Overextended Canadians seduced by low mortgage rate?
March 19, 2015
The mortgage rate war is back on with Tuesday's announcement by Bank of Montreal that it is dropping the already low mortgage rate on its five-year, fixed-rate term to 2.79 per cent. Yesterday, TD Bank followed suit. This, just in time for the busy spring real estate market, which is already highly competitive among buyers, sellers and lenders alike.
BMO’s rate drop will make it easier for some homebuyers to get into the market – particularly in cities such as Vancouver and Toronto, which have seen steady increases in real estate prices with no end in sight. But how long can these low rates last, and what will happen to overextended Canadians when rates eventually rise?
This rate cut was preceded by one in January, when the big banks dropped their lending rates after the Bank of Canada lowered its key rate by 1/4 per cent to 0.75 per centin an effort to shield highly indebted Canadians from the drop in oil prices and its economic impact, said Alyssa Richard, founder and CEO of RateHub.ca. Then just last week during its latest rate announcement, the Bank held its rate at 0.75 per cent for fears of Canadians taking on more debt than they can handle.
Echoing that statement, the International Monetary Fund has warned of Canada's overheated housing marketin the face of lower oil prices and increasing levels of household debt.
Indeed, a recent report by Statistics Canada shows household debt increased by 1.1 per cent in the fourth quarter of 2014. "For the third consecutive quarter, disposable income increased at a slower rate than household credit market debt. As a result, leverage, as measured by household credit market debt to disposable income, reached a new high of 163.3 per cent in the fourth quarter." In other words, households held roughly $1.63 of debt for every dollar of disposable income.
The fear is that with even lower lending rates, Canadians see this as their chance to take on more debt. Any bumps in the economy – as we’ve seen with our oil prices – can have a far-reaching ripple effect and for those on an already overextended budget, big waves.
“The banks are right to be concerned... that’s what happens in low interest rate environments,” Richard says. “Take this rate cut for what it’s really worth: a chance to pay down your current debt sooner.”
“Given long-term interest rates are close to all-time lows and the recent market uncertainty, there are some benefits to locking in to a fixed-rate mortgage,” Doug Porter, chief economist, BMO Financial Group, said in a press release. “Combined with a shorter, 25-year amortization period, such a step would significantly dampen widespread concerns about the vulnerability of household finances.”
Related reading:
The overnight lending rate is staying put – for now
Lower interest rates an opportunity to pay down debt sooner
Take advantage of low interest rates while you can – but carefully
About Lydia McNutt
Lydia McNutt is an award-winning writer and editor.