Yesterday federal Finance Minister Francis Bill Morneau (a.k.a. FrannyMo) revealed new rules around housing. Most media reported on FrannyMo’s targeting of foreign buyers, but that was nothing new. The conference had little to do with foreign buyers, and a lot to do with cracking down on new homeowners.

Foreign Buyer’s Loophole Closed

The story of the day was the closing of a tax “loophole” foreign buyers were utilizing. The Globe and Mail explained it well, so I won’t waste my time doing that again. Basically, a few foreign buyers are declaring their Canadian investment as their primary home. Places they might never actually see.

This allowed them to reap the benefits of a capital gains rule that allowed a tax-reduced sale of their home. The thing is, people aren’t suppose to be falsely declaring their primary residence in the first place. The government basically just did a loud saber-rattle to say they’re not going to take it anymore. Good for them.

New Homeowners Targeted

The interesting thing that was announced is “stress testing” of borrowers starting October 17. It’s not so much a stress test, as a raising the bar for traditional borrowers. People applying for insured mortgages will have to qualify at the Bank of Canada (BoC) “conventional mortgage” rate, instead of the local bank rate. A quick peek and we could find at least 20 banks offering rates at half the rate of the BoC conventional rate.

This means that a non-Big 5 bank can’t offer you more money than a Big 5 – even if the rate is substantially lower. For example, let’s say your household earns the Canadian median income, $78,870. Using a rate of 2.10% (there’s at least 20 places offering this), you could qualify for a mortgage of $375k-498k. Just enough to buy the benchmark average home in Canada.

To contrast, the BoC rate is 4.64% right now. That’s the rate homebuyers will likely be stress tested against if the rules applied today. Using a rough calculation, the largest mortgage at this rate would be $273k-363k. That’s a 27% drop in the qualifying amount, even if you could get rates at half the price. More importantly, it means the median income of Canada won’t buy you the average home. In fact, in Toronto and Vancouver, you likely couldn’t buy anything but a parking spot for that price.

In cities like Toronto, first-time buyers are now 36 years old. Increasing requirements will likely push that age further back, crushing many dreams of homeownership. Although they didn’t change the mindset of buyers, they just made it harder to borrow at traditional banks. This could have an unintended consequence, increased demand for subprime mortgages.

Subprime To The Rescue

The financial stability of Canadian homes have been decaying over the past 20 years. Household debt is soaring, incomes stagnating, and the job market for Millennials just sucks. This hasn’t resulted in people opting out of homeownership however. People are just becoming more and more comfortable with subprime borrowing. We even gave it a cute name that doesn’t sound as bad – “alternative lending”. Like you’re rebelling against your traditional bank. Rock on.

Previously thought to be a small number of mortgages, subprime and private lending is now a massive industry. The industry has almost doubled in the past 5 years, having gone from 6.7% of mortgages in 2007 to 13% in 2015. That explosive growth is due to increase as more and more Canadians fail to meet traditional borrowing standards.

Related fun fact, former finance minister Joe Oliver has a new gig at an alternative lender.

Newly tightened mortgage lending requirements will likely result in more people turning subprime. The underlying issue that houses are still the best job most Canadians can get still exists. You can try to regulate that out, but it’s unlikely to solve the problem. Until people are presented with better investment opportunities, they’ll continue stashing money in homes. Even if they have to take predatory private lending rates.

The new rules revealed by FrannyMo are likely to have little impact on affordability. In fact, they may actually make Canadian debt issues worse. Although it would’ve been a crappy press conference if they just said that, right?

Note: I would’ve linked to details about the announcement, but they only provided a photo gallery of the conference. You can find the photo gallery here, but unless he’s your type it’s pretty useless.

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