On January 1st, 2018, Canadians woke up to a very different lending environment. New rules instituted by the Office of the Superintendent of Financial Institutions (OSFI) include a requirement that all federally-regulated lenders (e.g., big banks) adhere to appropriate loan-to-value (LTV) standards, and more importantly, the implementation of a new stress test.
OFSI now requires that all mortgage applicants prove they can still afford payments at a much higher interest rate — the greater of either 2% above their qualifying rate, or the five-year Bank of Canada benchmark rate (currently 4.99%).
Often referred to as a stress test, this rule was already in place for low-ratio mortgages (down payments of less than 20%), but now extends to all borrowers in Canada. This regulation is said to affect some $15-billion a year in borrowing, particularly in Toronto and Vancouver.
It’s clear that this change will have the most significant impact on first-time homebuyers, who now have to qualify at a much higher rate no matter what their down payment. According to one expert, this will result in a 20% decrease in affordability.
Drive demand in private lending
According to the Bank of Canada, this new rule will disqualify 1 in 10 Canadian borrowers from obtaining mortgages from traditional lenders. And, in Canada’s more expensive housing markets, this ratio jumps to 1 in 8 borrowers being excluded. Further analysis by Mortgage Professionals Canada shows that 18% of borrowers will fail the new stress test.
Bank of Canada Governor Stephen Poloz recently remarked that, “A key issue for the Bank, then, is understanding how people will react when they are told that, under the new rules, they do not qualify for the mortgage they would like. Of course, there is more than one way for people to respond…But people might also look for a lender that is not bound by these new mortgage rules so they can avoid facing the stress test.”
Further to this, traditional lenders are exempt from applying the stress test to borrowers who renew an existing mortgage. This means that lenders can offer uncompetitive rates as borrowers may have no choice but to stay with their first mortgage lender, or seek out private lenders.
The reality is that the OSFI rules only apply to federally regulated financial institutions. One expert agrees that this will drive many potential buyers to private lending instead of settling for less expensive homes, uncompetitive rates, or holding off on home-ownership.
Indeed, in its semi-annual review, the Bank of Canada noted it would continue to monitor the private lending environment, which it said “is growing to meet the increase in demand from borrowers.” RBC Capital Markets even recently noted that borrowers who don’t meet the new lending criteria will now turn to credit unions and private lenders.
The Bank of Canada furthered that MICs and other private lenders accounted for 10% of all new residential mortgages in Ontario in 2017. And, the bank estimates that MIC assets currently total between $10 and $15 billion.
It’s clear that the new lending environment will decrease the purchasing power and options of Canadians, driving them to seek out creative lending solutions. This includes private lending options.
