Some Canadians who aren’t qualifying for mortgages at Canada’s big banks because of tougher mortgage rules aren’t taking no for an answer; they’re turning to less-regulated lenders, and that should trigger a response from policymakers.
That’s according to CIBC Deputy Chief Economist Benjamin Tal, who in a new report explores the flight to private lenders some 15 months after federal regulators brought stress testing to the uninsured mortgage segment.
The rule change meant that even borrowers who could muster a downpayment of 20 percent — the minimum for an uninsured mortgage — had to qualify at a rate 200 basis points higher than their contract rate.
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Such a borrower today could attain a five-year fixed-rate mortgage for 3.5 percent, but as per the tighter lending rules they’d have to qualify at 5.5 percent. For some, the barrier has been two high, so they’ve taken advantage of a loophole of sorts: the rules only apply to federally regulated lenders, such as big banks. Private lenders are provincially regulated and therefore not subject to the federal mandate.
“Behind the scenes, there is a transfer of risk from the regulated to the less regulated segment of the market—from where there is light to where it’s dark,” Tal writes in a new report titled “Mortgage Stress Test: The Operation Was a Success, But…”
In 2018, the first full year of the expanded stress testing, the total value of new mortgages dropped 8 percent, or $25 billion, though Tal notes mortgage originations were already in decline.
Meantime, “high-quality mortgages” — that is, ones with borrowers who have credit scores greater than 751 — are making up the greatest share of originations on record at a whopping 52 percent. But the data from Equifax doesn’t capture credit scores of borrowers choosing non-traditional lenders.
“So, to the extent that more borrowers use alternative channels, due to policy changes in general, and B-20 in particular, the market might be riskier than perceived,” Tal notes.
Looking to Ontario and using info from the province’s land registry, Tal says 12 percent of recent transactions were tied to an alternative lender, compared to 10 percent last year.
“Alternative lending is an integral part of any normally- functioning market. But a fast-growing alternative lending market is not,” Tal writes. “That was certainly not the intent of B-20 (stress testing), and any other mortgage-related change to regulations,” he continues.
Given the growth of so-called “shadow banking” sector, Tal has some advice from policymakers.
“Accordingly, regulators should revisit B-20. We need a more flexible benchmark, potentially a narrower spread over the contract rate when interest rates approach cyclical peak, and perhaps to establish a reasonable floor under which the qualifying rate will never drop below,” he concludes.