Rush To Buy Before New Mortgage Rules?

Edited Photo. Source: Flickr - Denise Chan

If you have any business relationship with a real estate flogger or mortgage broker, you've probably got a friendly email or message in the last few weeks prompting you to buy something now... lest you risk being frozen out of the market forever.

The sudden panic is prompted by a simple change in mortgage rules called B-20. Instead of getting qualified for a mortgage based on the current mortgage rate, starting in January 2018 you will need to qualify for a mortgage at a rate 2% higher than the best available rate.

You won't pay more interest for the actual mortgage, but the qualifying rate will significantly reduce the total size of the mortgage you could theoretically obtain.

Of course the real estate industry is furious. God forbid people being able to buy less house because of the government!

I'm no fan of this paternalistic type of government intervention. That said, the issue goes way further back than this single mortgage qualification decision.

Structure of Risk in Home Loans

If the banks issuing these mortgage loans had to bear the full risk of the loans, you can bet we wouldn't have the kind of real estate infatuation that currently pervades this country. Not even close. Banks would actually act with caution: loans would be smaller, downpayments would be bigger, and house prices would be much lower.

However, thanks to the big hand of government, banks have shifted hundreds of billions in home loan risk onto this wonderful Crown agency called CMHC. If you've taken a loan greater than 80% of the property value, you had to pay a premium fee for this insurance.

Amazingly, this insurance doesn't protect you. If your loan is underwater (the remaining is higher than the value of your house) and you can't continue the payments, you are toast. You will lose the house after a brief foreclosure process.

The insurance is for the friendly ubiquitous bank who issued the mortgage loan; they take possession of your house, they sell it, and CMHC cuts them a nice cheque for any loss.

This government mortgage insurance is a massive scam! By intervening in what should be a private loan market, the mortgage loan industry has gotten out of control. It hurts consumers who pay inflated house prices and carry massive mortgages while benefiting the banks who are making essentially risk-free loans that get bigger and bigger.

The nature of this sort of transaction, where you bear all the risk and the bank bears none is the twisted way our elected governments have decided to look out for your best interests. Best part is that you directly pay for the insurance, not the bank. Since it's actually protecting the bank, you would think they could at least pretend to have the bank pay the fee.

The unfortunate part is the risk ultimately is born by you, the buyer, and we, the taxpayer who backstops the CMHC. If there are just a few foreclosures here and there, the system stays intact and CMHC can easily handle the stream of small cheques made out to the big banks.

But what happens when we finally get a real economic and housing price crisis? History teaches us the overextended home owner is financially finished. But importantly the taxpayer is also screwed because we all have to back-stop the CMHC while they cut bankers cheques for billions.

Effect of B-20 Rules

This perverted system has ticked along nicely for a long time. When there's pressure on the housing price system your government, through CMHC, simply changes some insurance rules to promote more loan making.

They have reduced the downpayment requirements. They have increased the maximum size of the mortgage they will insure. They have worked out schemes with the big banks to take billions in risk of their balance sheets after the fact. They have played with the maximum amortization period of a mortgage loan.

The effect of these changes is always the same. More money pours into the market so house prices go up. The increased risk doesn't matter to anyone and we don't have to answer for these money crimes until the next pressure event occurs.

Now the CMHC is smelling the next pressure event coming. Instead of finding creative ways to loosen standards – as they usually do – they have been quietly reducing lending insurance. That's because they are trying to reduce risk in the face of house prices that have gone nuts.

CMHC knows they can't afford a housing crisis. It would bankrupt the fund and put taxpayers on the hook for tens or even hundreds of billions in underwater loans. Aside from many bureaucrats losing their cushy CMHC jobs, the prospect of taxpayers forking over billions to big banks is very unappealing – even for our shortsighted, big-spending politicians.

While this has all been taking place behind the scenes, Canadians are still running head over heels into more debt to buy overpriced real estate. Banks are naturally trying to maintain profit and market share, so they have been handing out loans that circumvent CMHC standards.

To get the impossible 20% downpayment needed to bypass CMHC, people are borrowing money from mom, third-rate mortgage providers, private loans, and other sources. Often applicants are blatantly lying on their primary mortgage applications to get their massive loans; many mortgage brokers are only happy to fudge the applications for you.

While the big banks are somewhat insulated on these uninsured loans in theory (because the loan is capped at 80% of the property value), everything else is quite pernicious. The liar loans and rampant lending are huge points of system-wide instability.

This is where big brother steps in again. To protect you from yourself, the government bank supervisors implemented this new B-20 rule. It effectively removes the most unstable buyers from the market through a backdoor technique.

If there's ever a sign that we're close to a market top, this is it. Circumventing rules, liar loans, nervous but obliging bankers, and the such are not found in a stable, safe loan system with a modest housing market. Instead it's indicative of rampant emotional behaviour and irrationality.

When your house agent calls – assuming it's not to sell – I would politely wait. When things get heady, patience can pay handsomely.

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