Last week, our friend Rob McLister of CanadianMortgageTrends.com wrote a post outlining the stricter debt service ratio standards that are on the way. For the average borrower, debt service ratios play a large part in determining how much you will be pre-approved for. In the past, many lenders were willing to move numbers around, in order to help buyers get into the real estate market. The new rule changes issued by the Canadian Mortgage and Housing Corporation (CMHC) take away that flexibility and will be forced into effect on December 31st of this year.
One of the major changes affects the way in which lenders calculate variable income. The new rule states that lenders can’t use an amount that exceeds the average income from the past two years. This could have a significant effect on people who rely on bonuses or have seasonal employment. Another major change that can affect consumers with poor credit is that a guarantor’s income can no longer be used in the Gross Debt Service or the Total Debt Service ratios. A guarantor’s income can only be used in these ratios if the guarantor will live in the home and is the spouse or common-law partner of the actual borrower. There are also changes being made to how heating costs, rental income, and secured and unsecured lines of credit are calculated.
For a full list of what’s being changed in the debt service ratio calculations, read Rob’s post linked above. It’s important to note that many of these policies are already being followed by lenders. The point of these changes, however, is to prevent all lenders from moving the numbers around in order to offer financing options to higher-risk borrowers. Based on how often we use our mortgage calculators, we know that it only takes a few quick edits to make the numbers you want to appear. And while last summer’s mortgage rule changes have made it more difficult for some buyers to get approved, we believe it’s important to get pre-approved for an amount you can actually afford to repay.
To find out how these new qualifying ratios could affect the market, we went straight to the source. Here’s our Q&A with Rob McLister.
Question: Which of these new guidelines differ from the status quo and how do they differ?
Answer: Most of the rules are already in place at the majority of lenders. But some lenders offer guideline flexibility and this announcement will eliminate that flexibility. For example, some lenders use interest-only payments on unsecured credit lines when calculating debt ratios. Now, debt ratios will have to be calculated using 3% of the balance on all CMHC-insured mortgages. Some lenders also allowed lower-than-actual heating costs in debt ratio. The new guidelines are a bit more conservative, which means it’ll be harder for certain fringe borrowers to stay under the debt ratio limits.
Q: Seems like a lot of these are targeted at investors and the self-employed. Are you seeing things get harder for these non-standard buyers, since last year and now with this?
A: In the last 12+ months it’s become noticeably tougher to get approvals on stated incomes, especially over $100,000. CMHC’s guidelines reinforce that lenders must attempt to confirm personal cash flow with reasonable documentation. Borrowers should not expect true “stated income” financing if they need mortgage insurance.
Q: Is this all too much too soon or is it, in your opinion, a necessary set of changes, closing of loopholes, etc.?
A: Most of these rules are just sound underwriting. But some of the measures do eliminate common sense exceptions. One such case is prohibiting the use of interest-only credit line payments in debt ratios. This affects investors, for example, and can have a dramatic effect on debt ratios and mortgage approvals for otherwise qualified borrowers.
Q: What do you think are the broader implications for the real estate market and the real estate investment market?
A: It’s an incremental impact that will affect a minority of borrowers at the margin. There will be no dramatic reduction in demand from these guidelines.
Thanks again for talking to us and helping us inform our readers, Rob!