First some background. All federally regulated lenders are required to implement the mortgage qualifying stress test for all new mortgages. This test was introduced by the government to make sure all mortgages are evaluated and approved at a rate higher than what you are offered by your lender. It is intentionally set higher and reduces the amount of mortgage you qualify for to ensure your mortgage payments not only fit your budget now, but also in a future of rising rates and economic uncertainty. Your actual payments are of course based on the rate negotiated with your lender.
The stress test for all new mortgages is the higher of –
- The government mandated minimum qualifying rate (MQR), which is currently 5.25%, or
- Your mortgage contract interest rate plus 2%.
Given that insured 5-year fixed is around 4.84% and variable rates are 4.55%, adding 2% to these rates is quite a bit higher than the MQR of 5.25%. As a result, the MQR is now irrelevant, and qualifying is based on your lender’s offered rate plus 2%. The result is a tougher stress test that is keeping many from qualifying for a mortgage, even as great opportunities present themselves.
New homebuyers are finding that today’s lower home prices give them a lower downpayment, smaller mortgage, and a similar or lower mortgage payment than if they had bought when prices were higher and rates lower in January and February 2022. A cooling market also means few or no competing bids, allowing you to take your time and put in the all-important financing condition and any other conditions you may want like a home inspection.
For existing homeowners, there are times when it makes sense to refinance your mortgage, which is replacing your current mortgage with a new one so you can access some of your accumulated equity for reasons such as these –
- If you have too much high-interest debt, you may be able to roll everything into a new mortgage, giving you one manageable monthly payment. You get a financial re-set and can save thousands of dollars in interest.
- If you’ve found the perfect cottage, chalet, or the retirement home of your dreams, refinancing may be the way to make that purchase happen now if you’re not quite ready to sell your primary residence.
- Renovating your home is often a less expensive choice than moving. And the right renovations can improve the quality of your life and increase the value of your home.
- A rental property can give you a great wealth building opportunity and a source of retirement income. Or you may want to invest in a new business venture.
- You may be able to get the funds you need for major expenses (tuition, wedding etc.): a much better strategy than loading it all onto high-interest credit cards.
- Help a child or grandchild buy a home. Let’s face it, this is how many young people buy their first home. A massive wealth transfer is taking place.
Keep in mind that 20% equity is needed to refinance, which may be difficult for some given lower home values. Fees to break your mortgage will also likely apply so get in touch for more information and a cost benefit analysis. There are other options to refinancing if you don’t have 20% equity or it doesn’t make sense to break your mortgage given your current rate and/or the fee to get out.
There have been repeated calls by industry lobby groups to drop the stress test as we question it’s continued relevance. The UK did just this and scrapped its mortgage affordability rule that required lenders to qualify borrowers at a higher rate. This was done to help those with lower incomes who have strong credit and years of history paying their rent achieve their dream of homeownership.
Unfortunately, we have recently been informed by the Office of the Superintendent of Financial Institutions (OSFI) that they will not bow to industry pressure and ease their strict mortgage qualifying standards. They simply believe that the stress test plays a key role in providing a “greater margin of safety” during our current period of economic uncertainty, particularly if unemployment rises.
While the stress test offers budget protection for those looking to purchase or refinance in the event rates keep rising, it’s difficult to see how it helps existing homeowners looking to switch their mortgage at renewal for a better rate and terms. You aren’t stress tested to renew with your current lender, but you are if you want to move to a new lender for a better deal. It’s unfortunate this aspect of the stress test is being maintained, especially since “making life more affordable” is a top priority for the government. If you are in this situation and can’t shop your renewal, I can give you advice on how to negotiate with your current lender so don’t accept your lender’s first renewal offer!
Is there a stress test workaround? Yes, we do have options available:
- If you have 20% equity for a conventional mortgage (needed for refinancing), Credit Unions are an excellent option because, as a non-federally regulated lender, they can qualify you without using the government’s stress test. There may be a rate premium but when it comes to qualifying, you are further ahead. This doesn’t apply to insured mortgages (under 20% equity) because a mortgage insurer becomes involved.
- You can also have a 30-year amortization with a conventional mortgage which further improves affordability should you need it, although again there is a rate premium. What I like about this strategy is you can minimize your mortgage payments and free up cash flow for other uses or life situations. You can also keep your payments at a shorter amortization and only use this flexibility when necessary.
- B and private lenders are another option although with a much a much higher rate. A private second mortgage can be a great solution instead of refinancing. This way you don’t have to break your first mortgage if you have a good rate and/or fees are too onerous to break your mortgage.
- Buyers can consider a gifted downpayment from an immediate family member. The added funds will improve your qualifying and may allow you to get a conventional mortgage and a 30-year amortization. Having one or both of your parents co-sign your mortgage is another common strategy that lenders like to see, especially if they are in a strong financial position.
- There is a loophole for insured mortgages if you purchased prior to Oct 16, 2016, you could qualify at your contract rate for a 5-year fixed term if insurance is still in place, although you can’t have refinanced any time prior to 2016. Additionally, if your purchased prior to Nov 30, 2016, and your mortgage is insurable, you can qualify on your contract rate, although your amortization must be reduced to less than or equal to 25 years. In this latter case, you can have refinanced prior to Nov 30, 2016.
If you are purchasing, there are always opportunities in down markets. If you are already a homeowner and have a lot of 19.99% credit card debt that is severely hampering your cash flow, refinancing or adding a second mortgage to pay off that debt can put you further ahead in terms of cash flow and debt reduction. That’s a huge opportunity. Whatever your need, if you are in Brampton, Toronto or the GTA, please contact me and let’s not miss out on your great opportunity. I can get the job done!
