December 16, 2022 – Toronto: Some Canadian homebuyers hoping to qualify for the biggest mortgage they can get might have been disappointed by the decision this week to keep the stress test unchanged.
The Office of the Superintendent of Financial Institutions (OSFI) said in its annual review of the mortgage stress test Thursday that it’s not going to lower the bar that pushes Canadians to qualify at rates higher than their actual contract rate from a federally regulated lender.
But institutions regulated at the provincial level don’t have to put mortgage applicants through a federal stress test, offering some Canadians a way around the bar set for uninsured products by OSFI or the matching standard for insured mortgages maintained by the Department of Finance.
What are alternative lenders, and could these institutions offer a viable path to homeownership while skirting the mortgage stress test? Here’s what you need to know.
What’s an alternative lender?
An alternative lender typically refers to any institution in Canada that’s not a chartered bank. This includes private lenders and credit unions regulated at the provincial level in Canada.
Michael Hatch, vice president of government relations at the Canadian Credit Union Association (CCUA), which represents 210 such institutions in Canada, says they’re the “only real competition” to the Big Six banks in the financial sector.
The credit union space has indeed seen growth in the Canadian mortgage market as interest rates have risen this year.
Credit unions’ mortgage balances increased 4.1 percent between March 31 and June 30, per CCUA data. According to Reuters’ reporting earlier this fall, that outpaces the 2.6 percent growth in mortgage balances at the Big Six over that time.
Despite the growing business for credit unions, Hatch does not credit the mortgage stress test with the popularity among consumers.
“Ever since the stress test came into being many years ago, there’s been predictions that it would cause some sort of flood to non-federally regulated lenders, such as credit unions, which are primarily provincially regulated,” Hatch says. “And it just hasn’t happened.”
High rates make stress tests more imposing.
The stress test was introduced for insured mortgages in 2016 and uninsured products in 2018.
There’s been minimal variability in the proportion of outstanding mortgage loans between banks and alternative lenders since that time, with chartered banks typically holding around 80 percent of the market share.
According to the Canada Mortgage and Housing Corp.’s (CMHC) statistics for the second quarter of 2022, credit unions held 13.3 percent of total mortgage loan values outstanding, with major banks holding just above the 80 percent mark. Private lenders and insurance companies accounted for the rest.
However, the Bank of Canada’s interest rates has been relatively low while the stress test was active. The current bar of 4.25 percent for the benchmark interest rate is the highest since 2008.
The stress test requires consumers to qualify at 5.25 percent or their contract rate plus two percentage points, whichever is higher. For much of the pandemic, when interest rates were at historic lows, most applicants were qualifying for mortgages at the 5.25 percent mark.
With the central bank’s latest 50-basis-point interest rate hike on Dec. 7, the Big Six raised their prime lending rates in concert to 6.45 percent. That means some Canadians have to qualify at rates higher than eight percent for their mortgage today.
Higher rates and shorter terms typical with alternative lenders
Leah Zlatkin, mortgage broker and expert with LowestRates.ca, tells Global News that it’s worth shopping around for different speeds to see if an alternative lender can get you more bang for your buck. She cautions, however, that there are nuances to the alternative mortgage market that a homebuyer ought to keep in mind.
“Every lender is a little bit different, but there are options for people who want to try and qualify for more,” she tells Global News. “You just need to be very cautious in evaluating all of your options.”
The trade-off for getting a more considerable mortgage from a private or alternative lender often comes at a higher rate on your mortgage, Zlatkin says.
She says that terms also tend to be shorter, with the possibility you’ll have to go through the laborious process of renewing every year.
In the case of some credit unions, Zlatkin says you also might need to pay a regular fee to remain a member. She says these should be added to your monthly costs when calculating the length of your mortgage.
Hatch says that credit unions are not just the plan B that Canadians turn to when they can’t qualify for the mortgage they want at a chartered bank.
He argues that credit unions have grown their business in an environment of high inflation and rising interest rates because they can offer competitive products compared to much larger lenders.
“We compete on price and every other metric that we have to compete with massive institutions that dwarf us in size,” Hatch says.
However, according to Hatch, the smaller footprint is a selling point for credit unions. Credit union membership, usually required to receive a loan, can offer profit-sharing benefits like shareholders can own traditional banks.
Who should seek out an alternative lender?
Zlatkin says alternative lenders are often the right fit for mortgage applicants with unusual circumstances or difficulty proving income sources.
The self-employed or those receiving regular disability payments are a few instances where an alternative lender could better validate your ability to pay down a mortgage, she says.
While alternative lenders such as credit unions can be pathways for some struggling to get a mortgage, Hatch says the lack of a stress test does not mean due diligence isn’t applied to a loan.
He notes that credit unions follow the regulations set out in their home provinces, which will include their own stringent guidelines for underwriting a mortgage.
“Credit unions are in the business of lending money, of course, but primarily they’re in the business of not saddling their members with debts they can’t afford,” Hatch says.
Zlatkin says that some mortgage brokers will help their clients access a high-rate mortgage from a private lender and then move them up the chain towards a low rate with a chartered bank once their credit is repaired or their income levels have improved.n Expert: Managing your mortgage
That doesn’t mean, however, that everyone should jump into the market just because they can, she adds. Though she admits she’s biased by her position, Zlatkin says working with a broker or a mortgage professional that understands your unique financial situation should be the first step before taking on a loan, whether from a major bank or alternative lender.
While the stress test can be frustrating for some buyers desperate to get into the market, she also notes it can be a valuable gauge as to whether you ought to wait to get into the market or jump in with as big a mortgage as you can afford today.
A good mortgage broker has access to all lenders’ products and can show you what you can realistically afford, whether you pass a stress test or not, Zlatkin says.
“Everybody feels like the stress test is penalizing people. It’s not penalizing people. It’s making sure that they have the stability, wherewithal, and the finances to continue living in their home once they buy it,” she says.
