False Sense Of Affordability

This might be old elementary news, but over the last couple of years during the inflation of the Calgary real estate bubble many home buyers were "tricked" (yes, I dare say it) into affordability.

A conventional and financially rational mortgage would follow a 25 year amortization period. A down payment requirement of 25% would be a solid foundation. In addition, a single income stream would the norm.

Since February 2006, CHMC has introduced 30, 35 and 40 year mortgages to allow prospective buyers a chance into the real estate market. In conjunction to low interest rates, a well oiled real estate marketing machine, and a booming economy this created the present bubble dynamic.

Recently, the essence of 40 year mortgages has been questioned.

"Canadians are flocking to 40-year mortgages, often without a down payment, and the rapidly developing trend is beginning to ring alarm bells for policy makers in Ottawa.

Both the Finance Minister and the Governor of the Bank of Canada are expressing concern about the situation, as the U.S. economy continues to reel from a crisis triggered by mortgage holders who were in over their heads."

The shocking statistic found in the article is that around 40% of new mortgages are of longer than conventional 25 year periods. Furthermore, 15%-20% of first time home buyers are opting for no down payments and 40 year mortgages. Since Calgary lead the sudden incline in prices, unconventional lending practices may be more pronounced in the market.

Instant applications to a life of serfdom and financial tight rope walking. Longer term mortgages cost thousands more just in paying interest and last much longer. They are only beneficial to your bank, mortgage broker and anyone in the real estate "money supply chain."

"The bigger question is what happens as you go off two, three, four, five years from now, and it's no longer just a significant share of the new applications, but it's a significant share of the outstanding market," said Derek Holt, an economist at Bank of Nova Scotia. "I think we'll be in uncharted waters as to the sensitivity to shocks that most households will find themselves facing." If there is a shock in jobs, interest rates or commodity prices, "unless you see the arrival of 60-year mortgages, then you've got a household sector that's really backed itself up against the wall."

If the current state of affordability is defined as minimal down payment on a mortgage longer than 25 years, the cold reality is much different. You can't afford the house (wait for the price correction).

The most dangerous lifetime financial decision is "force feeding" affordability in a bubble real estate market.