By: Ian Mucignat
Last week, the Bank of Canada (BoC) increased its mortgage qualification rate. You can see it directly on the BoC website by clicking here and scrolling down to the Conventional Mortgage – 5 year. Note the increase from 5.14% to 5.34%.
If you recall from one of my previous articles, this isn’t a well-thought-out rate decision by our usual pensive BoC brain trust. It’s simply the average of the 5-year posted rates for the big-6 Canadian banks. In my opinion, it’s ridiculous that the big banks effectively engineer this rate. You can read about my disdain for it in “The tail that wags the dog. Why are the big banks dictating the Bank of Canada qualifying rate?”
Regardless of my whining, the rates did go up. So, what is the impact to the qualification amount for Canadians? This particular change reduced everyone’s eligible mortgage amount by 2.2%.
Let’s say you are on the bubble for qualifying for a particular mortgage amount. Aside from credit score and other paperwork, etc., what are the key factors influencing whether your application is approved or declined?
Gross Income Amount
This is simple — the higher the income the more you can qualify for!
If you are salaried, then its your T4 income. If you are self-employed and are applying for a mortgage at an AAA lender, then you need to show your tax returns for the past two years. The lender will be assessing your “net business income” — the amount after all your write-downs. Bottom line, if you are self-employed, then you will want to do some income planning.
Some applicants may turn to parents who become co-applicants and co-owners. This is affectionately known as the “Bank of Mom and Dad”.
Other times, friends may purchase a multi-unit home together with, perhaps, one couple upstairs and the other downstairs.
For a quick and dirty calculation in today’s environment, your mortgage qualifying amount is approximately five times your annual income. For example, an income of $100K generally results in a mortgage qualification amount of about $500K.
Another factor impacting your Total Debt Servicing Ratio is your other debt(s). Some such liability payments are weighted more heavily and treated as higher costs than others. For example, let’s suppose you have an unsecured open line of credit with a balance of $30,000. Even though the interest-only payment is only about $150 per month, the mortgage lender is required to assess it as a payment of 3% of the balance or $900 — a huge effect on your qualification amount.
Maybe you own another property with a separate mortgage payment. The higher this payment, the lower you can qualify for on the new mortgage. Suppose you have increased your mortgage payment on that property above the required minimum. You might be able to reduce it or refinance it to improve your qualification amount.
Bottom line, look at each liability payment for opportunities to reduce the monthly carrying cost.
Your down payment can have two impacts:
- The obvious reduction of the mortgage amount. As you increase your down payment, the required mortgage needed to finance the purchase is decreased.
- A down payment of 20% or more will make your mortgage “conventional”. This means you are allowed to qualify using a 30-year term instead of 25 years.
Note, having a “conventional” mortgage also means you now need to qualify at the greater of the BoC qualifying rate (5.34% at time of writing) or the actual mortgage rate plus 2%. So, if the 5-year fixed rate is 3.50%, then the qualifying rate must be 5.50% because it’s greater than the BoC qualifying rate. As a result, applicants will look for the term/product that has a rate that allows them to use the BoC qualifying rate. These are typically short-term offerings such as adjustable-rate mortgages or ones with 1 to 2-year terms.
The amortization is the time it takes to fully pay off the mortgage. The longest amortization period we have in Canada is 25 years for down payments of less than 20%. For down payments greater than 20%, there is more flexibility but the vast majority of A lenders limit the maximum to 30 years.
The longer the amortization period, the lower the mortgage payment and the more you can qualify for! All else being equal, a 30-year amortization has the impact of increasing your qualifying amount by 8.1%.
Property specific: Condo fees, Heat, Property taxes
The greater the condo fees, heat, and property taxes are, the less your qualification amount will be. Some municipalities don’t have strong sources of income so have to charge higher property taxes. Some condo boards have poorly funded reserve funds and may have to catch up by raising their condo fees.
All else equal, introducing a condo fee of $500 will reduce your mortgage qualifying amount by 10 to 13%. (The actual amount heavily depends on the purchase price.)
Every bank or trust company in Canada, big or small, must adhere to the rules of the regulator, OSFI. In particular, updates to their B-20 rules require all of these lenders to qualify all conventional mortgages at the greater of the Bank of Canada qualifying rate (currently 5.34%) or the mortgage rate plus 2%. This change was implemented on January 1, 2018 and had a big impact of about 20% to everyone’s qualifying amount.
Any high-ratio insured mortgage must qualify at the Bank of Canada qualifying rate (currently 5.34%) regardless of the rate on the mortgage.
This can be an important consideration for pre-construction purchasers who do not know what the BoC qualifying rate will be at time of closing which could be years from now.
About the Author:
Ian Mucignat, CFA, is an independent mortgage agent at TMG The Mortgage Group. He graduated from Wilfrid Laurier University with a Bachelor of Business Administration degree, minoring in Economics, and is a CFA Charterholder. Ian has worked in the mortgage industry since 2000 at lenders, banks, and brokerages. If you are purchasing, renewing, or refinancing your mortgage, don’t hesitate to contact Ian directly for a free consultation.