The Canada Mortgage and Housing Corporation (CMHC) is planning to tighten lending rules beginning July 1, under the forecast of home prices across Canada declining 9% to 12% over the next year.
What is CMHC?
CMHC stands for Canada Mortgage and Housing Corporation. It provides mortgage insurance to homebuyers purchasing a house with a downpayment of 20% or less.
CMHC is mortgage default insurance for your lender. It insures your mortgage for the bank or credit union you borrowed from, in the event you stop making your payments. Mortgage insurance is mandatory if you’re putting less than 20% down on a home, and CMHC is the most common provider in Canada.
When you purchase a home, the CMHC insurance that you require is added to the cost of your mortgage. The smaller your down payment, the more insurance you’ll require. For those putting down the minimum 5% down payment required to purchase a home in Canada, most of your down payment will actually go towards CMHC instead of equity in your home!
CMHC has lending standards to determine how much mortgage you’ll qualify for that they are willing to ensure. Their assessment is based on how likely you are to be able to manage a large debt, like a mortgage. To determine this, they look primarily at your credit score and how much other debt you’re carrying.
Here’s what’s changing
These are the proposed changes to CMHC:
- The minimum credit score required to buy a home is increasing from 600 to 680
- Your debt cannot exceed 35% of your annual income, instead of up to 39% as it is right now
- Only 42% of your income can go towards paying debts (including your mortgage payment), instead of 44% as it is right now
These requirements come into effect on July 1, 2020 and will make fewer Canadians eligible to purchase a home.
What does this mean for new home buyers?
If you’re currently shopping for your first home, your finances will have to be in better shape than ever before. You’ll have to take extra good care of your credit score and make an effort to pay down as much debt as you can in order to qualify for a mortgage.
These changes to CMHC insurance represent a tightening in lending standards, meaning it will be harder to qualify for a mortgage than it was before.
You need your credit score to be as high as possible
The jump from 600 to 680 as a required credit score is the biggest change to the CMHC rules and will leave a lot of Canadians with shaky or new credit with a lot of work to do.
Good credit takes time to build, and it depends entirely on managing your debts well. If you want to check your credit score and credit report to see where you stand, you can get both for free from Borrowell.
- 5 Easy Steps to Build Good Credit
- Borrowell Review – Free Credit Scores, Reports, and Low-Interest Loans
You need to pay down your debts
The lower your debt load, the easier it is for you to afford mortgage payments. CMHC previously allowing up to 44% of your net income go towards paying your mortgage and other debt payments, but they are reducing this to 42%. This is your Total Debt Service Ratio.
If you’re carrying credit card balances, student loans, lines of credit, and a car loan, all of these eat away at cash flow that could otherwise go towards affording a house. To meet CMHC’s new criteria, home buyers will need to carry less debt overall in order to qualify for a mortgage.
You have to shop for homes on a tighter budget
Now that CMHC will only allow 35% of your annual gross income to go towards your mortgage payment instead of the 39% that was previously allowed. This is your Gross Debt Service Ratio, and reducing it means you can’t afford so much house!
If if you’re completely debt-free otherwise, the CMHC won’t let your mortgage payments exceed 35% of your annual income. This means new home buyers won’t be able to spend so much on a new home and will need to shop with a lower budget than they’ve been eligible for in previous years. However, given the decline expected in home prices over the next 12 months, this doesn’t necessarily mean you won’t be able to buy the property you want because it’s should also be going down in price.
- The Income You Need to Purchase a Home in Canada’s 25 Largest Cities
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- Why You Need to Put 10% Down On Your First Home (and how to save it!)
Thanks for the easy breakdown of the coming changes! It’s quite confusing to understand but this article makes it a lot easier. It’d be great to also see some example numbers based on the average income for a two-person household? For example, if two people make $50,000 gross each per year and carry no debt what would that look like with the new rules?
If you want to check different scenarios, I always use RateHub for their calculators https://www.ratehub.ca/mortgage-affordability-calculator — they have a few so you can test your income with house prices and different down payments and interest rates!