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As we had already reported last month, new mortgage rules are being put into effect from next April 19th, aimed at preventing home-buyers across Canada from getting into financial trouble once mortgage rates rise, as it has been anticipated.
Today, we are going to further elaborate on what are the implications of this new set of rules, and how they affect you, as the final customer.
Upcoming Change
INSURED MORTGAGES ONLY
The qualifying rate for any mortgage terms shorter than 5 years will now be the 5-year benchmark rate on the CMHC website.
Effective Date
April 19th, 2010
Reasoning
To protect borrowers from rising rates
Upcoming Change
Max 90% Loan-to-Value on Owner-Occupied refinances
Effective Date
April 19th, 2010
Reasoning
To prevent borrowers from losing their equity in the event their property value decreases. It also discourages borrowers from depending on their home equity to reduce personal debt.
Upcoming Change
INSURED MORTGAGES ONLY
Self-Employed borrowers with more than 3 years in the same business will be required to confirm their income and will not be eligible for “stated income” Self-Employed product.
Effective Date
April 9th, 2010
Reasoning
This product is intended for a small portion of borrowers who find it very difficult to document income- in particular, recently self-employed borrowers. It is assumed, individuals with longer time self-employed are able to confirm their income via a third party validation through financial statements, T4’s and other third party validations.
Upcoming Change
INSURED MORTGAGES ONLY
Maximum Loan-to-Value is 90% for purchase and 85% for refinances for Self-Employed borrowers unable to confirm their income via traditional third party sources
Effective Date
April 9th, 2010
Reasoning
As the associated risk is higher when the borrower cannot confirm income via a third party, a larger down-payment is required to mitigate the elevated risk.
Upcoming Change
Maximum 80% Loan-to-Value on Non-owner occupied rental properties
Effective Date
April 19th, 2010
Reasoning
To prevent investors from speculating about property values and to prevent a large influx of high-ratio financed non-owner occupied properties that may default if vacancy rates increase.
Upcoming Change
INSURED MORTGAGES ONLY
Where rental income is generated from the subject property, 50% of the gross rental income from the subject property may be added-back to the borrowers annual income
Effective Date
April 19th, 2010
Reasoning
To prevent investors from depending on rental income to qualify.
These new mortgage standards are primarily aimed at stopping housing speculators and ensuring homebuyers can adequately juggle their debts when interest rates inevitably rise.
The government has stressed that Canada’s real estate market is healthy, and that the new rules would only stop “negative trends” from development.
For more information, please contact our team of mortgage brokers which are at your complete disposal. We are here to offer you the best mortgage rates, lowest prime rates, debt consolidation and Canadian housing assistance, and all other facets to help you achieve your dream home.
Tax deductible mortgages
On October 27th, 1988, John Singleton had $300,000 in his business capital account and he wanted to use $300,000 of his equity to assist in the purchase of a house. He then borrowed that same amount, in the form of a mortgage on the real estate he just purchased, to refinance his partnership capital account. Because he was now investing the money in the firm instead of the house, the interest on the loan became tax-deductible. He did all those operations on the very same day, and as a result, Singleton got a new house, a mortgage on the new house, and $300,000 back in his capital account.
Singleton deducted the mortgage interest on his 1988 and 1989 tax returns but the government disallowed the deduction. After Singleton sued, he lost in the Tax Court of Canada but won the appeal in the Federal Court of Appeals and in October 2001 the Supreme Court of Canada ruled that,
“It is an error to treat this as one transaction – the transactions must be viewed independently.”
As Singleton recalls,
“The Court said the act said I can do what I did, and [Revenue Canada] had no right to look behind what I did to see whether or not it was a sham, which is what they kept calling it. If the act says you can do it, then you can do it and deduct it. End of story, nice and simple, which was our position throughout.”
The implications of that resolution are that structuring your affairs to shrink your tax burden is 100% legal, since the Courts have ruled that Singleton could write off his mortgage interest and that has paved the way for homeowners, who apply the same principles, to make non-deductible principal mortgage interest tax deductible.
What Singleton did was actually a variation of the so-called Smith Manoeuvre, a strategy also known as “leveraging” that Fraser Smith developed after years of watching wealthy Canadians get away with the trick while the vast majority laboured for years to pay off their mortgage and wound up entering retirement with empty pockets.
As he said,
“This is for all those people who would like to be wealthy but who are getting killed both by their mortgages and by income taxes.”
Most people do not write off the interest on their mortgage. Although many homeowners write off a portion of their mortgage payment as it relates to a home office space, that is not the same as writing off the interest on their mortgage.
Your principal homes mortgage interest is deductible, when the borrowed money is used to earn income from a business or investment that has an expectation of making a profit, even if your home is the pledged security. How the funds are spent determines interest deductibility of your mortgage, not the collateral. If a direct link can be established between the loan and its business use, it is irrelevant that the security for the loan is a mortgage against your principal residence.
And, what’s more, as long as you pay the tax-deductible interest to the institution that loaned you the money to invest, you never have to pay back the principal. It’s a debt you can die with if you want, at which point the money will be paid back out of your estate.
So, is the Smith Manoeuvre right for you?
According to Fraser Smith, it is if:
a) you own more than 25 per cent of your home,
b) you’re capable of living within your means and using your tax savings to pay down your original mortgage.
Obviously, if you’re close to retirement and the house is paid off, it’s not for you. But, if you’ve got some idle equity in your home and you’d like to free up some cash up to do some investing, the time might be right to do a little manoeuvring.
Finance Minister to toughen mortgage rules
Finance Minister Jim Flaherty has made the following three announcements to mortgage insurance rules:
1. Variable mortgages qualified at five year fixed rate;
2. Refinancing limited to 90% instead of 95%;
3. Non owner occupied residences require 20% down payment;
These changes will take effect April 19th. See article below:
Finance Minister Jim Flaherty announced new rules Tuesday aimed at preventing homebuyers from getting into financial difficulty when mortgage rates rise.
After consulting with major Canadian lenders, Flaherty outlined the latest weapons at Ottawa’s disposal aimed at removing some of the speculative froth in the housing market.
“There is no evidence of a housing bubble, but we’re taking prudent steps today to prevent one,”
“If some lenders aren’t willing to act themselves, we will act.”
Broadly speaking, the plan unveiled has three components.
First, Ottawa will require that all borrowers meet the standards for a five-year fixed-rate mortgage, even if they choose a variable mortgage with a lower rate or a shorter term.
“This will guard against higher rates in the future,” Flaherty said.
Second, the rules would lower the maximum Canadians can withdraw when refinancing their mortgages to 90 per cent of the value of their home, from 95 per cent.
And finally, Ottawa will now require a minimum 20 per cent down payment to qualify for CMHC insurance for non-owner-occupied properties purchased as an investment.
The last rule is aimed at reining in would-be real estate speculators who own multiple properties beyond their primary residence.
“We want to discourage the tendency some people have to use a home as an ATM, or buy three or four condos on speculation,”
Flaherty said.
Minimum down payment unchanged
There had been speculation the Department of Finance might implement legislation raising the minimum down payment from five to 10 per cent of a home’s value, or reduce the maximum amortization period from 35 years to 30 years.
Those measures were not part of Flaherty’s announcement Tuesday, but all options are still on the table should circumstances change, Flaherty said.
The adjustments to the mortgage insurance guarantee framework, to be implemented as of April 19, 2010, are not likely to revolutionize the industry. Indeed, a number of large Canadian lenders already practise the first peg of Flaherty’s plan. After Tuesday’s announcement, Bank of Montreal noted that it requires its high-ratio borrowers to be able to qualify using the five-year rate.
“While we do not believe that Canada faces a housing bubble, we fully support the minister’s actions,”
the bank said in a release.
“Given the prospect of higher interest rates and the recent run-up in housing prices in some markets across Canada, the measures announced today are prudent.”
“This is a little bit late in telling Canadians we need to be more cautious in taking out a mortgage,”
Royal Bank chief economist Patricia Croft said in reaction to Flaherty’s announcement.
Though she stopped short of calling Canadian real estate in bubble territory already, she said the April 19 date for implementation is actually likely to cause more short-term stimulation of the market, as people scramble to get in under the deadline.
“If you wanted to buy a house, wouldn’t you now do it before April?” Croft asked. “It’s even more evidence that house prices are going to cool down later this year.”
Home prices in Canada to surge to new highs in 2010
A rush to buy, sparked by expectations of higher mortgage rates and the pending harmonized sales tax in Ontario and British Columbia, is fueling an ever sharper rebound in the real estate market.
Already an extraordinary turnaround story in the wake of the recession, new home construction is picking up and resale prices are now forecast to hit fresh records this year. In some areas, such as Vancouver, the country’s richest market, prices are now at the point where detached homes are out of reach for many home buyers – even with extremely low interest rates.
Home prices in Canada will surge to new highs this year, specially in the Western provinces and Quebec, according to a new forecast by the Canadian Real Estate Association (CREA) on Monday, that predicts that the price of the average home in Canada will reach $337,500, up more than 5 per cent from last year, while sales activity will also reach a record high.
According to experts from the real estate industry, demand is being driven by both people wanting to purchase before interest rates increase and by those who want to purchase before the HST affects the cost of new homes. Overseas buyers looking for an investment property are also playing an important part in this phenomenal rebound.
However, most analysts don’t see a housing bubble in Canada for the time being. In the Bank of Canada’s view,
“it is premature to talk about a bubble in Canadian housing markets. Recent house price increases do not appear to be out of line with the underlying supply/demand fundamentals. Moreover, with housing starts below long-term demographic requirements, inventories are still declining. It is likely, though, that a significant part of the surge in housing sector activity is associated with temporary factors — notably the historically low borrowing costs, as well as pent-up and pulled-forward demand — which cannot continue to drive increases in house prices and activity. Thus, we see the housing market as requiring vigilance, but not alarm.”
Each month, The Canadian Real Estate Association compiles the statistics of existing homes and properties sold through the Multiple Listing Service. This provides an overview of the existing housing market in Canada, and tracks market trends for prices and properties sold.
These statements fall in line with those of Mark Carney, Bank of Canada governor, who during his reply to audience questions at a speech in Winnipeg at the beginning of this month, assured that he does not see the need for structural change in Canada’s mortgage market.
“The Canadian mortgage market has functioned I think exceptionally well during the course of the last decade … we’ve seen the strength of the system of mortgage insurance and it’s provided an important funding avenue for the banks as well. It’s allowed our housing market to weather the storm,”
“I must say we don’t see a need for structural change in the mortgage market.”
Carney also said he would not describe current housing market strength as a housing bubble.
“We had expected strength in the housing market given where monetary policy was. We’ve seen it. We are following it closely but we would not characterize the current state of the housing market in those terms.”