On June 4, 2020 Canada Mortgage and Housing Corporation (CMHC), Canada’s largest mortgage insurer, announced a tighter mortgage borrowing criteria to begin on July 1, 2020. The changes follow CMHC’s announcement that it foresees a 9% to 18% decrease in housing prices due to COVID-19. This new criteria includes no borrowed down payments for insured mortgages, lower debt ratios, and higher credit scores. Before we jump into a breakdown of what the new criteria consists of, what this means for first time home buyers and what affect this change will have on the Toronto housing market, let’s look at what CMHC is and why you need insurance in the first place.
What is CMHC and why do I need mortgage loan insurance in the first place?
If you want to buy a home with a down payment of less than 20%, you will need mortgage loan insurance. The benefit of getting mortgage loan insurance is that you are able to get a mortgage for up to 95% of the purchase price of a home with reasonable interest rate, even with a smaller down payment. CMHC offers mortgage loan insurance products on property types including duplexes, condos, manufactured or mobile homes, rental, retirement homes and many more. You will need to check with your lender to see if your property qualifies. Refer to the CMHC FAQ if you have more questions about what mortgage loan insurance is and why it could be beneficial for you.
Breaking down the new CMHC insurance criteria for Toronto home buyers
CMHC’s new insurance eligibility criteria includes three major changes:
1.Gross Debt Service (GDS) ratio tightened to 35 and Total Debt Service (TDS) ratio updated to 42
GDS (Gross Debt Service) and TDS (Total Debt Service) ratios are used to determine a buyer’s credit eligibility by calculating their debt service ratio. The GDS calculation is based on principal, interest, taxes and heat over ones gross annual income. The total debt service ratio includes principal, interest, taxes and heat as well as any other debt obligations such as car insurance, credit card or loan expenses over gross annual income. Previously CMHC had restricted debt service ratios to 39% (GDS) and 44% (TDS) and as of July 1, 2020 the maximum ratios have tightened to 35% (GDS)and 42% (TDS). This means that home buyers will need to save longer for a down payment of a home. For example, the same buyer that was able to qualify for a house worth $524,980 on June 30th, may only qualify for a home worth $462,860 on July 1st, 2020 when the tighter qualifying ratios are updated and in this case, we see a reduction of 12 per cent. James Laird, Co-founder of Ratehub.ca and president of mortgage brokerage CanWise, stated that “the change to the debt service ratio will have the biggest impact of the three changes”. CEO Evan Siddall comments that these measures will help reduce “excessive demand and unsustainable house price growth”.
2. At least one borrower must have a minimum credit score of 680
This change simply means that to qualify for CMHC coverage, at least one of the borrowers must have a credit score of at least 680, up from the current minimum of 600. According to CMHC, 5.9% of CMHC-insured mortgages in the first quarter of 2020 fell under the 680 score. Refer to this article to find out more about your credit score and how it can be calculated.
3. Non-traditional sources of down payment will no longer be treated as equity for insurance purposes
This means that CMHC will ban potential buyers from using “non-traditional” sources to make a payment. These sources are defined as personal loans or unsecured lines of credit. All borrowers will have to source down payments from their own funds starting on July 1st, 2020. CMHC has noted that eligible sources include “savings, the sale of a property, non-repayable financial gift from a relative, funds borrowed against their liquid financial assets, funds borrowed against their real property, or a government grant.”
What is the reason for the change?
The major reason for these changes begins with COVID-19 affecting all sectors or Canada’s economy including housing. Evan Siddall, CEO of CMHC, says that “COVID-19 has exposed long-standing vulnerabilities in our financial markets, and we must act now to protect the economic futures of Canadians,”. He continues by stating that, “These actions will protect home buyers, reduce government and taxpayer risk and support the stability of housing markets while curtailing excessive demand and unsustainable house price growth.” This plan is to protect Canadian taxpayers from further losses due to the ongoing pandemic. James Laird, Co-founder of ratehub.ca states that the most impactful development was CMHC’s decision to leave minimum downpayment sizes where they are. If CMHC increased downpayment sizes from 5% to 10%, home buyers would have to save up far more money to be approved to buy.
Refer to: CORONAVIRUS AND THE TORONTO REAL ESTATE MARKET: WHAT YOU NEED TO KNOW
What is the impact that this will have on first time home buyers?
First time home buyers will need to see if CMHC’s new policies apply to them before seeing the full impact it will have. If you are a low-ratio borrower that wishes to have mortgage default insurance, but do not qualify because of CMHC’s new criteria (under 20% down), there are private insurers such as Genworth MI Canada and Canada Guaranty that may be a good option for you provided they do not change their underwriting criteria.
TD Bank economists Rishi Sondhi and Ksenia Bushmeneva have put together a more in-depth report of what these changes may mean for first time home buyers (FTHB). They had conducted a survey that suggests a large scale (around 30%) of FTHB rely on borrowed funds. They predict that the policy changes may put pressure on decreasing average home prices because those who do qualify under the new CMHC criteria will be forced to move down the value spectrum.
Refer to: BUYING A HOUSE IN 2020 – HOW TO MAKE IT HAPPEN
What does this mean for the Toronto housing market?
Toronto has a very stable and secure real estate market because our lending system is stringent and conservative so these changes affect people who are most at risk. COVID-19 has been an eye opener because home buyers who put less than 20% down are already struggling to pay their mortgage and when a pandemic hits, there is a good chance that these people will be forced to sell. CMHC’s new criteria is put into place to protect the safety of the stable and secure market that cities in Canada, such as Toronto, pride themselves on. The new criteria may also be beneficial for the rental market which has softened due to this pandemic. The people who are no longer eligible to qualify for a mortgage are more likely to become renters which will help to absorb and stabilize the rental market.
The economy and housing market is severely pressured by COVID-19 as it is and although CMHC’s revised criteria may put pressure on the near-term housing market, the changes will help to improve the financial system in the long run for those who are better suited financially. Book a call with one of our agents today to get a better understanding of what options are the best for you during this time.