The November 15, 2023 edition of the Financial Post ran a comment on page FP6 captioned “Canada’s mortgage math mean crisis looming”. It said “the looming wall of mortgage renewals should be terrifying” and “rates will need to ease … to avoid a deep and prolonged crisis.”

## TL;DR

Although over the term of the mortgage wages will have grown more than the higher mortgage costs at renewal, payments can be controlled through extending the amortization period. Borrowers who since accumulated additional debt may need to dip into their home equity line of credit or seek additional mortgage funding against higher-valued real estate. Most mortgagors will be reluctant to sell their homes due to high-cost, low vacancy rental accomodation and will reduce non-essential spending. The wisest will try to improve their budgeting, opening up a new service area for LITs. Private lenders such as mortgage investment corporations will flourish.

A debt crisis will arise only if real estate values fall sharply or unemployment strikes.

## Who has a mortgage?

The Bank of Canada says 56% of homeowners have a mortgage and of these, 71% have a fixed rate mortgage and 29% have a variable rate mortgage.

Let’s consider some examples.

## Fixed rate mortgages

These should pose minor problems as they renew.

Conventional

If five years ago a $1,000,000 home was purchased with a 20% down payment, the $800,000 mortgage would be amortized over (say) 25 years at a fixed annual rate of (say) 3%. The monthly payment would be $3,794 which would have required a monthly income of at least $12,646.

At the end of the 5-year term the mortgage balance remaining would be $684,044 and new 5-year fixed term rate would be (say) 6.5%. The home has appreciated by 36% (CREA) over the last five years and is now worth $1,360,000.

The borrower will likely stay with the same mortgage lender because they will not have to requalify. Although the amortization period could be left at 240 remaining months, the monthly payment would be $5,100. By resetting the amortization period to 25 years that payment would be $4,619 for an overall increase of $825.

The borrower’s income is now higher by 23% (Stats Can), by at least $2,909 which is enough to meet the higher monthly mortgage cost of $825.

Having paid down the principal by $115,956 over the initial 5 years, a HELOC in that amount would now be available to the borrower.

Everything else being equal, a crisis would only arise if the household has accumulated significant debt since taking out the original mortgage.

High Ratio

The difference here is that the new payments are slightly higher than above because the original mortgage amount was higher, and there is no HELOC.

If this $1,000,000 home was purchased with a high-ratio mortgage the minimum down payment would be $75,000. The mortgage default insurance of $37,000 would be added to the principal which initially would then have totaled $962,000. When amortized over 25 years at a fixed annual rate of 3% the monthly payment would be $4,562, requiring a monthly income of $15,207.

At the end of the initial 5-year term the balance remaining due on the mortgage would be $822,563.

When resetting the amortization period to 25 years a monthly payment of $5,554 is required, an overall increase of $992. The borrower’s income is now higher by at least $3,497 which is enough to meet the higher monthly mortgage cost of $922.

## Variable rate mortgages

Of the 16% of homeowners that have a variable rate mortgage, 80% have fixed payment mortgages and 20% have variable payments. These mortgagors have the same options discussed earlier.

Fixed payment

The amount of interest and principal being repaid in each fixed payment depends upon the interest rate. The mortgage contract will state an interest rate at which this fixed payment no longer exceeds the accrued interest payable, triggering higher payments or increasing the mortgage debt.

The Bank of Canada estimated that in late 2022 about 50% of these mortgages had already reached their trigger rate and a total of 65% were expected to eventually do so.

Principal reductions will not occur at the same rate as for fixed rate mortgages. Any HELOC would be smaller and obtaining second mortgage financing will be more difficult.

Variable payment

These mortgage types are a minority. When payments vary based on the interest rate the shock to the homeowner is spread over the term of the mortgage. Reductions in the principal should be the same as for fixed rate mortgages; a HELOC and second mortgage financing should be available.

Important to note is that throughout the 5 year term the mortgagor has experienced increasing mortgage costs and may actually be in a better position than those who have not and have carelessly accumulated other debt.