Analysts highlight the pressures households experience
Canada should expand mortgage options to include longer renewal terms, such as 10-year mortgages, to mitigate the financial strain on households and the economy, according to a report from Desjardins, the nation’s largest financial co-operative.
The report suggests that longer-term mortgages would help alleviate “payment shocks” for households when they renew their debt obligations amid rising interest rates. Currently, Canada’s mortgage market is dominated by shorter-term contracts, typically rolling over after five years or less, which exposes borrowers to significant rate hikes.
“If the option to lock in 10-year mortgage terms had been more prevalent and attractive, the payment shock would have been more manageable for households opting for it,” stated chief economist Jimmy Jean and macro strategist Tiago Figueiredo in the report.
Longer-term mortgages
The call for longer-term mortgages comes as Canadians grapple with higher debt-servicing costs compared to other countries. The authors noted that many Canadians are spending larger portions of their income on debt payments due to the recent global rise in borrowing costs.
Historically, Canadian households favored shorter-term mortgages because of a long-term trend of declining interest rates over the past four decades. This trend encouraged borrowers to choose mortgages that reset more frequently to take advantage of falling rates. However, the recent spike in rates has revealed the vulnerability of this approach.
Desjardins proposes several measures to make 10-year mortgages more accessible and affordable. These include adjusting legislation to limit prepayment penalties for loans exceeding five years and developing a “private label” residential mortgage-backed securities market. Additionally, increasing the issuance of covered bonds could help in funding longer-term mortgage products.
Jean emphasized that making these changes would not only benefit consumers but also help lenders manage risks associated with their mortgage portfolios. “If conditions are made ripe for the development of that market, competitive pressures will naturally bring lenders in that direction,” he said.
The Bank of Canada has noted that about half of all outstanding mortgages have rolled over at higher rates since the start of 2022. Although the central bank had previously explored mortgage innovation, these efforts have stalled, underscoring the need for renewed focus, according to Desjardins.
To assist borrowers with variable rate mortgages facing higher payments, some Canadian lenders have introduced measures such as adding unpaid interest to the mortgage principal or allowing interest-only payments. The report suggests that the need for such leniency could have been reduced if more robust mortgage products were available from the start.
“The Canadian government is now in a position of having to urge lenders to show leniency toward borrowers facing mortgage renewal shocks,” the authors noted. “This plea might have been unnecessary if better products had existed in the first place.”
