As houses get more expensive with the average price of a detached home in Toronto reaching a new high of $1 million, more homebuyers may be forced to take on mortgages through subprime loans to enter the housing market.
A subprime loan is an option for people who don’t qualify for loans under the prime rate, but borrowers usually pay a higher rate than the prime. Your credit score plays a huge part in whether you qualify for a prime rate loan from a bank, but there are other factors that may increase your risk of defaulting, which makes financial institutions hesitant to lend you money.
Once you’re buying a $1 million home, it becomes more difficult to qualify for a loan from a bank. In attempt to cool the market, Ottawa created legislation that prevents the government from backing properties that are worth more than $1 million. Homebuyers need to be able to pay the 20 per cent downpayment, which is the minimum amount needed to borrow from a bank, or they’ll need to get their mortgage from the sub-prime market, according to the Financial Post. In these situations, homebuyers could pay mortgage interest rates of about 13 per cent, according to the Post.
But with housing prices continually going up over the last few years, it’s no wonder that the amount of borrowed mortgages from subprime lenders is at a record high, according to data obtained by the Post. Alternative lenders, who are the typical financial institutions offering subprime loans, underwrite 2.2 per cent of all mortgage loans in Canada, which isn’t much, but its market share has grown a fair bit. In 2014, mortgage loans grew by four per cent, while the amount of mortgage loans held by subprime lenders grew by 25 per cent during the same timeframe.
“It’s a small segment of the market still, but it is rising quickly,” Benjamin Tal, CIBC’s deputy chief economist, told the Post.
With the price of oil plummeting, lenders may be even more critical of the mortgage applications they receive, especially from oil patch workers or from potential homeowners in cities where oil is a major economic driver.
Subprime loans were a factor in the 2008 recession, but as long as the mortgage market share of subprime loans issued don’t reach a third, then it won’t be a problem, said Tal. Self-employed individuals are also likely to tap into sub-prime loans when they buy property.
Anyone borrowing from this sector needs to be aware that there’s less regulation when borrowing from alternative lenders, which could put you at greater risk with less favourable terms. Owning a property also becomes more expensive since interest rate payments are higher, which increases a household’s debt.
If you don’t qualify for a bank loan, you could also consider a loan from a credit union, which holds 6.8 per cent of the mortgage market, Credit Union Central of Canada told the Post. Credit unions are provincially regulated, but it’s unknown how many of the mortgages are insured or uninsured.
When buying a home, there are many costs to consider, including the sales price, but also the closing costs. There is also bridge loan that helps you cover the cost of buying a property if your funds are tied up in a home sale.
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