Yesterday Finance Minister Jim Flaherty announced some minor changes to the mortgage lending rules.

These changes which take effect on April 19^th 2010 are designed to save the general home buying public from themselves. For the last year I have been talking, writing and sometimes even scolding my clients who were trying to buy a home that they can’t afford. The erroneous mind set was that the bank had told them that according to their salary and today’s interest rates they could afford a certain size mortgage. The key words are today’s interest rates. The buyers were taking this figure as gospel, putting a minimum 5% down payment and amortizing their mortgage to the maximum 35 years. Today’s interest rates are rather low and so the buyer truly believes that he can afford the payments. The truth is that today he might be able to barely make the payments, but what will happen a few years down the road when the mortgage is up for renewal, the interest rates have risen about 2.5 -3% (which is not unheard of) and your salary has remained more or less stagnant. A standard mortgage of $200,000.00 today based on a five year rate of  3.79 % amortized for 35 years will cost you $857.00 monthly. This sounds great but in five years time if interest rates have gone up to 6.25 your monthly payments will have ballooned to $1128.00 per month costing you an additional $3256.00 after tax dollars per year. Can you as a buyer truly afford that?

The following are 3 changes the Finance Minister has introduced to the mortgage lending rules.

1)      Those proposing a down payment of less than 20% must qualify their salary against a 5 year fixed interest rather than trying to fit their income to match a lower 3 year fixed rate.

This is I believe a weak attempt to protect the buyer from himself. Firstly the 5 year rate does not represent the 2.5 – 3% rate that interest rates could jump. Even if you take today’s 2% 5 year variable rate that most banks are offering, it falls short of even a 2% increase when compared to the 3.79%      5 year fixed rate offered today. I believe that the buyer should also be qualified against a shorter amortization period as well.

2)      Those who are looking to refinance their homes cannot do so to a value above 90% of the value of their home This was changed from a refinancing loan of up to 95% of the value of their home.

Refinancing to even 90% of the value of your property usually indicates that you are in dire financial straits and would be well advised to sell your home rather than incur greater financial debt.

3)      The 3^rd change to the mortgage lending rules requires a 20% down payment on a 1-4 unit property in which the buyer will not be a resident.

Many buyers have been looking to revenue properties as an investment and given the potential rental revenue they figure that their mortgage payments will be covered. They close their eyes to the fact that these rental units could end up vacant for months at a time. The Minister by raising the down payment required is trying to make sure that the investor has to ability to weather any storm such as prolonged vacancies. I am just wondering if he went far enough by not imposing stricter qualification rules.

In any case I hope that these amendments if nothing else will make all buyers wake up and smell the coffee. Do not over extend yourselves by borrowing to the max and find yourselves a good mortgage broker who will be straight with you and warn you of all the pitfalls.

Real estate agents are actually listing the properties above their real market value. In today’s competitive market they are promising the vendor, the moon, and stars just to get them to sign an exclusive mandate. A vendor looking to sell their home is not necessarily hiring the most competent real estate agent, but the one that will promise them the highest return. This of course explains the refrain heard from every agent as they hand you their listing. “Don’t worry, the price is very negotiable”. I assume that once they have the listing they feel more comfortable selling the lower price to the vendor.

The truth is that you can in many cases negotiate a lower price on the property but keep in mind that the negotiations should only be with the vendor and not with yourself as well. As I write this article you can get a five year fixed rate as low as 3.85% and a five year variable at 3.30 %. These are extremely low rates which have not been seen in years and so I feel compelled to offer you a tiny bit of advice. When you are calculating how much you can afford, do not necessarily listen to the banks when they calculate your maximum mortgage. These calculations are based on a combination of factors such as your current salary and expenses, and of course today’s interest rates. Do not entertain the notion that you can take the maximum mortgage that you can afford and all will be well with the world.

Let me give you a little example. Assume that you take a mortgage of $250000.00 amortized over a 35 year period with a five year fixed interest rate of 3.85%. Your monthly payments not including municipal taxes would be about $1080.00 per month which is pretty much the maximum that you feel you can afford. This is great because you have decided to sacrifice certain things and with a little belt tightening
you will be able to afford your dream home. Let us take a ride on my time machine and zip 5 years into the future. Your mortgage is due and you need to renegotiate a rate for the next few years. Your current mortgage is now at $231,242.72 and your amortization period is down to 30 years but wait, interest rates have gone up to 6.25%. and your monthly payments have ballooned to $1412.00 which is close to $4000.00 more per year, that you have to come up with.

The best advice that I can give you is to purchase a home that will not stress you financially. Use a competent and trustworthy mortgage broker to help you with what may well be the largest purchase of your life. Trust him to let you know what you can afford.