The cost of carrying a mortgage gets talked about a lot because of high interest rates, but buying a home is a handful as well.
The average resale home price in April was about $700,000, which means a minimum down payment of 6.43 per cent, or $26,200. If you put down 20 per cent to avoid paying the premium for mortgage default insurance, that’s $140,000.
Down payments of 20 per cent or more are expensive, but also the norm. People who scrape together a lesser down payment represent a small and declining minority of buyers. There are plenty of indicators of declining housing affordability, but this one stands out for being both discouraging and at least partly fixable in a single stroke.
Our mortgage system was designed to promote access to home ownership by helping people get into the market with as little as 5 per cent down on homes priced at $500,000 or less. For more expensive homes, you pay 5 per cent on the first $500,000 and 10 per cent on the rest up to $999,999. At $1-million or more, you must put at least 20 per cent down.
The price of buying with less than a 20-per-cent down payment is that you have to pay for mortgage default insurance, which can add tens of thousands of dollars to your home-buying expenses. Not too long ago, putting less than 20 per cent down and paying this cost was normal.
Insured mortgages accounted for 55 per cent of outstanding mortgage balances held by chartered banks in 2015, a recent report from Morningstar DBRS shows. By the second quarter of 2023, insured mortgages represented just 27 per cent. Against all logic, house prices shot higher in the past decade or so and the market share of insured mortgages plunged.
Nadja Dreff, the Morningstar DBRS senior vice-president who co-wrote the report, said this trend reflects how hard it is to afford a home. Buyers who can only put together a small down payment may not qualify for a mortgage.
Another factor is a decline in the use of mortgage insurance by banks on mortgages with 20-per-cent down payments. Banks sometimes buy this insurance on their own to reduce risk. The consumer doesn’t pay in this case.
“There’s also another constraint, which we found actually to be quite strong,” Ms. Dreff said in an interview. “We think a big constraint is also the $1-million limit for mortgage insurance.”
The Vancouver and Toronto areas have average prices above $1-million already. If prices pick up as interest rates fall, we could end up with more locations where you can’t buy in without putting 20 per cent or more down. In April, the average resale price in Durham Region east of Toronto was $937,332 and in Orangeville, Ont., it was $911,011. Back in early 2022, there were roughly nine locations in Canada with an average resale price of $1-million or more.
An easy way to help buyers in expensive cities would be to raise the $1-million price cap on homes bought with a down payment of less than 20 per cent. The $1-million limit was put in place in 2012 to limit the potential risk to taxpayers if the economy tanked and mortgage defaults surged. Canada Mortgage and Housing Corp., a federal agency, is a major provider of mortgage default insurance.
Back then, the average national resale house price was around $364,000, with Vancouver around $733,000 and Toronto close to $500,000. Million-dollar houses were seen as a luxury for wealthy people who could afford to put down at least $200,000 to buy a home.
Prices in Toronto have doubled since then, and other cities have seen big increases as well. “The housing market has grown quite a bit – there’s been quite a lot of appreciation,” Ms. Dreff said.
The widely accepted solution to expensive housing right now is to build more houses, but we’ll need almost a flood of homes to satisfy demand and thereby subdue prices. This won’t happen in the near future because developers are as vulnerable as anyone to the slowing economy and still-high level of borrowing costs.
The argument against measures that would improve housing affordability immediately is that they stimulate demand and, in turn, prices. In other words, they’re self-defeating. Ms. Dreff agreed there would be more buyers if homes priced above $1-million could be insured for mortgage default.
But the alternative is to encourage a market that favours people with the financial muscle to make a 20-per-cent down payment. No wonder some young people are moving out of the country. For more on that, tune in to the first episode of season nine of The Globe and Mail’s Stress Test personal finance podcast.
Are you a young Canadian with money on your mind? To set yourself up for success and steer clear of costly mistakes, listen to our award-winning Stress Test podcast.
Rob Carrick