Why banks are bracing for a mortgage renewal cliff | About That

what would you do if one day your neighbor who you've known for years you see him building a bomb shelter would you think ah that guy's crazy or would you wonder what does he know that I don't turns out Banks right now are building a bomb shelter just this quarter Canada's big six banks have set $4. 3 billion aside to cover bad loans that's almost double what they set aside in the first quarter of last year and more than 11 times what they set aside in the first quarter before that banks are setting aside a larger amount of money than they ever have before not just now but in the previous quarter and in the quarter before that and the quarter before that the experts we spoke to say a big issue has to do with home ownership interest rates Rose uh fast and by a large amount in a way that's never been done in Canada's history the potential for things to go wrong is greater than it ever has been mhm mortgage rates are higher now than they have been in decades but that's been true for a while right and they just dropped so what do the big Banks know that the rest of us don't so far Canadians have managed Rising interest rates pretty well at least when it comes to staying on top of their mortgages only 0. 19% of mortgages in q1 of this year were behind on payments by more than 3 months that is up slightly from last year but considering we've been living through one of the most aggressive interest rate hiking campaigns in Canadian history and record high inflation rates at the same time we're in decent shape but here's the thing even though interest rates have steadily climbed over the last year and a half so far the majority of Canadians with a mortgage haven't actually seen any change to their monthly payments there's a couple reasons for this one more than half have a fixed rate I have a fixed rate it's only when my 5-year mortgage contract expires that I have to take a new high rate and you know what more than three quarters of all mortgages in Canada as of February are coming up for Renewal between now and the end of 2026 again I'm part of this group and it's a little unusual to have that many mortgages renewing in the same short period of time except it makes total sense because most Canadian mortgages are on either three or fiveyear terms and 3 to four years ago it was a very ideal time to buy back then in 20120 2021 even into the beginning of 2022 uh we saw these historic low interest rates and people were taking out loans then and taking out bigger loans right they go and buy a house that they wouldn't have been able to afford at 3% or 4 percent but they could afford at 1.

25% they called it real estate Christmas because it was the most real estate sold in the history of the countries but now all those people who got in when the going was good every single Canadian with a mortgage from that record low rate era is going to see their payments shoot up how much depends on when exactly their renewal date Falls and how much the Bank of Canada can cushion the Fall by lowering rates the Bank of Canada has lowered its Benchmark interest rate by a quarter percentage point the First Rate cut since March of 2020 so symbolically this is the First Rate cut usually there are more uh that follow when we do get two three Cuts uh behind our belt then I do think the effects will be more visible and noticeable but that's going to take uh some time but pretty much everyone agrees if you're paying under 3% interest right now I'm among those people your monthly payments are going up when you renew and not by a small amount like are we going to see rates come all the way back down to the kind of very low levels that we saw during the pandemic or before the pandemic I think the answer is no so let's say there's a young couple in Ontario that bought an average priced house in 2019 63,9 190 they put pretty standard down payment uh down 20% Which leaves you with a mortgage size of about $500,000 advertise the loan over 25 years they take a fiveyear fixed rate of 2. 9% which was also kind of standard at the time that means means they've been paying about and I'm rounding to the nearest Dollar here 2367 bucks a month for the past few years but now that mortgage is up for Renewal welcome to 2024 and the couple signs on to another fixed rate mortgage but they have to do it at the bank's current rate which is around six% that means their new monthly payment is is again I'm rounding here $3,075 a month or an extra 700 bucks a month right now I'm looking at the renewal rates somewhere between 6 and the 6 and a half% so that's going to be like bringing my payments 30 to 40% up I don't see how I'm going to be able to to renew and and afford this according to the Bank of Canada a 30% increase like that is actually on the low end of what many of these mortgage holders can expect if you took out a mortgage a year or two later in 2020 or 2021 for example you could be looking at paying like 50 60% more now maybe you're thinking but what about all the people that took variable rate mortgages which rise and fall in real time with the prime rate so they've already been stretching their budgets and there's no impending disaster for them right well not [Music] entirely there is one group of mortgage holders the banks and the government are particularly worried about and it's not the fixed rate holders it's the variable rate holders with fixed monthly payments and that's actually most variable rate holders in Canada this is important about 65% of them 70% of them have not noticed any radical increase in their payment because their mortgage company sold a product where the payment did not go up when Prime went up their payment did not go up when Prime went up that's the important part to understand because it means you might have people ultimately paying more without even realizing it think of it this way this circle is your $2,200 a month mortgage payment at a relatively low interest rate depending on the overall size of your mortgage that might mean $900 of that payment is just servicing interest with the other 1,300 actually paying your loan back as the interest rate Rises maybe now instead of $900 a month it's $2,100 a month in interest but your contract says your total payments stay the same so you're still paying $2,200 a month meaning only hundred of those $2200 are actually paying down your loan at that point I have news for you you're very close to being underwater stuck in a Perpetual state of paying down a loan where you're only barely paying down that loan welcome to lifelong debt the time it will take to pay off his mortgage nearly doubled from 25 to 47 years I wasn't happy when I saw that at first I thought it was actually a mistake TD and CIBC all allow for these negative amortization periods which is just a jargony way of saying that there stretching the length of your loan they say those kinds of terms actually help their clients whether interest rate hikes by you know keeping their monthly payments stable keeping them predictable but you can't keep extending your loan Forever at the end of your five-year term things snap back to reality meaning your payments shoot up for those people when they renew it could be shocking like legitimately shocking according to a recent report by RBC economists some of these variable rate mortgage holders could see payments jump as much as 84% by 2026 if interest rates do not decline and remember for some people part of that will be because they've paid down so little principle worst case scenario their outstanding loans could be nearly as big as they were at the start because they've just been paying interest the whole time they might have been spending the last five years thinking that they were building up some equity in their home only to find that all of that's now been eliminated now luckily most economists do expect rates to keep dropping but according to that same RBC report it still might not be enough to quote save this cohort to get them down to a more manageable monthly increase like 20% they argue the Bank of Canada would have to lower its prime rate way down to around .