Rising interest rates will catch up with “a large proportion” of those who have taken out variable-rate mortgages, warns the Bank of Canada. Including those who thought they were safe because they had chosen the fixed payment option.
About half of variable-rate mortgages with payments that are supposed to remain fixed have already reached or passed the point where some form of change will still have to be made to their loan, a study unveiled by the bank revealed on Tuesday. Canadian powerhouse. As the financial markets are already expecting another 50 basis point hike in interest rates by the middle of next year, this proportion of affected households could then rise to 65%, i.e. almost 17% of all mortgages, all types combined.
In Canada, just over a third (35%) of people have some form of mortgage, with another third being renters (37%) and the remaining Canadians (28%) being mortgage-free homeowners. Of homeowners who have a mortgage, more than two-thirds have taken out a fixed-rate loan, i.e. they have been sheltered from the sharp increase in interest rates in recent months, and that they will remain so until the term of this loan. And of the 10% of Canadians who have taken out a variable-rate mortgage, only one-fifth (2%) chose the variable-payment option, meaning that the amount owed each month follows the slightest jolt of interest rate.
For the 8% of Canadians who have chosen a variable rate mortgage, but a fixed payment, the amount owed each month is supposed to stay the same, it is the proportion of this payment that goes to interest that should increase and the proportion that goes repayment of borrowed capital which should decrease when interest rates rise and vice versa. But this mechanism works only until these interest rates reach what is called the “limit rate”, that is to say that the amount required for the payment of the interest rates alone exceeds that of the installment total.
However, after the Bank of Canada raised interest rates by 3.5 percentage points since March, about 50% of variable rate and fixed payment mortgages, or 13% of all mortgage loans, have now reached if not exceeded this limit rate, with an interest rate of 4.8% for a typical loan, whereas the rate demanded by financial institutions at the end of last month was already at 5.1 %.
Vulnerable households
This limit rate will be reached more quickly by households who took out their mortgages over a longer amortization period and when interest rates were at their lowest during the COVID-19 pandemic, warn the Bank’s economists from Canada. In the case, for example, of a 30-year mortgage whose initial interest rate was 1.5%, the monthly payments would already have to be increased by 20% to cover only the interest costs and without being able to pay a penny towards the repayment of capital.
Lending institutions take different approaches to borrowers who have reached their limit rate, notes the Bank of Canada. Some automatically increase required mortgage payments. Others allow for “negative amortization”, meaning that the shortfall between monthly payments and interest charges due is added to the capital that will eventually have to be repaid. Still others contact their clients to offer them different options, such as switching to a fixed rate mortgage or making a lump sum payment to make up the mismatch.
At Desjardins Group, we contacted “the majority” of these customers “who could be vulnerable to rising interest rates” to offer them a few of these options, indicated by email to the To have to its spokesperson, Chantal Corbeil. “They are few. »
Questioned on the same question by the Globe and Mail On Monday, the TD and CIBC banks said they were adopting substantially the same policy as Desjardins, while the Scotia and Royal banks rejected the idea of negative amortization.
Usually lagging far behind fixed-rate mortgages, variable-rate mortgages have grown in popularity during the pandemic to the point of constituting almost half of new mortgages by the middle of last year.
In a speech delivered Tuesday in Ottawa, the Senior Deputy Governor of the Bank of Canada, Carolyn Rogers, recalled that household debt and housing prices are “two vulnerabilities that have hovered over the Canadian financial system for a long time”. She also said she was well aware that the accelerated upward adjustment of interest rates “will not be painless”, particularly for those “who have recently purchased a property – perhaps at the limit of their means — and who have chosen a variable rate mortgage. “They don’t make up a large proportion of households, but it’s larger than one would have expected based on historical trends,” she admitted.