The Looming Implosion

One of the big debates that swirls in the Bull vs Bear debate on real estate in the Village on the Edge of the Rainforest is whether or not the excessive debt loads of Canadians nationwide is even more extreme in Vancouver.

We all know how CMHC has enabled our housing bubble by standing behind our Canadian banks, taking away their risk in the case of default. Because banks have no reason not to give money to people they’d otherwise laugh out of the branch, the debt levels of Canadians have risen to record heights.

An interesting thread was started over on the Vancouver Condo Info forum last week by poster vanpro that took a look at what level income is required to buy a house in Greater Vancouver with a stable 20% down, 5 yr. rate with a 25 yr. amortization.

That analysis alone is startling.

Using CMHC's latest (Q2, 2011) report on Vancouver average SFH housing prices (for April, 2011) here is the qualifying income required to purchase a home based on that stable 20% down, 5 yr. rate, 25 yr. amortization (click on image to enlarge):

Ouch.

In Vancouver (Westside) the qualifying income to purchase based on the average house price is $496,000 per year.

In the suburb of West Vancouver the qualifying income to purchase based on the average house price is $472,000.

In Burnaby it's $208,000.

And in New Westminster it's $138,000.

Wow.  Let me ask you, what is your combined family income right now?  Could you qualify to buy in these cities?

I guess Vancouver must be the Beverly Hills of Canada and our little hamlet an enclave home to the high income earners of the nation.

Surely Vancouver must have the strongest economy in Canada, then?

Curiously the Vancouver Sun ran an article last week. A CIBC study of the relative economic performance of Canadian cities showed that not only wasn't Vancouver #1.... it wasn't even in the top 5. 

Vancouver ranked as the 7th best economy in Canada.

Uh-oh.

So if Vancouver hasn't got the best economy in the country to support the necessary wages for qualifying buyers for stable mortgages, maybe Vancouver has families whose income combines high employment income with income from outside the local economy. 

Perhaps high investment income allows us to reach the necessary lofty annual income levels?

The VCI thread links us to a chart showing the average incomes from various regions in the Greater Vancouver area.  The chart comes from BC Stats and the 2008 Canada Revenue Agency actual tax filer database.  The table on page 16 indicates "Total Income" in each neighbourhood, where "Total Income" includes ALL employment AND investment income.

(note: this 2008 data has most likely stagnated or fallen due to the subsequent recession, but we will use them anyways)

The VCI thread looked at the Vancouver suburb of West Vancouver.

The West Vancouver median Male total income is $50,720. The median female total income is $34,078. Thus the hypothetical median husband/wife household total income is $84,798 per year. 

But the average annual qualifying income to purchase a West Vancouver home is $472,000.

That means that the median family income of those living in West Vancouver ($84,798 per annum) is ONLY 18% of the qualifying income to purchase the average priced home in West Vancouver.

Similar disparities exist in all the other Lower Mainland neighbourhoods as well. 

So how do people qualify for loans to buy homes at the current bubble prices?

It's true that many homeowners bought before the housing bubble kicked in, many who have leveraged bubble inflated values for secondary purchases, many who capitalized on equity from the bubble values to downsize and buy properties at these prices and finally there are Asian immigrants who have been able to purchase at bubble levels (although as recent real estate statistics show only 7.5% of purchases fall into this category).

But that doesn't account for everyone by half. 

The real answer is that the majority of Vancouver residents are completely unable to qualify to purchase in Vancouver when putting 20% down on a 5 yr. rate with a 25 yr. amortization.

And while statistics aren't available on how many such mortgages are being issued, clearly there are high numbers who are obtaining mortgages with high risk leverage... using 5% or no money down options and the maximum amortization.

As one contributor to the VCI thread notes:

• "The market has run out of buyers and continually sweeps the edges for increasingly less qualified borderline customers. Possible signs are: Ignoring total debt load and qualifying entirely on monthly carrying costs, or cash back/ third party secondary loans to get around down payment requirements.. From the bank's side, it's a mortgage where the lien is issued solely on the value of the property (or the guarantee from the mortgage insurance scheme) and/or its expected gains, not on the ability for the borrower to comfortably live with the loan for 30 years."

Is the Greater Vancouver mortgage market heavily laden with high leveraged homeowners who had normal underwriting criteria 'softened' or who used additional / non-traditional, "stated" income (liar loans) or other accounting gimmicks like we saw in the United States at the height of their bubble?

You bet it is.

In 2005 and 2006 US banks, regulators and the real estate industry constantly underestimated the full extent and impact that this segment of the market would have on the overall US real estate market when conditions turned.

US subprime mortgages were estimated to be less than 20% of the market, but their collapse wreaked havoc on the market.

Looking at the Greater Vancouver market, that 'first domino' appears to be much larger than it was in the US. 

High leverage loans are a fact of life here.

Combine that with the fact that so many under the age of 40 seem completely perplexed when they hear the term 'correction in real estate'.  Last week I had two young adults (one mid 30's and one mid 20's) ask me what 'correction' meant in respect to real estate. These people have no fear of high leverage because they have no conception of what a correction in the market can do to those leveraged to the max. As a result, the vast majority have made their way into the market in this fashion.

Time will tell, but the stage is set for a much more devastating collapse here.

It's only a question of when.

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Email: village_whisperer@live.ca
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