December, 2024

When buying a home in Hamilton, determining how much mortgage you can afford is a complex calculation. It involves more than just the mortgage payment itself; it requires considering all financial obligations and lifestyle choices, both which have a significant impact on the home you can afford.  Upcoming changes on December 15, 2024 to the Canadian Mortgage and Housing Corporation (CMHC) rules will assist with the ability to own your own home and what home you can afford.

Determining how much home you can afford involves understanding several interrelated factors that influence your borrowing capacity and financial health.

Key Factors in Determining Affordability for Buying a Home

1. Income and Debt-to-Income Ratio

Your income is a critical factor in determining mortgage affordability. Lenders assess your income and debts to determine affordability using two primary metrics, the Gross Debt Service (GDS) and Total Debt Service (TDS) ratios to assess how much of your income goes toward housing and other debt obligations. For most lenders, your GDS should not exceed 39%, and your TDS should be no more than 44%.

Here’s a deeper dive into those key considerations:

• Gross Debt Service (GDS) Ratio: The percentage of your gross income that goes toward housing costs, including mortgage payments, property taxes, heating, and 50% of condo fees. Typically, GDS should not exceed 39%.
• Total Debt Service (TDS) Ratio: This includes all housing costs plus other debts like car loans, credit cards, and personal loans. TDS should not exceed 44%.

These ratios ensure that borrowers do not overextend themselves. However, lenders may exercise discretion based on your creditworthiness and your savings.

2. Down Payment Required When Purchasing A Home

The size of your down payment impacts both the size of your mortgage and whether you’ll need mortgage insurance from the Canadian Mortgage and Housing Corporation (CMHC).  Under current requirements, if your down payment is less than 20% of the value of the property or your loan-to-value is greater than 80%, you will require mortgage insurance.

Effective December 15, 2024, insured mortgages will apply to homes up to $1.5 million, allowing buyers with smaller down payments to access higher-priced homes. These new rules aim to make homeownership more accessible.

The new changes will look like this:

• Homes under $500,000 require a minimum 5% down payment
• Homes between $500,000 and $1,499,999 ($1.5M for ease) require 5% for the first $500,000 and 10% for the remaining amount

What does this mean in terms of affordability?  A $1.5M home will require a $125,000 down payment effective December 15, 2024 as opposed to the current $300,000 required. This reduction of $175,000 for a down payment is a significant amount for first time buyers to achieve the dream of their own home.  First-time home buyers accounted for roughly 43% of annual sales in 2023 and most buy as much as they can afford.

3. Amortization Period for Home Mortgages

The amortization period affects both your monthly payments and the total interest paid over the life of the loan. Starting December 2024, first-time homebuyers and those purchasing newly built homes can choose a 30-year amortization period instead of the standard 25 years. This extension reduces monthly payments and provides for more cash flow flexibility, making homeownership more accessible but does increase long-term interest costs over the life of the mortgage.

This extension from a 25-year to 30-year amortization period won’t come cheap so you should assess the long terms costs before deciding what is the best option for you.  There are costs involved to this strategy of extending the amortization period that you should consider.  Current mortgage insurance premiums look like this:

25 Year Amortization Mortgage Premiums in addition to the Price of Your Home

Loan-to-value ratio 80.01% to 85% = 2.8%

Loan-to-value ratio 85.01% to 90% = 3.1%

Loan-to-value ratio 90.01% to 95% = 4%

By extending your amortization period to a 30-year amortization, each value above will be increased by 0.2% which doesn’t sound like a lot but that adds up on a $1.5M home.

While these changes to down payment and amortization period increase purchasing power, they also carry risks, such as higher overall debt. Prospective buyers should weigh these factors carefully when determining affordability.  The intended benefit of the extension to a 30-year amortization period means immediate cash flow.   The mortgage payments are smaller to allow for that extra money to be put towards other debt, basic living expenses or investing that money in your future in terms of savings.  Your financial adviser or an accountant is the best person to help you assess the pros and cons of the 30-year amortization period based on what is best for you and your long-term outlook on your lifestyle.

Who are considered “first-time homebuyers?” Well, that isn’t as obvious as you would think.  A first-time home buyer is defined by meeting one of the following criteria:

• The borrower has never purchased a home before; OR
• In the last 4 years, the borrower has not occupied a home as a principal place of residence that either they themselves or their current spouse or common-law partner owned; OR
• The borrower recently experienced the breakdown of a marriage or common-law partnership (even if they previously may have owned a home)

4. Interest Rates & How They Affect Buying A Home

What impacts mortgage interest rates?  The Bank of Canada creates money for Canada and in turn lends that money to banks at what is called the “overnight lending rate” or “key interest rate.”  This overnight rate is a tool used to make it more expensive (or cheaper) for consumers and institutions to borrow money.  Sadly, this is not the interest rate you and I pay to borrow money from our bank.  The overnight lending rate is the interest rate charged to banks to borrow money from the Bank of Canada and what banks pay to borrow from each other to get funds to give to you and I to buy items (including our mortgages).  We pay more money to our bank for our interest rates, this is how the bank makes their money.  Regular banks mark up the overnight interest rate to what is referred to as the prime interest rate.  Prime is not set by the Bank of Canada, it is set by banks and lenders.  Not all banks and lenders have the same prime rate.

The purpose of the Bank of Canada increasing or decreasing their overnight lending rate is to manage/control inflation and stabilize the economy.  The overall goal is to maintain inflation at 2%, this is their mandate.  Given that overnight lending rates can take 6-8 months to have an impact on inflation, decisions to increase or decrease them over the year are taken with care so as not to drive up inflation or to lead us into a recession.  There are 8 prescheduled announcements each year to either raise the rate, lower the rate or hold the rate.

Mortgage interest rates significantly influence affordability. As interest rates rise, it becomes more costly to manage a mortgage payment and the ability to then afford a home is reduced for most individuals.  There are two types of mortgage rates you can choose from when entering into a mortgage, fixed rates and variable rates:

• Fixed Rates: Provide stability, as your payments remain constant for the term of the mortgage.
• Variable Rates: Fluctuate with market conditions, potentially offering lower rates initially but with more risk.

Low rates or rate cuts by the Bank of Canada lowers monthly mortgage payments and enhancing affordability.

5. Stress Test When Determining Lending Amounts for Mortgages

You would think with all the other things in life that give us stress, including meeting our rent or mortgage payments each month, qualifying for a mortgage has added stress!  A stress test is put in place to ensure that borrowers can afford payments and will be able to withstand future rate increases without potentially losing their home.

You must qualify at the higher of:

• The Bank of Canada’s five-year benchmark rate (currently at 5.25%).
• Your mortgage rate plus 2%.

The stress test protects borrowers from future rate hikes but can limit the size of the mortgage you qualify for.  There is some good news on the horizon for existing homeowners with mortgages who are looking to switch banks when their mortgage comes up for renewal in terms of this stress test.  Banks will no longer be required to do the stress test in order for existing mortgage holders to switch banks if they are keeping the original mortgage amount.  If you are looking at refinancing and amalgamating other debt into an existing mortgage, this is not the same thing. That is actually considered a new mortgage and the stress test will still apply in order for you to qualify with that other lender.

6. Closing Costs – More Expenses When Purchasing a New Home

These one-time expenses often catch buyers off guard. Common closing costs include:

• Land Transfer Tax: Based on your province and property price. First-time buyers may qualify for rebates.
• Legal Fees: Typically, $1,000–$2,500 for services like title search and document preparation.
• Home Inspections and Appraisals: Costs vary but are essential for due diligence.
• CMHC Insurance Premiums: For down payments under 20%, these premiums can add thousands to your mortgage.

7. Other Financial Obligations Besides Your Mortgage

Your ability to afford a home depends on your overall financial picture, including:

• Existing Debt: High debt levels can reduce your mortgage approval limit.
• Savings for Emergencies: Lenders prefer borrowers who maintain robust savings.
• Retirement Contributions: Ensure your home purchase doesn’t derail long-term financial goals

8. Location-Specific Costs – Finding Homes on MLS Using Geographical Areas

Where you buy affects affordability, a home in Ancaster will typically cost more than that identical home in lower Stoney Creek or Grimsby.  Other things to consider:

• Property Taxes: These vary widely by municipality and can significantly impact your monthly budget.  Some nice areas of Burlington actually pay less property taxes than some areas of Hamilton.
• Utilities and Transportation: Remote locations may offer cheaper housing but could increase commuting and utility costs.

Lifestyle Considerations – How Your Lifestyle Affects Home Affordability

When assessing how much of a home you can afford, it’s essential to consider lifestyle choices that go beyond fixed housing costs like the mortgage, taxes, and insurance. These considerations are vital to ensure your homeownership experience aligns with your overall financial well-being and personal preferences.

1. Daily Expenses

Beyond the mortgage, homeowners need to account for other costs such as home insurance and potential condo fees.  Everyday spending on groceries and entertainment also impacts cash flow.  Your lifestyle choices, such as dining out frequently or indulging in daily coffee runs, can impact how much disposable income is available for housing costs. For example, cutting back on non-essential expenses could increase the amount you can afford to spend on a home.

Small, recurring expenses can significantly impact your ability to afford a home:

• Coffee and Snacks: Regular indulgences like daily Starbucks runs or buying lunch can quickly add up. For instance, spending $5 daily on coffee totals $1,825 annually, which could otherwise be used toward mortgage payments or savings.
• Dining Out: If you frequently dine out or order takeout, these costs could consume a portion of your income that might otherwise support your housing costs.

Pro Tip: Track your spending over a month to identify non-essential expenses. Redirecting these funds could increase your capacity to handle home-related costs comfortably.

2. Entertainment and Recreation

Your budget for hobbies, travel, and entertainment also impacts affordability:

• Vacations: Homeownership might require rethinking yearly travel plans, as more of your income will go toward housing.
• Subscriptions and Memberships: Services like streaming platforms, gym memberships, or premium apps may need re-evaluation to ensure they fit into your post home purchase budget.

3. Transportation

Your choice of home location affects transportation expenses, if you don’t work remotely, which should factor into affordability:

• Commuting Costs: Homes further from your workplace may be more affordable but can increase commuting costs. Consider fuel, public transit fees, or the potential need for a second car.
• Car Payments: Existing vehicle loans and associated costs like insurance and maintenance must be factored into your budget. Ideally, transportation costs should remain below 15% of your total income.

4. Health and Wellness

Health-related expenses are a critical but often overlooked component of lifestyle spending:

• Healthcare Costs: Regular medical appointments, prescriptions, or therapies can add up. Ensure your budget accommodates these needs, especially if your employer’s benefits don’t cover them entirely.
• Fitness and Wellness: Budgeting for physical fitness activities, whether gym memberships or yoga classes, is also important for maintaining a balanced lifestyle.

5. Children and Education

If you have children or plan to in the future, their needs must be factored into your affordability assessment:

• Childcare Costs: Daycare, school fees, or after-school programs can be significant.
• Education Savings: Contributions to Registered Education Savings Plans (RESPs) or similar accounts can reduce disposable income.

6. Future Goals and Financial Priorities

Your ability to afford a home depends on maintaining a balance between current needs and long-term goals:

• Retirement Savings: Continuing to contribute to Registered Retirement Savings Plans (RRSPs) or Tax-Free Savings Accounts (TFSAs) is crucial.
• Emergency Fund: Homeownership often comes with unexpected expenses, such as appliance repairs or property damage. Ensure you maintain a robust emergency fund to avoid financial strain.

7. Flexibility for Life Changes

Consider how life events could affect your finances:

• Job Stability: A change in employment or income levels may impact your ability to keep up with mortgage payments.
• Family Changes: Marriage, having children, or supporting aging parents could introduce new financial responsibilities.

Balancing Lifestyle and Home Affordability

The key to balancing lifestyle and affordability is prioritization:

1. Identify discretionary expenses you’re willing to cut back on to accommodate housing costs.
2. Develop a realistic post home purchase budget that includes all fixed costs and leaves room for lifestyle activities you value most.
3. Aim for a home purchase price that allows you to sustain your preferred lifestyle without overextending your finances.

Affording a home in Hamilton, Ontario requires careful consideration of your financial situation, lifestyle, and future needs. Use tools like affordability calculators, consult with financial advisors, and stay informed about mortgage rules to make a well-rounded decision. With the upcoming changes in December 2024, first-time buyers and those purchasing new builds have an opportunity to access more favorable terms, but these must be navigated responsibly to ensure long-term financial health.  We can help direct you to professionals that can help you navigate your way through this.

By keeping your financial goals and limits in focus, you can confidently answer the question: How much home can you afford?

When you are ready to buy or sell, reach out to us.  You can contact Nancy Hume-Meletti at 905-741-3474 or Lori Hume at 905-570-3310.  We are professional real estate agents working hard to serve you!