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Canadian first time home buyers are 36 years old on average. That means they won’t have that starter condo paid off by the time they retire, according to recent bank reports. Four of the Big Five banks reported a large share of their portfolio had amortizations longer than 30 years in Q2 2023. Most of them have at least 35 years or longer remaining, as they extend terms to prevent over-leveraged buyers from defaulting.
Negative Amortization
An amortizing loan is one that’s gradually paid off over time, with each payment reducing the balance. Banks in Canada are limited to offering a maximum amortization of 30 years, meaning you have about 30 years to pay off the loan. Make your payments to cover the interest plus some principal, and you get close to zero. Straightforward, right?
In circumstances where the payment is insufficient to cover interest, it begins to accumulate. Rather than the balance getting closer to zero, it increases as time passes. This is called negative amortization, because the time required extends rather than winding down.
A combination of inadequate stress testing and poor regulatory control has led to a lot of negative amortization. Despite being limited to 30 years at contract, banks estimate the “current customer payment basis” will be longer. Sometimes a lot longer.
1 In 4 Mortgages At Big Five Banks Have 30 Years or Longer Left
A large share of the mortgage portfolios at Canadian banks have amortizations longer than 30 years. Leading is BMO (31% of its portfolio), followed by TD (27%), CIBC (27%), and RBC (26%). Many assumed it was a temporary issue last quarter, and would resolve by Q2 2023. That wasn’t the case, with these banks only reporting slightly lower rates than last year.
Most of those are mortgages with amortizations 35 years or longer, as reported by the banks. The share of the Canadian mortgage portfolio with amortizations 35 years or longer was 25% at CIBC, RBC, and TD, respectively. Unfortunately, BMO didn’t break down numbers beyond 30 years or longer.
Only one of the Big Five proved to be an exception—Scotiabank. Just 0.7% of its mortgage portfolio were amortizations of 30 years or longer in its latest earnings.
National Bank has a much smaller portfolio, and has yet to report its earnings. However, it didn’t have many mortgages with amortizations 30 years or longer last quarter, and it likely hasn’t added many.
It’s Not Your (De)fault, The Bank Regulator Is Touting The Virtues of Longer Amortizations
The practice may not be an official thing in Canada, but it seems to have the regulator’s blessing. Earlier this month, OSFI wrote to Parliament to explain that removing the ability to extend mortgage amortizations might result in more delinquencies and create downward pressure on home prices. More delinquencies and lower prices being a less than ideal scenario for the demographics elected officials cater to—themselves.
OSFI touting the virtues of extending amortizations is a big change from their plans. The regulator recently floated the idea of amortizing home equity loans to reduce the idea of perpetual debt floating around. This is basically the opposite, and they sound like they’re making the best of a problem they no longer control.
It sounds noble to prevent defaults this way. Needed, even. However, existing owners are paying much less than average rents, and usually for a lot more space. Buyers prior to 2021 also likely secured their home for significantly less than recent market prices. An increase in payment is unlikely to be burdensome to most, considering stress testing started in 2018.
That leaves recent buyers as the biggest group that needs these longer amortizations. While you might be thinking they’re first-time buyers that need a break, the odds are they’re investors. Over leveraged investors that can’t pay their mortgage and require special accommodations to prevent default sounds familiar, but it’s hard to remember where from.
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