Updated January 27, 2023
All major banks are now offering five year variable rate mortgages around six percent!
And five year fixed rates are much better, with the insured variety at 4.48% and conventional five year mortgages around 4.99%.
The five year fixed rate has tripled from the early 2021 rates of 1.59%!
These new higher rates mean the mortgage stress test is already under siege. Instead of qualifying at your actual mortgage rate, you are going to be tested at 2% higher than this. Perhaps at a rate of 7.5% or so!
Why do rising mortgage rates affect housing affordability?
This is going to create a housing affordability problem for two reasons:
1) The monthly payments on a 5.34% mortgage are significantly higher than they would be at 2%. People can only afford so much money to put towards their monthly mortgage payment.
2) When determining how much borrowing power you have, the good old mortgage stress test kicks in.
That means your qualification is determined by caculating your debt service ratios at 2% higher than the actual mortgage contract rate, or the government Mortgage Qualifying Rate of 5.25%, whichever is greater.
So that means the stress test rate is going to be at 7.34% (not 5.25%) when your fixed rate mortgage offer is at 5.34%.
How can you beat the mortgage stress test?
1) Credit Unions – qualify you at contract rate or contract rate plus 1%
Credit Unions are provincially regulated and are able to offer creative financing alternatives. The ability to qualify at the contract rate can increase your borrowing power in a majorly big way.
2) B-lenders – qualify you with expanded debt service ratios – as much as 50%/50% and even more if your loan to value ratio is less than 65%.
You have access to more money if you are being assessed at a rate of 50/50 versus the norm of 39/44.
However, the fact is, that by January 2023, the advantage the B-lenders had has already been wiped out, because their stress test is simply too high. Their mortgage rates are starting in the mid six percent range. Which means their stress test istarts at 8.5%.
The B-lenders do have a couple more tricks up their sleeves though. Several now offer a thirty five year amortization period (which softens the stress test a bit) and a few others offer mortgages which qualify at the contract rate, without adding 2% on top.
3) Variable Rate Mortgages – the stress test for these remained mostly at 5.25% till mid July, 2022
Pre mid July 2022, variable rates were still very low – that changed of course, as we are experienced several more prime rate increases in the months beyond.
After the Prime rate increases of January 25, 2023 the qualifying rate of 5.25% got tossed out the window once again and VRM mortgages were qualifying at their rate plus 2%. (Around 8% to 8.5% right now)
Conventional mortgages (with 20% or more down payment) are being approved these days at Prime less 0.3% or so. So with the Prime Rate today at 6.70%, this means even these mortgages are seeing an increase to their stress test rate. In this example, the stress test for a conventional VRM is 8.40%.
The thing is, even though all mortgage rates are increasing at a crazy pace, more consumers than ever are being forced to choose a variable rate mortgage whether they want one or not. Because the stress test being that much lower makes a huge difference.
If you go this route and you really cannot stand the idea of being in a variable rate mortgage then you can always ask your lender your options to convert to a fixed rate mortgage once the VRM is funded. It will be a seamless switch at that time.
This topic is discussed more here.