Sunday, November 4, 2018

The Mortgage Qualification Crunch and Lower Housing Prices

Most people that have a mortgage know that interest rates have been going up over the last year and a half.  And some people with a mortgage may have heard about the B-20 rule changes that tighten mortgage qualification requirements.  However I don't think most homeowners understand how much these changes have increased the qualifying payment, which in turn significantly reduces the mortgage they can qualify for when buying a new home.
Two years ago, 5-year fixed mortgage rates were as low as 2%, and the monthly payment for a $100K mortgage was $424.  Now 5-year fixed rates are around 3.5%, and the qualifying rate would be 5.5% (3.5% + 2%).  The qualifying payment for a $100K mortgage at 5.5% is now 45% higher at $614/mth.  In terms of the house you can afford, in an extreme case of a family without any other debt service costs like a car payment, if you could afford a $500K mortgage before, now you can get a $350K mortgage.  Most families will now have to set their sights at least 25% lower than 2 years ago.

With more interest rate hikes likely coming, things will continue to get worse, although we are much closer to the end of interest rate hikes than the beginning.  Even if you weren't planning on moving into a bigger house, there will still be an impact due to downward pressures on housing prices.  That's because housing prices tend to go down as interest rates go up.  When fewer families can afford a $500,000 home, builders will make less of them.  When families move they will buy a less expensive house because they won't be able to qualify for a mortgage as big as they used to.

I don't think the impact on home prices over the next few years will be significant, with prices in most markets dropping by about 5%.  Where I think the biggest negative impact will be is in the real estate industry, with fewer homes being bought and sold.  For some people, like landlords, reductions in housing affordability is actually good news.  One of my tenants told me their plan is to buy a house in about a year.  However they had never heard about B-20, and had not met with a bank or mortgage broker to get an idea of what they can afford.  With more first-time buyers having to wait longer in order to pay down debts and save for bigger down payments, demand for rental properties should remain strong.