Mortgage rate increases at Big Six banks could trigger rise in qualifying rate

Such rates are different from the actual mortgage rates offered by banks to borrowers, which are not seeing the same increases. But the Bank of Canada uses the posted five-year fixed mortgage rates at Canada’s biggest banks to calculate the rate used in stress tests to determine whether borrowers can qualify for both uninsured and insured mortgages.

The central bank’s conventional mortgage five-year rate, which is updated weekly, was 5.14% as of May 2. It posts the rate every Wednesday.

“This will raise the qualifying rate,” said Cormark Securities analyst Meny Grauman.

“On the margin, every time that goes up, you’re excluding more people from being able to get mortgages, all else equal… But people have different strategies to bring themselves on side.”

Homebuyers with less than a 20% down payment seeking an insured mortgage must qualify at the central bank’s benchmark five-year mortgage rate. And as of Jan. 1, buyers who don’t need mortgage insurance must prove they can make payments at a qualifying rate of the greater of two percentage points higher than the contractual mortgage rate or the central bank’s five-year benchmark rate.

Nearly half of all existing mortgages in Canada will need to be renewed this year, according to a CIBC Capital Markets report released earlier this month.

In late April, TD Bank was the first of the Big Five lenders to raise the benchmark rate, increasing it from 5.14% to 5.59%, due to factors including the “competitive landscape, the cost of lending and managing risk.”

Royal Bank later raised its benchmark rate to 5.34%, followed by CIBC which raised its posted rate for five-year fixed term mortgages to 5.14%. Earlier this month, National Bank of Canada raised its posted five-year fixed rate to 5.34% while the Bank of Montreal upped the benchmark rate slightly to 5.19%.

Mortgage planner and rate comparison website founder Robert McLister said after the recent string of rate increases, he expects the central bank’s minimum mortgage qualifying rate will jump 0.20 points to 5.34% on Wednesday.

Grauman said a higher qualifying rate will make it more difficult for some borrowers to qualify for a mortgage, but expects that some may make some adjustments such as seeking a smaller home as a result. He anticipates that this will have a “small impact” on the banks’ mortgage portfolios.

The mortgage rate increases from Canada’s biggest lenders come as government bond yields rise, signalling higher borrowing costs for corporations. The yield on the Government of Canada benchmark five-year bond was 2.14% on Monday, compared to 1.01% roughly one year ago.

Grauman said there are a number of factors which are driving these increases, including higher funding costs.

“There’s that element which motivates the banks to raise the rates at which they charge their clients,” he said. “But you also have competitive dynamics as well that are at play.”

At the same time, several of Canada’s biggest banks have cut their posted variable mortgage rates, which are more directly tied to changes in the Bank of Canada’s interest rate.

BMO is now offering a five-year variable closed mortgage rate of 2.45% until the end of May.

“Our five year variable rate is reflective of the competitive environment and is a great rate for customers seeking a variable mortgage,” said a BMO spokesperson in an emailed statement.

“Customers that choose this product can also renew to a fixed rate mortgage with the same or longer term at any time with no fees.”

RBC late last month said it will reduce its offered rate for a five-year variable closed mortgage to 3.3% from 3.45%.

TD Bank last month cut its five-year variable closed rate offering for new and renewed mortgages earlier this month to 2.85% which is 75 basis points less than its prime rate. Previously it was 2.95%.

McLister said in a rising rate environment, banks are inundated with demand for fixed rates and these discounts in part reflect banks’ efforts to balance their books.

As well, the margins — or profit made on loans — on variable rate mortgages will improve if interest rates rise, he added.

Still, the difference between mortgage rates banks offer and their funding costs for a given term, known as the spread, is shrinking, McLister said.

“This is true for both fixed-rate mortgages and variable rates,” he said in an email.

“In short, banks are accepting less profit as competition gets more aggressive for the fewer and smaller prime mortgages that now exist.”