual 30 per cent as of midyear while new mortgages were down 19 per cent.

As many as 100,000 renewers every year may be at risk of not passing the stress test, based on estimates from Mortgage Professionals Canada. And when a lender suspects you can’t qualify elsewhere, it has little incentive to offer you excellent renewal rates.

Worse yet, renewers who flunk the new stress test have no ability to switch to a lender with more favourable terms (such as lower penalties or more flexible refinance privileges). Better terms often save borrowers one to three times more than even a quarter-point interest rate difference.

“A stress test when switching lenders is purely anti-consumer,” says Ron Butler, a 23-year mortgage veteran of Butler Mortgage. “It’s an abuse of Canadian mortgage holders who deserve to shop for a better rate.”

Later in the article under the heading, “A Flaw In Logic” we read:

Renewing borrowers have already been stress tested. And they’ve already proven they can make all their mortgage payments on time. Exempting the current lender from the stress test, but not a competing lender (the one with the better rate and terms), is virtually nonsensical.

The renewing lender generally doesn’t re-underwrite the mortgage. So, it has less insight into how likely the customer is to pay going forward, versus a brand-new lender that fully reviews the borrower’s income, employment, credit report, property and other expenses.

“The borrower [who renews elsewhere] will be far better underwritten than at the incumbent lender who just fired off a renewal offer after checking for arrears,” Mr. Butler states.

You have to admit, this is a lot of attention on the stress test just in the past week, and I do think that changes are coming, like it or not.

We have a federal election this year, and as we have learned in every election in recent memory, it’s not about who you are as a party, it’s about what you can promise people – whether you follow through, or not.

I suspect both the Liberals and Conservatives will promise to make housing more affordable, and reducing the mortgage stress test is the low-hanging fruit…





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