Federal watchdog proposes help for cash-strapped mortgage borrowers

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The federal financial consumer watchdog has released a set of proposed guidelines for how lenders give cash-strapped mortgage borrowers help, including lengthening the time it takes for homeowners to pay down their loan, allowing mortgages to expand beyond their original size and not charging penalties for any relief.

Proposals from the Financial Consumer Agency of Canada are aimed at ensuring fairness and consistency in terms of relief offered for struggling borrowers. The plan was highlighted in the federal budget this week in a clear sign that Ottawa endorses the idea of allowing mortgages to grow to keep payments down.

Borrowers have faced increasing pressure with every Bank of Canada interest-rate hike. Those with variable-rate mortgages, which are tied to the central bank’s benchmark rate, have immediately paid more interest. As a result, many variable-rate borrowers have either had to increase their monthly payment or had their amortization period – the length of time it takes for them to pay down their loan – drastically extended.

The FCAC said it developed the guidelines for mortgage borrowers at risk of missing monthly payments because of what it called “exceptional circumstances.” The FCAC did not provide a measurable definition of “exceptional circumstances” except to say it could be the combined effects of high household debt, rapid interest-rate hikes and higher cost of living.

Under the proposal, banks could lengthen their troubled borrowers’ amortization periods either temporarily or permanently. The guideline would apply to all types of mortgages, including those with a fixed interest rate.

The lowest fixed and variable mortgage rates available in Canada this week

If it is temporary, the watchdog said banks should take into account the borrower’s ability to restore the amortization to the original period within what it said was a “reasonable time frame.” If it is a permanent solution, the bank must ensure the amortization period is “reasonable.” FCAC would not comment on what it considered reasonable.

FCAC spokesperson Léonie Laflamme-Savoie said it would be premature for it to comment on how specific expectations would be applied until the guidelines are finalized.

Under federal rules, the maximum amortization period is 30 years for a borrower who makes a minimum 20-per-cent down payment on the purchase price of their property. The maximum amortization period is 25 years for those who have made a down payment of less than 20 per cent.

However, many variable-rate borrowers have seen their amortizations automatically stretch out well beyond 30 years. The bulk of variable-rate mortgages have a fixed monthly payment. That means when the interest rate increases, more of their payment goes toward the interest and less toward reducing the original size of the loan. As a result, their amortization period gets longer.

The FCAC proposal said lenders should consider allowing a distressed borrower’s original mortgage size to get larger, which is known as a negative amortization and occurs when the borrower’s monthly payment does not cover all of the interest portion. That unpaid interest is added to the original size of the loan and the mortgage grows. The FCAC said if the bank provides a negative amortization as a result of mortgage relief, the borrower should not pay interest on the unpaid interest portion that has been added to the loan balance.

Bank analysts and mortgage experts said lenders have already been stepping up to help troubled borrowers and that the guidelines codify their approach.

“Those proposed guidelines merely formalize that approach,” said Mike Rizvanovic, financial services analyst with investment bank KBW. “But fair to say that perhaps it puts a bit more onus on the banks to help the client,” he said.

Tuli Parubets, a mortgage agent with Mortgage Scout, said none of the lenders want to foreclose on their borrowers’ homes. “I find them to be very helpful,” she said.

James Laird, president of mortgage lender CanWise, said his company provides relief on a case-by-case basis and has never heard of instances of lenders applying fees when granting relief measures.

Mr. Laird questioned whether banks would be willing to forgo interest on unpaid interest. ”Lenders have to earn interest on the amount of money that they’ve lent regardless of whether that was principal or interest that hasn’t been paid,” he said.

Some of the FCAC’s proposed relief measures require mortgage refinancing, a process in which borrowers would have to undergo a financial stress test and prove they can make their monthly payments on their modified loan at an interest rate that is at least two percentage points above their actual mortgage rate.

However, the guidelines do not mention the stress test. FCAC did not immediately respond to a query on this matter. The Office of the Superintendent of Financial Institutions, which oversees the stress test for uninsured mortgages, would not comment on the guidelines or the stress test.

The proposed guidelines are open for comment until May 5. FCAC’s spokesperson said its proposals would not override existing guidelines from FCAC or other regulatory bodies. The spokesperson added that the watchdog sought input from other federal agencies, including the bank regulator and federal mortgage insurer.

Bank lobby group the Canadian Bankers Association said lenders are working with customers who are experiencing difficulties in the current high-interest-rate environment. It also said it appreciates that the FCAC “seeks to formalize regulatory expectations.”