BMO’s Slap in the Face

Guest Blog by Dan Pultr, Director Sales, B.C.

The squeaky wheels are turning in the mortgage industry once again, not that they truly ever stop.  On the same day that the Bank of Canada announced it would hold the overnight lending rate at 1%, BMO pulled the trigger to start a rate war in the mortgage industry. 

But as frustrating as a rate war may be for the mortgage industry and bank profits, we brokers are silently cheering because this additional publicity will bring a renewed focus to the mortgage market; and the more noise generated by the banks , the more questions and more phone calls we get from clients.  As mortgage professionals, one of our goals is to educate the consumer to ensure they make the very best decision when it comes to their mortgage. 

Keeping with the spirit of education, I think it’s prudent to clarify the criteria surrounding this rate special, and the article in Canadian Mortgage Trends outlines it quite clearly:

•  A Lower Maximum Amortization:  25 years versus 30-40 years elsewhere
•   Less Lump-sum Pre-payment Ability:  10% maximum per year (i.e., 1/2 of the 20% that BMO normally allows)
•  A Smaller Payment Increase Option:  Up to 10%, once per year (again, 1/2 of the 20% that BMO normally allows)
• A Locked Term:  The Low-rate Mortgage is fully closed unless you sell the property, refinance (with BMO only), or early renew into another BMO mortgage. In other words, unless you sell, you’re not leaving BMO for 5 years, like it or not.

What I find most interesting about this strategy to drive business is the timing and backdrop of it.  BMO decided in 2007 to exit the mortgage broker channel.  As of 2011 its mortgage market share was the lowest among the Big 6 banks, sitting unofficially at $71 billion in comparison to $145 billion the other banks enjoyed.  Most would say that gives them all the more reason to start a rate war, but driving business solely on price has never been the most effective measure, otherwise we’d all be driving Pintos.

What really is most eye opening about this is that BMO has completely disregarded the warnings of leading economists, Mark Carney and Jim Flaherty about increasing household debt levels. 

Even as Mark Carney announced that the overnight rate will remain at 1%, he also said that household debt continues to be the biggest domestic risk.  This comment comes only days after Jim Flaherty was quoted as saying, "I again encourage Canadians to be careful in the amount of debt they take on in terms of residential mortgages because rates will go up some day.”

So while some see this rate war as frustrating, I see it as an opportunity to educate our clients on their options.  However, if I were Mark Carney or Jim Flaherty, I’d see it as a slap in the face.  You be the judge.

Debt-to-income revisited

Private sector economists met with Finance Minister earlier this week to discuss the state of the economy in preparation for the March 29 budget. According to news reports, it was a pretty upbeat session. The major concerns of the past year – the European debt crisis, the recession in the U.S., a sluggish economy, have all but disappeared. However, when the discussion turned to the housing market, there was no consensus. No surprise there. Economists predict the market will go in a certain direction and the market does something else. There was concern for the condo market and amortization periods, probably because those are all that’s left to be concerned about. And of course, interest rates are still low, which continues to fuel warnings about household debt.  So the government has once again warned Canadians about taking on too much debt in terms of their residential mortgages.

The Bank of Canada Review, which focuses on household debt and changes in the value of Canadian's single-most important asset -- their homes – said, “Household indebtedness is not unique to Canada.  The review also said the Canadian housing market has not exhibited the excesses seen in other countries, where severe economic disruptions have occurred in recent years.”

Do we really have something to worry about?

Finance Minister Jim Flaherty said recently, "People are paying down their consumer debts more than they used to and that's a good thing in terms of personal and family responsibility because credit card debt, as we all know, is very expensive debt in terms of interest rates. On the housing market, we're seeing some moderation of late in good parts of residential mortgage markets.”

So let’s take a look at debt and income. Debt includes all debt and unsecured debt in the form of credit cards and unsecured lines of credit and loans. Secured debt or using the equity in a home is the most common and the cheapest money, whether refinancing for debt consolidation or for home improvements.   While it’s true that by increasing a mortgage using low interest rates puts the home owner at risk if rates should climb, a survey by the Canadian Association of Accredited Mortgage Professionals (CAAMP) found that borrowers can easily cover an increase in monthly payments.

Unsecured debt is more of a worry since it has been a major contributor to the pace and the growth of household debt – a point that mortgage brokers have tried to get across and was finally confirmed by Statistics Canada. Interestingly, since the government and the Bank of Canada started warning consumers last year to stop increasing their household debt, the response has been positive. Canadians started paying down their credit cards and loans. The latest national credit trends report from Equifax Canada said the average credit card debt fell in 2011 by 3.4 per cent. The Equifax report also found a "remarkable" improvement in consumer delinquencies, or non-payments, and bankruptcies in 2011 from record numbers in the prior two years.

Now, let’s take a look at income. If income goes up and debt remains constant the debt-to-income ratio decreases. It’s a shock to hear the media reporting that the consumer debt-to-income ratio is 154%, however; the reason for that is incomes are not rising. So, in reality, it’s an income issue more so than a debt issue.

But now with news that the economy will grow modestly in 2012 and 2013, and manufacturing set to grow, incomes will likely follow suit. Despite rumblings that public sector jobs will be affected in the upcoming budget, Finance Minister Jim Flaherty has enough awareness of the effects of job losses on the Canadian economy that he will not put its tenuous growth at risk.

Changing financial landscape a challenge for mortgage industry

Guest Blog by Mark Kerzner, President TMG The Mortgage Group

Right now our industry is being inundated with news of change and uncertainty. It was August 2007 when we felt the first ripple on the Canadian financial landscape. That’s when holders of approximately $30 billion of ABCPs (Asset Backed Commercial Paper) were facing the prospect of huge losses. What followed was a period of tightened liquidity, the unravelling of the U.S. mortgage securitization markets, loss of confidence in the markets, plummeting U.S. home values and bailouts.

That seems like such a long time ago. The saying "time heals all wounds" is a reminder that we desensitize with the passing of time, when the reality we lived through becomes a mere memory. What has helped us here in Canada is that in the midst of the global economic crisis, when the rest of the world was in meltdown mode, we felt only small waves. Today, our housing markets are strong, we continue to borrow and invest, our employment numbers have remained relatively healthy (in comparison with those in the G20), our arrears numbers have remained at less than half of one percent, and our economy continues to grow.

Our Government, our lenders and our own industry have been working on the premise of needing to protect Canadian consumers. Protect their future with respect to increased future borrowing costs. Protect their housing investments by trying to stave off the notion of a real estate bubble. And protect their ability to manage their debt levels on incomes that are not rising in step.

 Perhaps the most over-hyped ratio in the mortgage lending environment in the past few years is debt-to-income. Its upward sloping line on a graph has been etched in our minds. We have been warned about it, we have been endlessly compared to the U.S., our Minister of Finance has take actions to alter lending guidelines and the Governor of the Bank of Canada has repeatedly warned us of the consequences.  What seems to be forgotten in the whole discussion are two pretty important words, "debt" and "income". Let’s examine these terms:

Debt – this includes all debt, secured and unsecured. Secured lending in the form of mortgages is the slowest growing segment of the debt world yet it is the cheapest. The most common use for refinancing is debt consolidation. The second most common reason is home improvements and renovations.

It is important to understand that all debt cannot be attributed to outstanding mortgages. While it catches the majority of our attention it is really our debt siblings -- credit cards and secured and unsecured credit lines -- that are contributing to the fast pace growth of consumer debt and yes, at higher interest rates. While it is often the case to focus on the "oldest child" in this case we need to turn our attention to the rest of the family.

Income – this one is a little simpler. When calculating debt to income ratios we divide total debt by total income. If income goes up and debt remains constant the ratio decreases. What we are seeing in Canada is the inverse. Income is not rising. So as much as this is being portrayed as a debt issue in actual fact it is very much an income issue as well.

CIBC published an interesting market report recently on this issue and compared us to other countries --Canada held up very well. The report also said that debt is a very generic term and that those heavy habitual debtors are taking on even more debt, which means the majority of consumers with manageable debt loads are being painted with the same brush strokes as the few heavy debtors.

As mortgage professionals we must maintain our belief that we provide value. As a client’s advocate we are uniquely positioned to explain to them the context of all this news and noise. At the same time we are personally in the middle of it with respect to our livelihood. I feel we are living through one of the most interesting story lines of the current economic recovery. Strong companies and successful hard working brokers and agents will succeed. Now is not the time to dwell. Now is the time to lead.  

As Goes the U.S. So Goes North America

U.S household debt levels are starting to improve after a few years of deleveraging. This bodes well for the U.S. economy and for the rest of the world, despite the financial crunch in Europe. As you know Canada weathered the financial crisis well but because the U.S. is one of this country’s major trading partners and its economy tanked, Canadian manufacturers have had to seek new markets in Europe and Asia.

While that has kept the Canadian economy buoyant, the news coming out of the U.S. bodes well for the future of the Canadian economy.

 An economic update by Benjamin Tal, deputy chief economist for CIBC, found that the deleveraging the U.S. has been living through  since 2009 has resulted in consumer debt less than 15% below its peak in 2008. Although much of that has been due to bank write-offs, American households have also adjusted the way they view debt by reducing their reliance on credit. But now, it looks as if American consumers are willing to try on new credit. As Tal wrote, “The surprise will be how quickly debt will start oiling the rusty domestic U.S economy – just in time for big fiscal drag of 2013.”

Since 2009, consumer non-mortgage debt in the U.S. was increasing by close to $200 billion a year. Then in 2009 and 2010, due to the high number of defaults, banks started tightening their lending and consumers stopped borrowing altogether. For an economy to function, money needs to keep moving.

There has been a rise in credit enquiries recently – a strong signal that consumers are testing the credit waters again. And now with defaults back to normal, the banks are more willing to extend that credit.
It means that American consumer confidence is rising and that Canada is well-positioned to benefit financially from the increase in consumer spending.

The U.S. and Canada are strong trading partners and a recovery in the U.S. is key to improving our economy. Canada exports 30% of its gross domestic product and almost 70% of Canadian exports are to the U.S. and this relationship supports millions of jobs each year. The news on the job front has been good for the U.S. as well with the unemployment rate down.

This is all good news for Canadians. We have survived and managed to thrive through the worst of the financial crisis, even when economies in countries around us were, and in the case of some European countries, continue to falter.  We can look forward to continued economic growth for the next few years.

Mortgage lending to self-employed in jeopardy

Recently there has been a disturbing rumour circulating with regard to a report issued by the Office of the Superintendent of Financial Institutions (OFSI). That report suggests that lenders are too loose with their guidelines with regard to the Business for Self “stated income” programs. Because of that report the Ministry of Finance is watching the housing market closely to see if changes are warranted.

There have already been a number of changes to mortgage lending rules over the past two years to ensure that Canada does not experience a housing meltdown similar to what occurred in the U.S. New rules were also put into place to protect homeowners in the event of interest rates rises, which is not a bad thing. However, changing the rules for the self-employed may not be a prudent move.

Consider this: There are 2.7 million self-employed workers, representing 15.7 per cent of all workers in Canada or put another way, one-in six workers is self-employed, according to Statistics Canada.  The number of self-employed workers increased by 12 per cent over the past decade, while the growth of the overall labour force was 18 percent. Slightly more than one-third of them are female, who account for 35% of all self-employed individuals.

In 2011 the number of self-employed Canadians rose by 2%, double the rate of growth seen in paid employment according to a report by economist Benjamin Tal. Clearly this is a growing trend.

These are people who work on commissions – auto salesmen, insurance brokers, real estate agents and mortgage brokers. Others work for large and small companies contracting out their services. And others start their own bricks and mortar businesses. This type of non-traditional work doesn’t come without its challenges. Imagine starting a project not knowing if it would ever pay you or going through each day not knowing your salary. Or not knowing when your work day will end. Entrepreneurs work without pension plans or safety nets, yet they are considered one of the backbones of Canada’s economy.

Prime Minister Stephen Harper himself said in a speech to kick off Small Business Week, "Through their hard work, dedication and vision, small business owners are generating the jobs and economic growth that are making Canada a competitive and modern economy. They are helping to ensure that our economy emerges from the global economic recession stronger than ever.

Yet, the self-employed face an uphill battle when purchasing a home. Accountants typically offset as much of their self employed clients' earnings as possible to reduce tax liabilities. The resulting low net income can make it virtually impossible for a mortgage to be approved based on mainstream lenders' traditional requirements. So mortgage insurers and lenders developed “stated income” programs that allowed business for self clients to qualify for high ratio mortgages.

Now those programs are at risk. No one knows what the rule change might be or if there will, indeed, be any rule changes at all but already a couple of lenders have eliminated its program. It’s likely other lenders will follow. That means, on top of all the other challenges business for self clients face, it may be tougher to get a mortgage. It’s unfortunate that the government would consider penalizing a sector that plays a vital role in the growth of the Canadian economy.

It’s already tough now get a mortgage. Lenders require sufficient documentation to prove income and further documentation to prove self-employment for a number of years. Businesses for Self clients sometimes need a higher down payment and their credit score is also factored in.

This does not mean that programs won’t exist or that business for self clients won’t be able to get a mortgage – it means that it may become more difficult. And when the rules tighten up, then the services of an experienced mortgage agent becomes even more vital. If you have any questions about the business for Self programs or any other mortgage questions, please contact your mortgage professional. Find yours here: www.mortgagegroup.com.

 

Why Canada isn’t a NINJA?

Guest Blog by Dan Pultr, Director Sales, B.C.

Once again, the headlines in the past few weeks have been focused on the mortgage market. The most recent are about the sub-prime market and programs for the self-employed, which some are seeing as the no income, no job, no assets (NINJA) scenario as described in the United States.

Here are just a few examples: Looser lending standards by Canadian banks raise concern;
Increasingly liberal’ mortgage standards worry regulator; and  Flaherty concerned by mortgage lending

We have heard for weeks that the Big 6 banks have been talking about reducing amortizations on mortgages to combat some of these market concerns.  Then, on January 31, one mortgage lender made a somewhat surprising announcement that they would be eliminate all “stated income” programs.  This unprecedented change came just days after a news release from the Office of the Superintendent of Financial Institutions (OFSI) noted that Canadian lenders had loosened their qualifications standards. There was a concern that these lending practices were mimicking the U.S. subprime market.

Let’s consider this comparison.  The sub-prime meltdown in the U.S. was not caused by one factor alone, but rather a combination of them:
1.      Loans were given to individuals with no income, no job and no assets (aka NINJA)
2.      Loans were approved at over 100% loan to value, thus eliminating any equity.
3.      Teaser rates were the craze. Home buyers qualified on low rates and payments reflected that. However, when interest rates were adjusted to a higher rate, payment became unaffordable.

This lethal combination was made worse by the fact that 50% of mortgage loans were these sub-prime loans. The recent Canadian headlines are suggesting that this is now happening in Canada.

Business for Self Programs

Business for Self income means individuals, usually the self-employed can state their income to qualify for their mortgage with certain caveats. The reason for this practice is because the tax returns of the self-employed do not always accurately reflect their total income since they are able to write off a number of items to reduce their taxable income.

However, there are also protections in place to make sure that in the event of rising interest rates, mortgage payments are still affordable.

1.      Self-employed, stated income programs require at least 10%, and sometimes higher, down payments from own sources, no gifted down payments are allowed.
2.      High-ratio variable rate mortgages, which is a mortgage with less than 20% down, requires borrowers to qualify at a benchmark rate, which is currently 5.29%, almost 2.5% higher than the lowest variable rate today.
3.      Mortgage insurers use a reasonability test when judging stated income, meaning that the line of work, the amount of assets, credit and business statements, are reasonable for that industry.
4.      If income and net worth are not a consideration, then an individual must have either 35% in equity or from their own resources.

Since the OFSI has suggested that lenders have loosened up there rules, we are now seeing the beginning of the end for these stated income programs, which is unfortunate. Stated income is an important part of a healthy mortgage market, and elimination of this product could dampen the housing market.

Self-employed individuals account for 15.6% of the Canadian workforce and 10.6 million people work for privately owned enterprises in Canada, with 48% of them working for a small business. Penalizing entrepreneurs for creating businesses and employment is not beneficial to the health of our mortgage market, or to our economy.

The Broker Value Proposition

Guest Blog by Dan Pultr, Director of Sales for British Columbia

On a recent ski trip to Whistler, a few of us started to discuss reasons why consumers should use a mortgage broker. We asked, “What is a mortgage broker’s value proposition?” 

The individuals I talked with knew about mortgage brokers and had used them in the past, but I don’t think they fully understood our value.  So I asked them this question. “Why did you use a mortgage broker?”  They said it was to get a lower rate and have someone shop the market for them. 

I then asked them, “If you had $500k to invest for the next 25-30 years, would you consult an investment professional?  So why not consult a mortgage professional, when you are borrowing $500k for the next 25-30 years? “

Let’s consider the rate debate. Mortgage brokers and banks sometimes switch places as to who can get you the lowest interest rate. While rate is an important factor when making a decision about a lender, more importantly is making sure you get the right product for your particular situation. A mortgage broker will explore those questions with you – your lifestyle plans, and your financial goals for example and will make sure you get a mortgage that fits. The wrong product can end up costing you thousands of dollars.

So what else can a mortgage broker do for you? Well, I’ve come up with the Power of Five:

1. A mortgage broker will babysit the transaction to make sure it goes smoothly so the client doesn’t lose sleep over it. It’s the mortgage broker who sweats the details.
2. A mortgage broker will answer all questions and address all concerns for the life of the mortgage
3. A mortgage broker works to ensure a client knows everything about their mortgage, their credit, and their budget.
4. A mortgage broker ensures that a mortgage matches a client’s specific needs and goals.
5. A mortgage broker works closely with respected lending institutions to ensure there are no issues with a client’s mortgage. If there is, they work to ensure any issues get resolved.

I want to mention one more concern expressed by the group I was with. Because a mortgage broker makes money from the transaction, they might not have the client’s best interest in mind. It’s true that brokers work are on commission and for that reason alone they want to make sure a client’s experience is a good one. If it isn’t, then clients won’t return and will not refer their friends and family members. A person who is on salary may not be fully vested in ensuring you are 100% satisfied your mortgage, but a person who is 100% on commission and builds their business from referrals sure is.