"Our banks only lend to qualified people," we are told and "not to deadbeats who will never be able to pay their mortgages like they did in the United States."
That, dear reader, is a crock.
What you have to understand about the US mortgage fiasco is what subprime mortgages were and who utilized them.
The common belief is that sub-prime loans were made to borrowers who did not qualify for loans from mainstream lenders. While that is, in part, true... it is not the whole story.
From 2004 through 2006 a large segment of the American homebuying public (both those who did not qualify from mainstream lenders and those who did) took advantage of mortgages with "teaser rates".
A teaser rate is a low rate - sometimes as low as 1% - that lasts a short time (anywhere from one month to 7 years). Most US subprime adjustable-rate mortgages had teaser rates that last two or three years and up to five to seven years.
After the teaser rate expires, rates can rise rapidly, causing minimum monthly payments to skyrocket.
Lenders got into the habit of qualifying borrowers according to their ability to pay the teaser rates, but not by their ability to make payments after rates rose.
It was never seen as a problem because borrowers could always renew their mortgage with a new teaser rate once the first teaser expired. Especially if the market value of their house had increased.
This only became a problem if the value of the property fell. Then you couldn't renew the mortgage because the value of the mortgage was greater than the market value of the property.
And that's where the whole issue imploded in the US. When values started to drop, mortages couldn't get renewed with new teaser rates. As a result the higher term rates then kicked in.
The end result: default and foreclosure.
So let me ask you a question. How is Canada much different right now?
We have a situation where thousands of Canadians are buying homes because they can take advantage of the lowest interest rates in our nation's history.
Some one year variable mortgages issued this year have a 1.47% rate.
Will these rates be like this for the next 35 years?
Not a chance. Even the governor of the Bank of Canada came out a few weeks ago and warned Canadians that "the days of ultra-low interest rates are ending and Canadians should prepare for more 'normal' rates."
The historical 'norm' over the last 35 years would be 8%.
In the United States, lenders got into the habit of qualifying borrowers according to their ability to pay the teaser rates, but not by their ability to make payments after rates rose.
In Canada, lenders have gotten into the habit of qualifying borrowers according to their ability to pay the current 'ultra-low' rates, but not their ability to make payments at higher mortgage rates down the road.
If the 'ultra-low' rates won't last for the next 35 yeras, it means Canada is pumping out mortgages with 'ultra-low' teaser rates by the hundreds of thousands. Just like the United States was.
And when these rates rise, minimum monthly payments are going to skyrocket.
And the media is starting to take notice. Check this out...
Here is an article in last Friday's Globe and Mail.
It's about a BC couple who are drowning in real estate debt and are worried that the debt could be unmanageable if interest rates rise.
A financial planner takes a look at their financial situation.
The couple owns a house and a rental property. With property taxes, their debt service bill is 77% of the family budget.
The planner concludes that "if interest rates rise just one percentage point, mortgage costs would consume all rental income."
If rates rise more than that "they might not be able to pass on the higher costs to tenants in increased rents nor find sufficient cash to pay their lenders," the planner warns.
A two percent raise in rates could put them into default and foreclosure.
The fact is, there are thousands of BC families in a similar condition.
They have leveraged mortgages at historic lows to make maximum purchases. When rates rise just 1 or 2 percentage points, they will be in the EXACT same position as all those American borrowers who utilized low teaser rates.
It doesn't matter if these BC families have 1, 3, 5 or even 10 year mortgages. NO ONE expects these rates to be around for much longer. If rates rise to only 4 or 5%, BC families like the one in this Globe and Mail article are FAWKED.
Our situation today is no different from the United States in 2005.
The clock is ticking. And when rates rise, our bubble real estate condition is going to hyper-explode.
We cannot escape this destiny.
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