If you take a look at the numbers over at Trading Economics, Canadian interest rates have been fairly low since 2009. So much so that many people will tell you that now is as good a time as any to get your feet wet in the housing market.
However, there’s a catch:
You can do everything right in terms of saving for a down payment, improving your credit score, and getting your documentation together. But you still have to pass the mortgage stress test in order to get approved.
If you’re unfamiliar with what the test is and how it works, then you’ve come to the right place. Here’s what you need to know about the mortgage stress test.
The Mortgage Stress Test Explained
If buying a house is on your radar at all, chances are that it’s because you have a good thing going for yourself. After all, it would be really difficult to purchase a home without a decent job and a steady career.
But here’s the thing:
A mortgage is a multi-decade commitment and a lot can happen in 10 or 20 years.
The mortgage stress test is how banks answer the question, “Could this person still make their mortgage payments even while under financial stress?”
How The Test Works
If you’re applying for an uninsured mortgage (meaning you’ve got a down payment of over 20%), the bank is going to recalculate your payment amounts based on whichever is the greater of:
- The current qualifying Bank of Canada interest rate (4.79% at the time of writing); or
- Your offered interest rate plus 2%
If you’re applying for an insured mortgage (so your downpayment is 20% or less), the bank is going to recalculate your payment amounts based on whichever is the greater of:
- The current qualifying Bank of Canada interest rate (again, 4.79% at the time of writing); and
- Your offered interest rate
And just like that, if you can afford payments under the higher calculated rate, then you’re in a strong position to get your mortgage application approved.
What You Can Do To Avoid Being Tripped Up
The good news is that you’re not totally without options when it comes to the mortgage stress test. Here are three steps you can take to tip the scales a little more in your favor:
1. Apply For a Smaller Mortgage
The way the mortgage stress test is set up, it’s not about what you can afford right now. It’s about measuring what you can afford during times of adversity.
One way to cut through the “Can I afford it or is it too expensive?” tension is to apply for a smaller mortgage. With this approach, your expected monthly payments are going to be smaller and you’ll be living a bit more comfortably at the same time.
2. Strengthen Your Application With a Co-Signer
All mortgage applications are designed to help lenders answer the age-old question of, “What can you afford at your current income level?”
Being a co-signer can be risky. Not everyone will necessarily be prepared to take on the responsibility of a mortgage in the event that things go south. But if you have any family members or close friends who are willing to do you a favor, adding another person’s income to your application may put you over the top.
3. Have a Strong Credit Score
When you’re applying for your mortgage, it goes without saying that the bank will be looking at a number of features like your salary, your debt situation, and your credit history. But what people aren’t always aware of is the fact that your credit score can affect your interest rate.
This is important because the higher your credit score is, the lower your personal interest rate is likely to be. Over the course of a mortgage, that could be a difference of several thousand dollars. And as you may recall from earlier, that interest rate is likely going to affect the mortgage stress calculations that are done with your application.
The mortgage stress test is serious business. If you pass, you could be picking up the keys to your new home within weeks. If you fail, you may not be able to move forward with your application unless you lower the amount. When the stakes are that high, it’s only natural to be a little nervous about the results.
The good news is that despite its name, the mortgage stress test is nothing to be scared of. As long as you’re prepared and you understand how the process works, there’s no reason why you can’t pass the test with ease.