We’ve said it many times over. OSFI’s imposition of a stress test on borrowers switching lenders is potentially the most short-sighted government mortgage policy in Canadian history.
The policy keeps borrowers—who have proven their ability to handle their mortgage—from switching lenders to reduce their interest bill. These are borrowers who already qualified previously and who would add zero new risk to the system simply by changing mortgage providers.
But OSFI has given them no relief. And last week, the banking regulator tried to justify its position by sending out this statement:
“Another concern was that B-20 would force a number of borrowers to remain with their current lender on renewal, potentially leading to an increase in their mortgage interest
rates. Although it appears more borrowers are staying with their original lender (renewals are up 30% [emphasis ours] while new mortgages are down 19% year-over-year in the April to July period), there has been no material change in the difference between the rates that renewal customers pay and those offered to new customers.”
That tells us little.
Keep Your Eye on the Ball
Of course there’s been little change for most renewal customers. “Most” renewal customers aren’t the concern because they can readily qualify at any lender. The problem is the meaningful minority of renewal customers who now cannot pass the government’s arbitrary new stress test. We estimate that number at roughly 1 in 10.
We asked OSFI how it could dismiss the impact on these renewers, given:
- The stress test has made it impossible for a meaningful minority of borrowers to leave their lender for a better rate at another lender
- Virtually every bank that publicly reports is reporting a material increase in customer retention rates (at some lenders a whopping 94 out of 100 borrowers are choosing, or having little other practical choice but, to remain with their lender at maturity).
“OSFI compared interest rates charged for renewals to interest rates charged for new originations, with further segmentation at the product level (e.g., 1-year fixed, 5-year fixed, variable rate, etc.). This was completed for a 24-month time period. This analysis is based on supervisory data and regulatory returns collected from federally regulated institutions.”
That’s great, but here’s the problem. The stress test is blocking borrowers who have a higher ratio of debt to income. (And note, those high debt ratios are not just reflective of borrowers with discretionary overspending. Some people do have unavoidable life challenges: medical crises, business failure, divorces and so on. They need lower rates more than anyone to remediate their finances.)
OSFI told us it could not measure the renewal rates paid by borrowers who had high total debt-service ratios (e.g., > 40%). It therefore did not compare such data from before and after the January 1, 2018, stress test introduction.
So how could the regulator know how “material” the problem really is? How could it state with confidence that its refusal to exempt mortgagors switching lenders is not harming a material number of Canadian families by elevating their interest burden? And what is “material” anyway?
Don’t Worry About Those Amortizations
OSFI also claims that “…The proportion of uninsured mortgages with amortization periods greater than 25 years has decreased from 51% to 47%, over the same April to July time period, suggesting that lenders are not extending amortization periods to allow borrowers to meet the stress-test requirements.”
While anecdotal, brokers and bankers we speak with are increasingly running into borrowers who need costlier extended amortizations to pass the stress test. So we asked OSFI, is it not possible that many of those who would have gotten extended amortizations can no longer qualify regardless (due to the stress test), and that this is a big reason why a lower proportion are getting amortizations over 25 years?
It replied: “The outcome you describe could be seen to improve the overall quality of mortgage originations by increasing the amortization of principal in the early years of a mortgage.”
Not sure that answered the question.
And let’s not forget, the cost of extended amortizations has risen since 2017 due to government regulation. Most lenders now charge 10 basis points more if you want an amortization over 25 years. Other things equal, higher prices result in lower demand.
Again, the people hit by OSFI’s B-20 are those with higher debt-service ratios. We then asked the regulator, “What percentage of those with high total debt-service ratios (e.g., > 40%) are getting extended amortizations today, versus before the stress test took effect in January 1?”
OSFI replied: “…OSFI collects supervisory data as part of our ongoing supervisory activities and the regulatory returns that we receive from regulated institutions. In the article, we provided high-level stats but we cannot go into the level of granularity you request.”
Hence, there is no clear visibility on how many borrowers are being required to take out longer amortizations because of the government’s stress test.
In its newsletter sent out to media and industry, OSFI goes on to state: “The federally regulated share of residential mortgages among regulated lenders in Canada for the 12-month period ending June 2018 remains stable (76.9% down to 76.7%).”
This says nothing about how many borrowers have had to move from prime lenders to non-prime lenders. So we asked OSFI, “What percentage of originations were done at prime federally regulated lenders (e.g., big banks) as of June 2018, versus non-prime federally regulated lenders (e.g., Home Trust, Equitable Bank and Equity Financial Trust)? How does this compare to before the Jan. 1 stress test?”
OSFI’s response: “OSFI is unable to provide the requested level of granularity, as noted above.”
In its press release (sorry, newsletter) OSFI said, “The proportion of uninsured mortgage originations that have loan amounts greater than 4.5 times borrower income declined from 20% in April-July 2017 to 14% in the same period in 2018.”
Clearly, our most systemically important lenders are seeing a better quality of borrow. No question about it.
But…OSFI’s data only reflects the proportion of high loan-to-income mortgages at federally regulated lenders. In other words, it doesn’t include the proportion now having to use higher cost credit unions, mortgage investment corporations and private lenders. Higher costs and worse terms increase the probability of default and/or insolvency. That spawns economic instability that indirectly adds risk for systemically important lenders.
The Bank of Canada tells us it “is looking at different data sources to try and get a better understanding of non-federally regulated lenders” but it can’t provide that information at the moment.
For these reasons, and due in part to the missing data, there are simply too many unanswered questions—so many, that drawing empirical conclusions about B-20’s impact on renewers is impossible. This is one reason why federal MPs like Tom Kmiec are asking the government to study the issue. Thus far, government has been unwilling to entertain that it might, just might, be wrong—and study the impact.
The federal opposition and trade groups, like Mortgage Professionals Canada, asserts that the federal government should make it a priority to get the needed data to confirm exactly how consumers are being negatively impacted by B-20’s renewal stress-test policy. And it should.
Policymakers claim the effect is not “material,” but claims that impact people’s lives should be supported with relevant data.
Sidebar: Making new borrowers prove they can afford a higher interest rate is undeniably vital. We—and most Canadians for that matter—are pro-stress test. The debate is only how to best administer a stress test with the least side effects.