Mortgage insurance is on its way to being mortgage insurance once again.
No longer should it be boat-loan insurance, or vacation-funding insurance, backed by the Canadian taxpayer. The package of mortgage reforms unveiled by the federal government Monday goes some lengths to ensuring that’s true, but there’s more that can be done.
The end result should be that the people of Canada, in the guise of the government and Canada Mortgage and Housing Corp., will still co-sign a high-ratio mortgage for their fellow Canadians, provided it is used to pay for a home, and provided that loan is paid down steadily until the risk to taxpayers is gone.
That’s the upshot of the new mortgage rules announced by Finance Minister Jim Flaherty. It’s welcome news for any Canadian who wonders why she or he should be on the hook for a neighbour’s flashy lifestyle should that neighbour decide to renege on the debts racked up to buy toys under the auspices of a home equity withdrawal.
That’s not what mortgage insurance was designed to do when it was introduced in 1954. The goal was to lower the cost of mortgages so people could buy homes. It was a means to a social end.
In the intervening half century, it’s been steadily co-opted. Mortgage insurance increasingly has become a way to keep the cost of loans for all sorts of other purposes down. The house was no longer the object of the exercise. It was simply the collateral used to free up cash for other spending, all backed by default insurance that is explicitly guaranteed by the government of Canada and by extension, every Canadian.
Home equity loans are the poster child for this, having jumped 170 per cent in the past 10 years. While CMHC offered insurance on those loans, most banks weren’t yet using it.
But the cash in the home could also be accessed via a CMHC-insured loan for refinancing when the mortgage comes due, something that Canadians are doing to the tune of more than $40-billion a year of late, or through simply by putting up only a tiny down payment and taking a long amortization that left room in the family budget for trips, TVs and the like. In the meantime, the Canadian taxpayer is taking the risk of default and, by doing so, subsidizing those lifestyle choices.
It’s next to impossible to say with any certainty how much money is funnelled out of home equity into such purchases, but a survey commissioned by the Canadian Association of Accredited Mortgage Professionals gives a sense. The association estimated that about $46-billion in equity takeouts through refinancings last year, about $13.5-billion was for debt consolidation, $15-billion was for renovations, $6-billion for education and “other spending,” $7.5-billion was for investments and $4-billion for other purposes.
In other words, much of that money was used for things that have nothing to do with housing. To be sure, not all of that would be CMHC-insured lending, and not all of it would be funding so-called bad debt used for current consumption. Some of it is for investments, and some for education, and some for no doubt needed renovations that upgrade the national housing stock. But the consolidation of presumably higher-rate debt suggests a lot of consumer loans are getting rolled into mortgages.
The resulting risk to Canadians from mortgage insurance stands at more than $519-billion, based on CMHC’s last estimate of its 2010 insurance in force tally. The pace of growth is incredible. In 2006, the total was $291.4-billion.
There’s still work to do if the government wants to ensure that the half a trillion dollars that Canadians are on the hook for through our explicit backstop for CMHC and other mortgage insurers is just home-related lending.
Government-backed insurance for home equity lines of credit may be gone, but even with the new rules, you can walk into a bank and withdraw all but 15 per cent of the equity in your home. That would put you back into insured mortgage territory, which begins once your equity drops below 20 per cent.
The logical thing would be to move the refinancing limit to preserve 20 per cent of home equity, the limit for mandatory mortgage insurance purposes. That would mean no equity takeouts until the taxpayer’s risk is taken care of. We’ll get you into a home. But once you’re in, job one is getting to a point where you don’t need the subsidy any more.
That risks cutting out legitimate uses for refinancing cash, such as using lower-rate home-backed borrowing to fund the things that make Canada a better country, like education, investment and needed renovations.
But there’s a way to address that problem, just as Ottawa has done with tax writeoffs and registered retirement savings plan withdrawals. All the government has to say is show us the receipts.