— Jeffrey Sze (@jeffrey_sze) July 3, 2017
A rate increase in Canada could actually be a good thing because it can have a slight “cooling” effect in over-heated housing markets. For example, in a bidding war, it might mean that there are fewer people to bid against and/or you have stronger purchasing power. So if you were making compromises on your housing wish list, you might not have to anymore.
Historically, the Bank of Canada has raised or lowered interest rates in increments of 0.25%. Following those changes, the banks typically adjust their mortgage rates in the same direction.
With an expected increase of 0.25% to the prime rate on July 12, 2017, the cost of borrowing is going to go up for those securing new mortgages. With a home price of $750,000 (10% down payment, a 25 year amortization, and a 5 year fixed-term), the cost of borrowing will go up by almost $100 per month. Some experts from Scotiabank believe there will be further increases to rates which could push the cost of borrowing up by a few hundred dollars by 2018.
Keep These Facts Top-of-mind
First, we are still in a period of historically low interest rates. Only ten years ago, mortgage rates were nearly double what they are today. And, two decades ago they were even higher.
Second, increasing rates happen over many years. You’re not going to see a massive shock to the cost of borrowing this year. So, you can do yourself a favour by preparing in advance of these changes.
Third, the majority of financial institutions keep customers on fixed payments. That means the payment amount doesn’t change. But, if you’re on a variable rate mortgage, less of your payment goes towards principle and more goes towards interest. So, it can take you longer to pay back the mortgage.
The Impact on New Homebuyers
There is a misunderstanding that the pending rate increase is going to bury new homeowners with higher qualification standards. This is incorrect.
For new homeowners that have less than 20% for a down payment, they are stress tested against the Bank of Canada’s “qualifying rate”. That is the 5-year posted rate without any discounts applied. Today that rate hovers hovers at 4.64%. That’s much higher than what you can actually secure your mortgage at.
One of our favourite calculators to determine mortgage affordability is found on RateHub.ca. It will help you determine how much home you can afford under a variety of borrowing scenarios.
Does a Rate Increase Impact Non-homeowners?
Anytime you borrow money, you have to pay interest. So, the cost of borrowing on things like car loans, lines of credit, student loans and consumer loans tends to increase. If you have a floating rate, it means that less of your payment goes towards principle and more towards interest.
Don’t panic if the rates increase. As a best practice, while rates are still low, pay off your debt. It’s easier compared to when rates are higher.