30 Apr

Variable vs fixed: Is it time to lock in your mortgage?


Posted by: Mike Hattim

By Madhavi Acharya-Tom Yew | Fri Apr 27 2012

The search for the right mortgage can make a person feel a bit like Goldilocks: On the hunt for something that is not too short, not too long, but just right.

For Ilda Dinis and her partner, Ryan Johnsen, that meant choosing a five-year term with an interest rate of 3.19 per cent for their new home in the High Park-Junction area.

“We keep hearing that rates are going to go up. This was a great rate, and to have it locked in for five years gives us a lot of comfort,” Dinis said.

Mortgage experts will tell you that your down-payment, the length of the amortization, the term you choose, and pre-payment options, as well as the interest rate, are all important factors when it comes to paying off this massive debt as quickly as possible.

Today’s homebuyers tend to be focused on the record-low interest rates.

How much longer will they last?

In mid-April, the Bank of Canada kept its benchmark interest rate unchanged, but governor Mark Carney again warned that Canadians should get their household finances in order because interest rates hikes are on the horizon.

Of course, we’ve all heard that one before.

The central bank’s overnight rate has been stuck at one per cent since September, 2010, largely because of worries about the health of the world economy and the ongoing debt crisis in Europe.

Since then, warnings that these low rates wouldn’t last long have been incessant.

“Two years ago, I was listening to economists and telling clients this is a short-lived thing, get your rate today, two or three years from now, rates will be back up,” said mortgage broker Brad Compton.

“Here we are two years later and rates are in roughly the same position as they were back then.”

Here are the factors economists cite to show it’s different this time: the recovery in the U.S. economy is picking up steam; Canada’s economy is strengthening and there are mounting worries about Canadians’ household debt levels and these things make it all the more likely that rates will increase later this year or early next.

“Over the past couple of years I have felt like the little boy who cried, ‘Wolf!’ I have repeatedly warned Canadians to be careful with their finances, because interest rates are bound to rise eventually. I said that at the start of last year, and interest rates ended the year lower,” Craig Alexander, chief economist at TD Bank Group, wrote in a recent commentary.

“Regardless, I keep stressing that you have to read the book; the wolf does show up at the end. Well, the Bank of Canada’s messaging this week suggests that the wolf is getting closer and there aren’t too many pages left.”

TD Bank expects that the overnight rate could rise by half-a-percentage point this fall and another half-percentage point next spring.

That, in turn, would send the bank’s prime rate higher, and variable mortgage rates would also rise.

Fixed rates are on the rise, too, but for different reasons. These rates are tied to borrowing in the bond market, where supply and demand, and, therefore prices, can fluctuate according to world events.

“The bond yield has jumped up from where it was previously,” said Kelvin Mangaroo of RateSupermarket.ca. “That’s what has really driven the fixed mortgage rates up.”

In January, the Bank of Montreal grabbed headlines when it unveiled a fixed rate of 2.99 per cent on a five-year term.

It was a gloves-off grab for market share at a time when banks are expecting Canada’s red-hot real estate market to cool off. Other banks were quick to match the offer, even as they called the deeply-discounted rate unsustainable.

Many of those offers have now expired, and five-year rates are sitting in the low three-percentage range.

But, because these rates are still well below historical averages, it’s still the right time to lock-in, experts say.

Consider that the prime rate in Canada, which stands at 3 per cent, has actually averaged 4.19 per cent over the last 10 years, according to CanEquity.com, a popular mortgage website.

The average three-year fixed rate has been 5.65 per cent over that time, and the average five-year, fixed mortgage rate is 6.27 per cent.

“Being able to lock in for 10 years at an interest rate below 4 per cent, you really can’t go wrong with that,” Compton said. “It’s going to allow you to have security and peace of mind and allow you to ride out any wild rate fluctuations that we could see over the next three to five years.”

A shorter term may be a better fit for someone who is confident they will be able to pay the mortgage off in a couple of years and doesn’t want to get hit with penalties.

If you’re tempted to consider a shorter term because you may be selling your home in a couple of years, keep in mind that you may be able to take the mortgage with you to your new property, or the person buying yours may take it over, assuming he or she qualifies, Compton said.

After putting in offers — and losing out on — 10 different homes, Dinis and Johnsen finally landed a detached home, a bit bigger than their current one, on a quiet, family friendly street in her neighbourhood.

The couple and their two sons, ages 11 and 9, will move in July.

Referring to the many bidding wars they endured during their search, Dinis said, “You get emotionally attached. You start envisioning your stuff there and kids in the backyard but then you have to let it go, because you know that you need to be rational about it.”

Choosing their mortgage rate and the terms took similar focus. There were lower rates out there, along with shorter and longer terms to consider.

They ruled out a variable rate because they preferred the security of locking in.

The 10-year rates, as low as 3.99 per cent, seemed attractive, but a decade just seemed like too long a time to lock-in, Dinis said.

The couple also considered a four-year term with a rate of 2.99 per cent, but the pre-payment terms (the ability to pay off the principal without penalties) were not as generous.

“The difference in the rate was nominal and there were more penalties for paying it down early,” Dinis said. “It felt restrictive. If you can’t take advantage of the low rates to pay it down, what’s the point of getting a low mortgage rate?”

They decided to grab the five-year rate, and take advantage of their pre-payment options whenever possible.

“We’ve crunched the numbers six ways to Sunday. We know we’re getting a great deal and we can pay down more on the mortgage at that rate as well,” Dinis said.

“This is definitely my dream house. This will hopefully be it for many, many years.”

Her circumstances

Ilda Dinis had a lot to consider when choosing a mortgage:

• Fixed rate vs. variable: Choosing a fixed-rate allows her to lock-in a set mortgage payment each month for the length of the term, without worrying about fluctuations in the bank’s prime rate and the Bank of Canada’s overnight rate.

• Length of term: The term is the length of time you commit to the mortgage rate and lender. Terms range from six months to 25 years, but most Canadians choose a mortgage term of five years. When the term is up, you renew your mortgage on the remaining principle. The rate is likely to change at that time.

• Pre-payments: Homeowners are allowed to increase their monthly payments or make lump-sum payments without penalties, up to a certain annual maximum — typically 20 per cent of the principal. Some mortgages that offer a special low interest rate may be more restrictive.

Rates then and now

Today’s low rates are a steal. Here’s a comparison using historical averages:

• Borrowing $400,000 at 3.19 per cent for five years with a 25-year amortization:

The payments are $1,932.19 per month and the remaining principal at the end of the term is $343,137.56. The total interest paid at the end of the term is $59,068.96

• Borrowing $400,000 at 6.27 per cent for five years with a 25-year amortization:

The payments are $2,623.77 per month and the remaining principal at the end of the term is $360,698.59. The total interest paid at the end of the term is $118,124.79.

27 Apr

Mortgage lending change could trigger soft landing or ‘apocalypse’


Posted by: Mike Hattim

By Susan Pigg and Les Whittington | Thu Apr 26 2012

The federal government has moved to further tighten up mortgage lending and cool the overheated Canadian real estate market by effectively reining in the Canada Mortgage and Housing Corp.

What’s unclear is whether the move will throw a cold compress on Toronto’s feverish housing market or just mean there’s one more person keeping a close eye on its temperature.

Under a bill tabled Thursday, the Office of the Superintendent of Financial Institutions will be given oversight of CMHC, which now insures nearly 50 per cent of the $1.1 trillion in residential mortgage credit now outstanding in Canada. 

“I’ve been concerned about the CMHC for some time in the sense that it’s become an important financial institution in Canada and it was not subject to the same supervision by the Office of the Superintendent of Financial Institutions,” Finance Minister Jim Flaherty told a news conference.

“So I think this is an important step forward.”

Flaherty made it clear he’s particularly concerned about the condo markets in Toronto, Vancouver and Montreal. The bill, which he’s been hinting at for weeks, is aimed at discouraging high-risk borrowing and reducing the risk to taxpayers if those major markets take a tumble.

It is inevitable that OSFI’s oversight of the CMHC will have at least some dampening effect on the housing market as more mortgage applications inevitably get rejected or subjected to scrutiny that has slipped over the last decade, says Ben Rabidoux, an analyst at M Hanson Advisors.

It would be “apocalypic” for the condo industry, but highly unlikely, if investors found themselves no longer backstopped on mortgages by CMHC, as some housing analysts have suggested could eventually happen, says Brian Persaud, a realtor and co-author of a book on condo investing.

Rabidoux agrees: “This is a credit-driven housing market and (Flaherty) is walking a tightrope when he tries to slowly rein it in and induce a soft landing, particularly when you see how reliant the economy is on this current housing boom.

“I think he is starting to get the sense, rightfully so, that a soft landing is not in the cards and, by passing the dirty work off to OSFI, he’s not the one seen to be responsible for it.”

But CIBC deputy chief economist Benjamin Tal predicts “the surprise will be how little this will change as far as the overall activity of CMHC goes,” calling the change of oversight as nothing more than “changing reporting lines.”

The amount CMHC insures has almost tripled just since 2000, from about $200 billion to $541 billion as of last September — so close to the $600 billion insurance cap set by Ottawa that it’s raised fears taxpayers could be left hugely exposed if prices start dropping and over-leveraged homeowners start defaulting on mortgages.

Just this week, the governor of the Bank of Canada warned Canadians, yet again, that household debt is a significant risk to the country’s economic health with interest rates bound to rise and house-prices-to-income levels running 35 per cent above historic levels.

The budget implementation bill tabled Thursday would also stop CMHC from providing insurance to major banks on conventional loans that aren’t considered high risk. That practice has become big business for CMHC and only served to boost the bottom lines of banks, says Rabidoux.

Carleton University professor Ian Lee, a former mortgage broker, called the move “long overdue” along with OSFI’s recommendations that lending be tightened on home equity lines of credit.

He’s urged Ottawa to privatize CMHC in the past, believing that “the role of government is to referee the hockey game and regulate it aggressively. But they shouldn’t be owning one of the teams.”

The aim of the bill introduced Thursday is to ensure that CMHC’s commercial activities “are managed in a manner that promotes the stability of the financial system” and contributes “to the stability of the housing market,” said Flaherty.

“CMHC was created to assist in social housing but it’s become much more than that.”

25 Apr

Safer home loans needed to avert future crises, regulator says


Posted by: Mike Hattim

Emily Flitter
Financial Post

Regulators published global guidance on Wednesday to make granting home loans more rigorous, five years after weak lending standards in the U.S. mortgage market spiralled into the worst financial crisis in decades.

The Swiss-based Financial Stability Board (FSB), a regulatory task force for the world’s top 20 economies, said poorly underwritten home loans contributed significantly to the global financial crisis.

Home prices have tumbled in many countries, including the United States, Ireland and Spain, contributing to major economic difficulties since the financial crisis erupted in 2008.

“Had these principles been followed in those jurisdictions, problems would have been much less acute,” said Guillermo Babtz, Mexico’s bank regulator who headed the FSB’s effort.

National supervisors from G20 countries will be expected to ensure that lenders verify and document each applicant’s job status, income and ability to repay the loan in full.

Countries like Britain have already cracked down on so-called “liar loans” where a mortgage is based on an applicant’s declared rather than verified income.

Supervisors should also set “appropriate” loan-to-value ratios or how much of the purchase price can be borrowed.

The FSB stopped short of requiring a minimum LTV ratio, saying it would be difficult to apply such detailed guidance globally. The step would intrude on domestic political sensitivities in the supply of credit.

The principles also require mortgage providers to check the total debt-to-income levels of borrowers to ensure they can afford to repay loans; to perform sound appraisals of properties to ensure that loans have adequate collateral; and to use sound and reliable mortgage insurance companies.

Countries will have two years to implement these principles and report back to the Financial Stability Board, which will conduct peer reviews of mortgage lending practices.

G20 finance ministers meet this week to review progress on a welter of new financial rules and principles, such as on home loans, that their leaders have pledged to implement.

24 Apr

A reality test for would-be home buyers


Posted by: Mike Hattim

Globe and Mail

Never ask anyone who lends money if you can afford a house.

Lenders care about their own money. Not yours. So while you’re thinking about how you’ll manage the cost of a mortgage and all your other living expenses, lenders seek the answer to one single question: How much risk is there that this person will not repay our money on time?

Not that lenders are oppressively picky. The more they lend, the more they make in interest. So there are no high hurdles in deciding who gets a mortgage. Partly, that’s because lenders know they have human nature working for them. If a family is having trouble paying its bills, you can be sure the mortgage will come first.

There are plenty of mortgage affordability calculators online, but they use the lender’s criteria for the most part. So let’s see what we can do to develop some simple rules that will help you understand how well you can manage the cost of owning a home.

Helping us out is Jeff Schwartz, executive director of the non-profit Consolidated Credit Counseling Services of Canada. His agency helps people overwhelmed by their debts, and he knows how problems start. “We see the remnants of people who haven’t kept their financial house in order.”

Where lenders base their analysis on gross income, Mr. Schwartz suggested using take-home pay because it corresponds to what people actually have to spend.

His basic guideline: The monthly cost of your mortgage and property taxes, plus the monthly portion of your annual home insurance bill, should not eat up more than 25 to 30 per cent of your monthly net pay.

Sure, you could push it higher. In fact, Mr. Schwartz said some clients of his agency have housing costs as high as 50 per cent of their take-home pay. “That means they’re eating Kraft Dinner to be able to afford the house they’re living in. They’re making sacrifices somewhere else.”

Capping housing costs at 30 per cent will keep some people out of the housing market, which is fine. They can rent and keep saving to build a bigger down payment. In the housing market, fools rush in.

Those who follow this guideline in buying a home will enjoy three major benefits, the first being that they’ll have room to save for retirement and for their kids’ post-secondary education. Mr. Schwartz figures a goal of saving 10 per cent of your take-home pay is realistic if you cap your housing costs at 30 per cent.

Another benefit of the 30-per-cent ceiling for housing is that it gives you enough financial slack to absorb higher costs in the future. Higher interest rates could push up the cost of your mortgage on renewal, for example. Mr. Schwartz said rising household utility bills are also an issue.

A final benefit of the 30-per-cent rule is that it leaves you with enough money to cover all the usual living costs, as well as a reasonable level of additional debt.

For some perspective on the 30-per-cent rule, let’s check with David Larock, a banker turned mortgage broker. He found this a tough standard and notes that young adults buying homes should find the costs more manageable as time passes and they move into their peak earning years.

Mr. Larock also said that people who buy a smaller, more affordable home may find they have to move in a few years. “Moving is bloody expensive – you have to pay real-estate commissions and land-transfer taxes, you’ve got to move everything. Being ultra-conservative can sometimes end up causing more harm than good.”

The problem with buying a larger home is that it will cost you more, and that means you’ll either have to save a larger down payment or stretch yourself and pay more in mortgage costs. Very likely, lenders will accommodate you on that.

The lender’s key metric for deciding how much you can borrow is the total debt service ratio, which measures your pre-tax pay against the cost of your mortgage, property taxes, heating and any other debts you have. The maximum mortgage payment is supposed to take up to 40 per cent of your gross pay, but Mr. Larock said people with solid but not outstanding credit scores may be allowed to go up to 42 or even 44 per cent.

The first casualty of being over-mortgaged is savings. “Your lender doesn’t care if you have enough money to save for retirement,” Mr. Larock said. “That doesn’t enter their thinking.”

9 Apr

Renewing your mortgage? Be a hero


Posted by: Mike Hattim

Globe and Mail

Let’s see whether the many people who bought a house in 2007 show the appropriate killer instinct when renewing their mortgages this year.

Surveys indicate that about one-third of mortgage holders are actively trying to terminate their mortgages early by making extra payments. But we need to do more now, before the economy rallies and rising interest rates start making it more expensive to finance the cost of a home.

This is where the people who bought five years ago come in. Those who opted for a five-year fixed-rate mortgage will have to renew at some point this year, which means they face a choice. They can either let today’s vastly lower mortgage rates reduce their monthly payments, or leave their payments where they are and use the differential to accelerate the pay down.

Long-time mortgage broker Vince Gaetano of MonsterMortgage.ca has been urging his renewal clients to go with the second option. “The story we try to present to the client is: ‘How soon do you not want to have a payment any more?’ ”

To make his case, Mr. Gaetano lined up some facts and figures on the mortgage market for 2007 and now. Five years ago, the global financial crisis had yet to flare up and Canada’s housing market was reporting what were then record sales.

A majority of buyers were going with five-year fixed mortgages, for a couple of reasons. First, discounted variable-rate mortgages were going for close to the same rate as a discounted five-year mortgage with a fixed rate. Second, it was widely thought that interest rates were headed higher.

As a result, Mr. Gaetano said, about 70 per cent of buyers were going with five-year fixed rate mortgages.

He recalls that, in June of 2007, a well-discounted five-year mortgage went for 5.79 per cent. Today, the very best rate for a five-year mortgage is 3.29 per cent.

Let’s say you started with a $300,000 mortgage in 2007. Mr. Gaetano said that if you chose a 30-year amortization, your monthly payments would have been $1,745 and your balance on renewal would be $278,184. If you moved into a new five-year fixed rate mortgage at 3.29 per cent, your monthly payments would be $1,358, which would save you a very significant $387 a month.

Mr. Gaetano’s numbers show that if you pocketed that money and went with lower payments, your mortgage balance on renewal five years from now would be $239,087. If you kept your payments level, thereby paying down an extra $387 a month against your principal, the balance on renewal would be $213,914. The lower your mortgage amount on renewal, the quicker the loan will be paid off and the less interest you’ll pay.

High personal debt loads in Canada have caused concern at the Bank of Canada, the Department of Finance and, outside the country, the International Monetary Fund and the Organization for Economic Co-operation and Development. It would be a clear sign that Canadians are getting the message on debt if they used all available opportunities to pay their mortgages down quicker.

The actual experience in this area is encouraging. The 2012 RBC Home Ownership Poll indicates that 14 per cent of Canadians made double-up mortgage payments (your regular payment plus an additional amount equalling as much as one extra payment), 13 per cent made one-time lump-sum payments and 7 per cent applied a bonus, gift or inheritance against their mortgage balance. A mortgage market survey released by the Canadian Association of Accredited Mortgage Professionals last November suggested that 36 per cent of mortgage holders are making voluntary additional payments.

“You are seeing a significant minority who value [mortgage prepayment] features and are taking advantage of it,” said Jim Murphy, CAAMP president.

The CAAMP survey also found that in cases where people were renewing their mortgages at a lower rate, 24 per cent voluntarily increased their payments. We could do better than that, especially among the people renewing mortgages they arranged in 2007.

These people presumably have seen their pay rise somewhat, and they’ve learned how to juggle the cost of running a house along with other expenses. Most importantly, they’re fortunate to have got into the market before the price runups of the past few years.

No one’s in a better position to show the killer instinct about mortgages than the class of 2005. Don’t let us down at mortgage renewal time, guys.

5 Apr

Despite low rates, many Canadians holding off home purchases: survey


Posted by: Mike Hattim

Toronto— Reuters

A growing majority of Canadians do not intend to buy a house in the next two years, even with mortgage rates near record lows, according to a Royal Bank of Canada (RY-T56.91-0.28-0.49%) survey released on Thursday.

In RBC’s annual poll of Canadian homeowners, 73 per cent of respondents said they are unlikely to buy within the next two years, an increase of 2 per cent over the previous year’s survey.

However, 46 per cent of those polled expected mortgage rates to stay at ultra-low levels next year, up sharply from 30 per cent in 2011. The poll also found that nearly 60 per cent felt this year was a good time to buy a house, compared to 41 per cent that felt 2013 would be better.

“Canadians still feel confident about real estate but are a little uncertain about where the market is heading and when it makes sense to buy,” said Marcia Moffat, head of home equity financing at RBC.

Ms. Moffat added that considerations such as affordability may be keeping potential home buyers on the sidelines.

Canadian policymakers and economists have fretted about rising housing prices as household debt levels have soared. The ratio of debt to personal disposable income hit a record 151.9 per cent last year.

The market has been sustained by ultra-low interest rates since the financial crisis began in 2008. The Bank of Canada is widely expected to keep its main policy rate at the current 1 per cent until the third quarter of 2013 as global economic growth remains subdued.

Earlier this week, Bank of Canada Governor Mark Carney warned that household spending relies too much on low borrowing rates and the high value of homes, which prompted traders to increase bets on a rate hike in late 2012.

Recent industry data showed overall home prices rose just 0.1 per cent in January from December, but were up 6.5 per cent from a year earlier.

In the RBC poll, 68 per cent of homeowners said the value of their home had increased in the last two years, but only 47 per cent expected prices to be higher a year from now.

The poll was conducted by Ipsos Reid between January 24 and 30.

4 Apr

Canada steps up housing market oversight


Posted by: Mike Hattim

By Andrew Mayeda and Greg Quinn

Canadian authorities are stepping up oversight of the nation’s housing market even as lenders such as Bank of Nova Scotia warn that tougher rules could threaten the economic recovery.

The country’s banking regulator, the Office of the Superintendent of Financial Institutions, said Tuesdsay it will boost supervision of private mortgage insurers while examining “emerging” risks to the financial system in several areas, including residential mortgages.

Policy makers, including Finance Minister Jim Flaherty, have said that parts of Canada’s housing market have become overvalued as consumers add to record debt levels, encouraged by some of the lowest mortgage rates in decades. Flaherty said in his budget last week the government will enhance supervision of Canada Mortgage & Housing Corp., a federal agency that insures some mortgages.

Scotiabank chief executive officer Richard Waugh warned about making reforms to CMHC that could have “unintended consequences” and cause the market to slow too much. “Canada’s model, which has been so successful, is let the banks manage and let the policy makers set macroeconomic policy, monetary policy, and good strong regulatory supervision,” Waugh said Tuesday in an interview in Saskatoon, Saskatchewan.

Bank of Canada Governor Mark Carney said in an April 2 speech that households relying on debt financing represents “the biggest domestic risk” to the economy. Some Canadians would be vulnerable to a sharp decline in housing prices, the central bank said in its latest Financial System Review.

Home Prices Rising

Home resale prices rose 6.5% in January from a year earlier, according to the Teranet-National Bank Composite House Price Index. The S&P/Case-Shiller index of property values in 20 U.S. cities fell 3.8% in January from a year earlier after dropping 4.1% in December, a March 27 report from the group showed.

The country’s resale housing market is overvalued by 10% to 15% and there is an oversupply of new homes, Toronto-Dominion Bank economist Sonya Gulati said in a March 22 report. “These excesses should be gradually unwound over 2013 and 2014, with higher interest rates the impetus for the adjustment,” she said.

The Ottawa-based Office of the Superintendent of Financial Institutions said Tuesday it will produce a report for Flaherty on government guarantees on mortgage insurance. An OSFI spokeswoman, Leonie Roux, said the report would apply to private insurance providers such as Genworth MI Canada Inc. and not CMHC.

The federal government guarantees the full value of mortgage insurance offered by CMHC, which had $541 billion in insurance in force at the end of September. The government guarantees 90% of insurance offered by private-sector companies.

Vulnerable Households

“Elevated household debt levels not only make households vulnerable to adverse shocks but continued low interest rates could encourage even higher household indebtedness,” OSFI said in a planning document released on its website yesterday.

Consumers “could become a source of negative domestic influence if they take action to rein in spending to address their indebtedness,” OSFI added.

Consumer spending has led economic growth since taking the country out of recession in 2009. The Bank of Canada projects households will be responsible for more than half of the country’s 2% economic growth this year.

The government said in the budget it will enhance the governance and oversight of CMHC to “ensure its commercial activities are managed in a manner that promotes the stability of the financial system.”

Strengthening Oversight

The government is considering whether OSFI can play a role in “strengthening the oversight of CMHC’s commercial operations,” Chisholm Pothier, Flaherty’s chief spokesman, said Tuesday in an e-mail. OSFI doesn’t currently regulate CMHC, instead, it reports to the country’s parliament through Human Resources and Skills Development Minister Diane Finley.

“Someone is going to have to safeguard CMHC, and I would assume that falls under OSFI,” said Ian Pollick, senior fixed- ncome strategist at RBC Capital Markets in Toronto. “There is no other real national regulator.”

The budget also said the government will introduce legislation on covered bonds under a system to be administered by CMHC.

Most covered bonds issued in Canada are secured by mortgages insured by CMHC. A government consultation paper in May asked for input on whether the law should encourage banks to secure covered bonds with uninsured mortgages, a move that may lead banks to rely less on CMHC insurance. The budget didn’t specify how the government will proceed on that issue.

Rationing Insurance

The government also didn’t say whether it will raise CMHC’s $600-billion limit for insuring mortgages. CMHC said Jan. 31 it has been rationing bulk insurance offered to lenders as the corporation approaches its legal limit.

Flaherty has tightened rules on mortgage insurance three times since October 2008. He appears to be taking a “wait-and- see” approach to determine if the market is headed for a soft landing before he acts again, said Finn Poschmann, vice president of research at Toronto-based think tank C.D. Howe Institute. “If the growth in mortgage credit and home-equity lines of credit doesn’t tame itself, we can expect the finance minister to respond,” he said.

The government should “hit the pause button” to take stock of the new rules put in place since the financial crisis, and whether such changes may have “unintended consequences,” Terry Campbell, president of the Canadian Bankers’ Association, said yesterday in a speech in Ottawa.

Canada’s banks have been ranked the soundest in the globe by the World Economic Forum in part because they avoided the subprime loans that crippled many U.S. lenders during the financial crisis.

2 Apr

Collateral mortgages: Why banks like them


Posted by: Mike Hattim

By Rubina Ahmed-Haq

If you’re buying a house and are shopping for a mortgage this spring you may come across something called a collateral mortgage. This home financing tool has been around for a while, but mainly in the background. Now it’s going mainstream with both TD Bank and no-frills ING Direct abandoning the conventional mortgage in favour of this type of financing exclusively. Other big banks make collateral mortgages available, but for now offer both kinds.

Many consumers hunting for a mortgage would be hard pressed to explain the difference between the two, but here it is:

With a conventional mortgage, you and your lender agree on how much you can borrow, the length of the term and the interest rate. As an example, say the house you’re buying is worth $200,000. With 20 per cent down you would borrow $160,000. You might select a fixed-rate, five-year term, which this week is between 3 and 4 per cent.

With a collateral mortgage, you still have an agreed interest rate and term, but the bank registers a charge of up to 125 per cent the value of your home, provided you have at least 20 per cent equity in it. In this example the charge would be $200,000 plus up to another $50,000.

That’s because a collateral agreement assumes you will want to borrow more in the future and so makes this extra amount available now. As long as you maintain 20 per cent equity in your home, you borrow up to 80 per cent of its value. 

So a collateral mortgage can be a great product for homeowners who want that extra borrowing ability along with their mortgage. Doing all the paperwork while applying for the mortgage saves fees that would apply later if a homeowner tried to apply for a credit line.

The advantage to the bank is that a collateral agreement makes it harder for you to leave because it interlocks your lending. As Toronto real estate lawyer Mark Weisleder, a Moneyville columnist, points out, a collateral mortgage secures all debt held with that lender under one agreement. So a line of credit, a credit card, car loan or any personal loan will all be secured by the same agreement.

Most banks do not allow transfers of collateral mortgages because they are tied to other consumer loans. This means that at the end of your five-year term, you have to pay discharge fees to get out of one mortgage and additional fees to register a new one at another financial institution. On the other hand, a conventional mortgage is easy to transfer when the term is up.

Another difference is that in a conventional agreement your rate cannot be increased during the term, even if you default or fall into arrears with your payments.

With a collateral mortgage, if you go into arrears or default, the bank has the right to raise your interest rate by up to 10 percentage points.

This is because a collateral mortgage is registered at a charge of prime plus 10 per cent. Senior TD Bank mortgage official Farhaneh Haque says the this higher rate is charged to protect customers from incurring more legal and administration fees when they want to borrow more. Without this, the bank would have to reregister the loan when you want to borrow more. Since the loan is already registered at this higher rate, when you qualify, the bank can offer it to you with no questions asked, even if the loan is 10 points higher.

Tom Hamza, president of Investor Education Fund, a consumer agency funded by the Ontario Securities Commission, says it’s clear why collateral agreements are attractive to the banks.

“The fact that people can access money more easily and the fact that they won’t leave are two pretty compelling reasons for financial institutions to offer these,” he says.

Hamza says collateral mortgages are good for homeowners who have a lot of debt in a lot of different places, or those who “frequently need to access to cash”. But for all others it may not be the right product.

If you don’t want the extra money and want the freedom to move your business elsewhere when the mortgage matures, a collateral agreement is probably not the best option. It’s a classic case of buyer beware, before you sign up for a collateral agreement make sure it’s the product that suits you and your lifestyle.

2 Apr

Beware the pitfals of collateral mortgages


Posted by: Mike Hattim

By Mark Weisleder | Sat Jul 30 2011

When you apply for a mortgage, you usually just ask about the term, amount, interest rate and monthly payment. Not many people understand the difference between a conventional mortgage and a collateral mortgage. Yet many banks are now asking borrowers to sign collateral mortgages — and it could result in them being tied to this bank, for life.

With a normal conventional mortgage you bargain for a set amount, rate and amortization. Say the property is worth $250,000 — you bargain for a $200,000 loan, at 3.5 per cent, a five-year term/25-year amortization, payments of $998.54 per month.

A conventional mortgage is registered against the property for $200,000. If all the payments are made on time, the mortgage is renewed on the same terms every five years and no prepayments are made, the balance is zero after 25 years.

Should another lender decide to lend you money as a second mortgage, there is nothing stopping them from doing so, subject to their own guidelines. Under normal circumstances the principal balance on a conventional mortgage goes only one way, down. In addition, banks will accept “transfers” of conventional mortgages from other banks, at little or no cost to the consumer.

A collateral mortgage has as its primary security a promissory note or loan agreement and as “backup,” a collateral security, being a mortgage against your property. The difference is that, in most cases, the mortgage will be for 125 per cent of the value of the property. In our example, the mortgage registered will be for $312,500. But you will only receive $200,000. The loan agreement will indicate the actual amount of the loan, interest rate and monthly payments.

The collateral mortgage may indicate an interest rate of prime plus 5-10 per cent. This will permit you to go back to this same bank and borrow more money from time to time, without having to register new security. The lender will offer you a closing service, to register the mortgage against your property, at fees that will be cheaper than what a lawyer would charge you. Sounds good so far, doesn’t it?

However, this collateral loan agreement has different consequences, which are usually not explained to the borrower.

• Most banks will not accept “transfers” of collateral mortgages from other banks, so the consumer is forced to pay discharge fees to get out of one mortgage and additional fees to register a new mortgage if they move to a new lender. Thus the bank is able to tie you to them for all your lending needs indefinitely because it will cost you too much to move.

• Lenders may be able to use the collateral mortgage to offset any other unpaid debts you have. Offset is a right under Canadian law that says a lender may be able to seize equity you have in your home, over and above the mortgage balance, to pay, for example, a credit-card balance, a car loan, or any loan you may have co-signed that is in default with the same lender. In essence any loans you may have with that lender may be secured by the collateral mortgage. Nobody goes into a mortgage thinking about default, but “stuff” happens in people’s lives and 25 years is a long time.

• Let’s say your house value is $200,000. A collateral first mortgage registered on the property is $250,000. The amount owing on the mortgage is $150,000. If you were to need an additional $20,000, but the lender declines to lend it for any reason, then practically speaking you won’t be able to approach any other lender. They will not go behind a $250,000 mortgage. Your only way out would be to pay any prepayment penalty to get out of the first mortgage and pay any additional costs to get a new mortgage.

• Let’s say your mortgage is in good standing but you default under a credit line with the same bank. The bank could in most cases still start default proceedings under your mortgage, meaning you could lose the house.

• Some lenders are offering collateral mortgages in a “negative option billing” manner. Unless you are informed enough to say you want a conventional mortgage, you will be asked to sign documents for a collateral mortgage.

One bank is only offering collateral mortgages.

I spoke with David O’Gorman, the president and principal mortgage broker with MortgageLand Inc. He tells me it is his duty under the law to ensure the “suitability” of any mortgage he arranges for a consumer.

He would be hard pressed to justify the recommendation of this type of collateral first mortgage to any consumer, without disclosing both verbally and in writing the points listed above, and he believes the consumer should have their own lawyer review everything before they sign.

Lending money to people without proper explanation of the consequences is wrong. The banking regulators need to look into this practice and stop it. In the meantime, do not sign any mortgage document without discussing it first with your own lawyer.