Office of the Superintendent of Financial Institutions
We are proposing to set the qualifying rate for uninsured mortgages as the greater of the mortgage contract rate plus 200 basis points (2%) or 5.25%.
We are proactively reinforcing expectations for sound mortgage underwriting so that banks will continue to be prepared if we return to pre-pandemic financial conditions.
Sound underwriting includes a margin of safety that ensures borrowers will have the ability to make mortgage payments in the event of change in circumstances, such as the reduction of income or a rise in mortgage interest rates.
As mortgages are one of the largest exposures that most banks carry, ensuring that borrowers are able to repay their loans strongly contributes to the continued safety and soundness of Canada’s financial system.
The current Canadian housing market conditions have the potential to put lenders at increased financial risk, which could in turn affect the overall stability of financial institutions.
Now is the right time to reinforce expectations for sound mortgage underwriting so that banks will continue to be prepared if we return to pre-pandemic financial conditions.
It should be noted that if mortgage rates rise, fewer will be affected, if they fall then more will be affected.
The qualifying rate used for most of the recent borrowers (89%) was the Bank of Canada benchmark rate and as such would increase to the new qualifying rate of 5.25%. 5% of borrowers had a qualifying rate above the Bank of Canada benchmark rate but below 5.25% so would be less impacted.
In the last half of 2020, only 6% of borrowers had a qualifying rate above the 5.25% - meaning their minimum qualifying rate of contract +200 basis points was above this proposed floor. For those borrowers who are affected by the proposed floor, options would include saving for a larger down payment, which would lower the mortgage amount or reassessing their house price range.
Based on our analysis of approved Q3 and Q4 borrowers, the change in the qualifying rate would result in a reduction in the mortgage loan amount between 2% and 4%, holding the amortization steady. Also, while most borrowers will have a new qualifying rate that is higher than the rate they would have previously qualified under, we estimate that
up to 10% of borrowers would have exceeded individual bank’s Total Debt Service ratio thresholds. Note that bank’s risk appetite and their specific bank underwriting policies may vary.
Lenders use debt serviceability ratios, e.g. Gross Debt Service and Total Debt Service, to assess a borrower’s capacity to repay their mortgage. The minimum qualifying rate is an input into these calculations.
In the feedback OSFI received prior to the suspension, stakeholders expressed concern that the then proposed benchmark, based on the median of all lender contract rates, would be highly volatile. The impact of the current COVID-19 pandemic on mortgage contract rates has further underscored this concern.
The risks between the two types of mortgages differ.
The Minister of Finance sets the minimum qualifying rate for insured mortgages. It is currently the greater of the five-year benchmark rate published by the Bank of Canada or the contractual mortgage rate.
The Superintendent sets the minimum qualifying rate for uninsured mortgages. It is currently the greater of the five-year benchmark rate published by the Bank of Canada or the contractual mortgage rate plus two percent.
The buffer of two percent over the contract rate is intended to ensure a sufficient level of conservatism in assessing affordability for uninsured mortgages, which may have borrower and loan characteristics that are riskier than for insured mortgages.