Whether you are applying for a mortgage, refinancing your current home loan, or renegotiating your current mortgage contract with a federally regulated lender, as a home buyer you must go through what is known as the Canadian mortgage stress test. In simple terms, a mortgage stress test determines whether you would still be able to make your monthly mortgage payments if an unexpected situation arose, like the recent rise in interest rates. As of 2018, Canadians are required to successfully pass the mortgage stress test in order to be pre-approved for a mortgage, even if they put down a 20% deposit or more on a house.
What Is The Mortgage Stress Test, Exactly?
Unlike a standard test taken in school, a mortgage stress test determines whether you qualify for a mortgage based on the rules set by major Canadian banks and other federally regulated lenders. Created by the Canadian federal government and coming into effect in 2016, the mortgage stress test only applied to insured mortgages, or mortgage applicants who had a downpayment of less than 20%. Under those rules, applicants were also required to qualify for mortgage default insurance.
In 2018, however, with more and more Candians experiencing high levels of debt, the mortgage stress test was expanded to include all mortgage applicants, whether first-time home buyers or third-time buyers. Under these new rules, the mortgage stress test became mandatory for those applicants who secured a 20% downpayment, those refinancing their mortgage, or those switching to a new lender.
Due to unexpected mortgage fluctuations rates, as in the case of the recent rise in interest rates, the Canadian government has put in place a minimum qualifying rate so that risk can be mitigated when issuing a mortgage. The purpose of the mortgage stress test is clear: it will determine whether you can still make your mortgage payments in the case that interest rates rise or if you encounter financial hardship of any sort.
How Does The Mortgage Stress Test Work?
While many Canadians have never heard of the mortgage stress test or simply don’t understand what it is, having a grasp of what is involved in a mortgage stress test is important before you apply for your house loan. When applying for a mortgage, the lender usually offers you a contract interest rate based on the following:
- Current market interest rates.
- Specific characteristics of your mortgage.
- Your credit history.
What is important to understand is that under the mortgage stress test, lenders don’t determine your mortgage eligibility based on your contract rate. Rather, lenders make calculations based on higher and hypothetical interest rates in order to determine if you would still be able to make your monthly mortgage payments.
Slight Changes To The Mortgage Stress Test In 2021
In June 2021, the Office of the Superintendent of Financial Institutions (OSFI) which is Canada’s banking watchdog, applied slight modifications to the mortgage stress test. Before June 2021, the stress test rate was set at or above 2% of the contract rate offered by a lender, or at the posted Bank of Canada (BoC) five-year rate, determining mortgage eligibility on whichever rate was higher.
With the onset COVID, however, financial institutions in Canada feared that the five-year benchmark was not enough to protect home buyers from defaulting on their mortgage in the future. As a result, borrowers now have to be able to afford the higher of their contracted mortgage rates, plus 2% per cent or a flat rate of 5.25 %.
Partnering with various mortgage specialists and brokers, our team is here to help and provide you with additional information about the Canadian mortgage stress test and how it could affect you in the future. Contact us to learn more.
