By Sean Cooper
Special to the Financial Independence Hub
Ever since the start of COVID, the real estate market has been on fire. To help deal with the record level of activity in the real estate market and also keep things balanced, a new mortgage stress test was introduced June 1st. In this article we’ll look at the new mortgage stress test and how it affects you.
What’s the Stress Test?
The stress test is a measure that anyone buying a home, refinancing their mortgage or switching mortgage lenders must pass. Pretty much the only time you don’t have to pass the stress test is when you’re renewing your mortgage with your existing lender. Whether you’re buying a home with less or more than 20 per cent, it doesn’t matter. You’re affected by the stress test.
The stress test was introduced several years back to help protect homebuyers from becoming overleveraged and taking on too much mortgage debt. Prior to the stress test, you only had to prove that you could afford mortgage payments based on the mortgage rate when you first sign up for your mortgage. However, with Canadians spending more and more on homes and the threat of higher interest rates looming, the Canadian government decided to introduce the stress test in early 2018 out of precaution.
To pass the stress test, you need to show that you can qualify at the greater of your mortgage rate plus two per cent and the stress test rate (currently at 5.25 per cent). With mortgage rates currently somewhere in between the mid one percent’s and the mid two per cent’s for both fixed and variable rate mortgages, you’ll almost always have to qualify at 5.25 per cent as things stand today.
How has the Stress Test changed?
The new stress test rules came into effect June 1st. Prior to the introduction of the new stress test rules, the mortgage stress test rate was 4.79 per cent. That’s because it was based on the average of the big banks’ posted mortgage rates. However, the government decided to change how the stress test was calculated.
Instead of the stress test rate being based on an average of the big banks’ posted rate, the government decided to set its own stress test rate. That’s how it came up with the 5.25 per cent rate. The government said it would then adjust the 5.25 per cent rate annually (in December) or sooner if needed (for example if inflation gets out of hand).
How does the new Higher Stress Test Rate affect my Home Buying budget?
The new stress test doesn’t mean a huge change. It’s not as much of a shock as when the stress test first came in and cut homebuyer’s purchase power by 20 per cent overnight.
The stress test rate going from 4.79 per cent to 5.25 per cent means a reduction of 4 per cent for the average homebuyer.
The bottom line is that if you weren’t planning to buy at the top of your budget, the stress test won’t affect you. It will only affect those looking to maximize their home buying budget (mainly first-time homebuyers). You can help counteract it by spending less on a home or getting gifted money from parents.
Sean Cooper is the bestselling author of the book, Burn Your Mortgage: The Simple, Powerful Path to Financial Freedom for Canadians. He bought his first house when he was only 27 in Toronto and paid off his mortgage in just 3 years by age 30. An in-demand Personal Finance Journalist, Money Coach and Speaker, his articles and blogs have been featured in publications such as the Toronto Star, Globe and Mail, Financial Post and MoneySense. Connect with Sean on LinkedIn, Twitter, Facebook and Instagram.