Housing affordability, mortgage rates and your future

housing affordability dream

Housing affordability has improved slightly in the second quarter of 2014, according to RBC Economics’ latest Housing Trends and Affordability Report. It’s not that the price of homes has dropped – in fact, prices have actually increased. Rather, it’s the record-low mortgage rates that have tempered Canada’s high cost of real estate. Unfortunately, this is also the variable in the equation.

The housing affordability index captures the proportion of pre-tax household income required to own and operate a home at current market value. The greater the measure, the worse the affordability. For example, a measure of 50 per cent means owning a home – including mortgage payments, utilities and property taxes – will eat up 50 per cent of a typical household’s pre-tax income.

According to the report, the housing affordability measure declined by 0.9 percentage points from the first quarter of 2014 to 48 per cent for two-storey homes; dropped by 0.6 percentage points to 42.5 per cent for detached bungalows; and fell 0.4 percentage points to 27.4 per cent for condominium apartments.

To put these numbers in perspective, when you’re applying for a mortgage, lenders add up your housing costs and calculate what percentage they are of your gross monthly income, known as your Gross Debt Service ratio (GDS). According to Canada Mortgage and Housing Corp., to be considered for a mortgage, your GDS should be 32 per cent or less of your pre-tax household monthly income.

What does this mean for homebuyers? Quite simply, they’ll have to increase their income, or decrease their housing budget – and expectations. If you’re dreaming of a single-detached, two-storey life, be prepared to spend 48 per cent of your pre-tax income, providing you earn at least an “average” income. After taxes and living expenses, that doesn’t leave much for your rainy-day fund, never mind retirement in 35 years!

Now to add a little lighter fluid to this already burning issue of housing affordability – the mortgage rate factor. Yes, rates still sit at record lows, but not for long, according to the report. “Longer-term rates will begin to rise later this year in anticipation of a return to tightening mode by the Bank of Canada in 2015. While continued growth in household income will provide some offset, we expect rising rates to erode housing affordability across Canada and weigh on homebuyer demand. The effect will be gradual and unlikely to unhinge either overall affordability or the market, thereby leading to a cooling of activity as opposed to a US-style crash.”

So what can you do to insulate yourself from the looming threat of rising rates? Simple – plan ahead. Stress-test your mortgage against a higher rate before you commit to any purchase. Sure, you may be able to afford your dream home at today interest rate of 2.99 per cent, but in five years when it’s time to renew at 5.99 per cent, will you still be able to make those mortgage payments?

Wait now – before you sign on the dotted line, did you factor in your other expenses? Do you have student loans? Do you drive a car? Do you expect to eat on a daily basis? Do you have kids, or are you planning to in the future? Do they expect to eat too? And don’t forget about those retirement savings!

Consult a financial adviser to help you determine what will work within your budget – or if you haven’t already done so, create a budget. With a clear view of the big picture, it’s easier to plan ahead and purchase a property with confidence.

Buying a home is hugely rewarding, providing you’re prepared. Do your homework well in advance, and come those Bank of Canada rate announcements or mortgage renewal time, you won’t break a sweat.


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