This announcement surprised pundits who in large part were expecting a maximum increase of 0.75%. This is the biggest jump since 1998, and Canada’s banks will be increasing their prime rates in the coming weeks to 4.70%. This will impact Canadian home owners with home equity lines of credit, and adjustable rate / variable rate mortgages.
It is important to note that these changes impact variable and adjustable rate mortgages directly and immediately. These increases DO NOT impact fixed rate mortgage directly and immediately.
It is important to note however that even if you are currently in a fixed rate mortgage, you should still be paying attention, especially if this is your first mortgage and you have obtained it in the last 2 or so years. That is because if you were to renew today, your rate would pretty much double.
While it is important to mention this: Do not let anyone pressure you into a decision based on these rate changes. Do not ignore what is happening either. Most people end up having to make a change to their mortgage in some capacity at around the 36 month (3 year) mark. It’s important to plan ahead, so if you have some questions or anything, feel free to reach out and book a 15 minute consultation.
This 1.00% increase will lead to an increase in interest costs equivalent to about $56.00 per month for every $100,000 borrowed on variable and adjustable-rate mortgages. Those with adjustable-rate mortgages will see their payments actually increase to align and keep up with the amortization schedule whereas those with variable-rate mortgages will not see an increase in payments. Rather, the distribution of the payment towards interest will increase, while the portion towards principal will decrease.
Static payment variable rate mortgages come with trigger rates in the fine print. These trigger rates, once hit, will lead to an increase to your payments, in order to ensure you are covering the interest portion on the mortgage.
As a very rough rule of thumb, the prime rate has to increase by about 2% (or more) from the time that your payment locked in, in order to hit your trigger rate.
The minimum mortgage stress test rate (based on the lowest nationally available variable rate) should jump to about 6.09%, the highest since the stress test was inroduced.
The rules, as they were laid out by the government in 2016, state that to qualify the mortgage, you must use the greater of the contract rate + 2%, or the qualifying rate. If you were to take a fixed rate today, at say 5%, this is the contract rate, adding the 2% to that would take the qualifying rate to 7%.
For a variable rate mortgage, the same rules apply, but if your discount is prime – 0.61% for example, and prime is now at 4.7%, your rate is 4.09%, +2% this takes you to 6.09%. So, the way that the rules are laid out, you qualify for a higher mortgage if you take a variable rate as opposed to a fixed rate.
The best insight into where fixed rates are headed, short of a crystal ball of course, is the Bond yields. For years, bond yields have provided great information as to what we can expect to see with fixed rates, and measure their behaviour. We are currently in the high 4% to low 5% range for 5 year fixed terms with most lenders with not much changes since the last time we reviewed the fixed rates.
The spread between the 5 year fixed and the 5 year variable rate is still significant, however there is a case to be made or shorter term fixed rates, depending on your situation
Now it is not always about the math, and if it is impacting your peace of mind, you cannot put a dollar amount on that. No amount of savings can account for loss of sleep. If you have some concerns or some questions, please feel free, to reach out.
Historically, we tend to see the impact of rate increases on the real estate market typically about 60 to 90 days after the fact and we can expect to see the cumulative affect of rising rates over the coming months. It has been a heavy dose of increases for the last quarter, which we will see play out in the second half of 2022 and into 2023.
Immediate and growing concerns seem to be on Presale and Commercial. For presales, we started to see some clauses being put into contracts about 60 days ago, that allow the developer to increase the prices before closing should their costs to build increase. These clauses are beginning to appear in more and more presale contracts. We have spoken to a law firm that specializes in real estate transactions as this is very new and there has not been any rulings or judgements on them and they are of the opinion that this clause can be enforced – since it is in the contract. So it has now never been more important to have your contracts reviewed by a lawyer to understand it and make sure it does not have this type of clause. With respect to Commercial Properties the growing concern is the impact of the rising rate environment on renewals. If a commercial real estate building’s net operating income does not increase in equal proportion to rising rates the concern is that lenders will refuse to renew or they may require owners to pay down significant amounts of debt prior to renewal. The concern for rising rates at renewal are also prevalent on the Residential side of things as well/ Lenders may not refuse to offer a renewal, but the payment shock at renewal may be significant. And for those in Variable Rates, with Static mortgage payments. While your payments remained steady – with the increase in the interest, it could take you into a negative amortization situation, in which case the lender may also ask for a lump sum payment, to get you back on track.