The Mortgage Stress Test
Any homebuyer in Canada looking to apply for a mortgage with an Institutional lender will encounter the mortgage stress test. This test, to put it simply, determines your ability to maintain payments of your mortgage should interest rates rise. It helps to ensure that a borrower is still able to afford their mortgage at an interest rate higher than the one stated in their contract. As we have seen in recent months, mortgage interest rates continue to fluctuate. Therefore, the Government has established and set up this test to reduce the risk involved in mortgage lending.
The test was first introduced by the Federal Government in 2018. As of June 1st, 2021, the test has been adapted to reflect the current housing market conditions. Borrowers should expect a mortgage stress test when they are buying a home, taking out a homeowner line of credit, refinancing, or switching to another mortgage provider. A borrower will not have to undergo the stress test when renewing a mortgage with the same lender.
What Does the Stress Test Look at?
To determine affordability of a mortgage, the mortgage lender will look at the following:
- The amount of the mortgage
- Interest rates
- Mortgage amortization period
- Household income
- Current debt
- Household costs and monthly fees
The mortgage lender will then make two calculations using the above information. First, a gross debt service (GDS) ratio is calculated. This value is the percentage of your gross income that will be used to pay housing costs, such as the mortgage, utilities, and property taxes. The GDS ratio should not be more than 35%. Second, the lender will calculate a total debt service (TDS) ratio that includes all outstanding personal debt. This value should not be more than 42% of your gross income. A low GDS and TDS ratio is preferential, as it allows you to qualify for a low-interest mortgage with an Institutional lender.
To stress test your mortgage, you would need to prove you can afford to pay the higher of:
- The rate offered by your mortgage provider plus 2%, or
- 5.25%
To improve your stress test results, the following can be done:
- Lowering your GDS and TDS ratios by saving up to increase down payment
- Paying off as much debt before applying for a mortgage
- Having a co-signor on your mortgage
How Can We Help?
At 6ix Estates LLP, we represent clients in mortgage financing or refinancing transactions, both with institutional and private mortgage lenders. We will meet with all borrowers before closing to review the entire transaction, sign the documents and arrange for funds. We also offer all our services remotely. Our lawyers are happy to meet with you virtually or at a location of your choice. Get in touch with us to set up a free 30-minute consultation.