Courtesy of Michelle Lapierre
What Is The Impact of Increasing Rates?
The story of 2018 was one of increasing interest rates and a tighter lending environment. I was recently asked - how much are buyers impacted if rates continue to move up? Your maximum mortgage is determined by two calculations. The first, called GDS (Gross Debt Service) is the percentage of your gross income going towards your housing costs, including the mortgage payment, property taxes, heating, and half of the condo fees. Under standard guidelines for an insured mortgage (less than 20% down payment) GDS can be no more than 39%. Your TDS (Total Debt Service) is the percentage of your gross income going towards your housing costs and other debts. TDS can be no more than 44% of your gross income. As interest rates increase the mortgage payment factored into these calculations goes up, pushing down your maximum mortgage amount.
For this example, I assumed a household income of $80,000, property taxes at $3500/year, no condo fee, and for simplicity, no debt. I also assumed this was an insured mortgage, so a maximum amortization of 25 years, and GDS/TDS ratios of 39%/44%.
Here are the maximum mortgage calculations for a range of interest rates:
4.34% - maximum mortgage $400,900
5.34% - maximum mortgage $363,200 - $37,700 less or a 9.4% drop
6.34% - maximum mortgage $330,700 - $32,500 less or an 8.9% drop
7.34% - maximum mortgage $302,600 - $28,100 less or an 8.5% drop
Rule Of Thumb
Based on this range of interest rates here is a good approximation or rule of thumb:
When rates increase by 1%, buying power drops by 9%.
Its All About The Qualifying Rate, Not Your Interest Rate
When looking at these calculations it is important to remember that the interest rate you actually get is not what is important for your qualifying mortgage amount. The stress test implemented in fall 2016 required lenders to qualify insured mortgages at the Bank of Canada Benchmark Rate, not the rate you actually get. That rate is currently 5.34%. The stress test on conventional mortgages (those with 20% or more down) implemented in January 2018 are even harsher, requiring you to qualify at 2% above the rate you actually get or the Benchmark Rate, whichever is greater.
Get pre-approved today under current rates and guidelines and find out where you stand. If you wait to purchase and rates have increased, you may find you no longer qualify for the purchase price you are targeting. By knowing where you stand you can be ready to jump on a good opportunity as it comes up.
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