Bank loans

Subprime borrowers have had a harder time converting to bank loans over the past decade

Last year, 71.5% of subprime borrowers in Ontario were able to obtain a mortgage from a bank or sell their property without defaulting or losing their property to foreclosure.JENNIFER GAUTHIER/The Globe and Mail

Subprime borrowers have had a harder time getting a loan from a bank over the past decade as federal mortgage rules have become stricter.

That’s the conclusion of a new report from the Canada Mortgage and Housing Corporation that examines the growth of alternative lenders such as mortgage investment entities and private lenders.

The report analyzes alternative lenders and their borrowers’ ability to exit high-interest loans.

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Alternative or subprime lenders offer more expensive, higher interest short-term loans to borrowers with poor credit. These borrowers are unable to qualify for a cheaper mortgage from a chartered bank and typically use the subprime loan as a stopgap measure to make their mortgage payments as they improve their creditworthiness.

Last year, 71.5% of subprime borrowers in Ontario were able to obtain a mortgage from a bank or sell their property without defaulting or losing their property to foreclosure. That figure is down from 83% in 2011, according to a CMHC report released Wednesday. The report uses data from Teranet, Ontario’s electronic land registration system.

“This share has declined significantly over the past decade,” CMHC said.

The difficulty stems from the federal government’s stricter bank mortgage stress test that was introduced in 2016 to ensure that borrowers could continue to make their monthly mortgage payments when interest rates started to rise.

The rule only applies to chartered bank mortgages and requires borrowers to prove they can make their payments at an interest rate at least two percentage points above the actual contracted rate.

“The decrease in shifts to conventional lenders over the past decade is partly due to a series of macroprudential regulations and stricter underwriting standards, making it harder for borrowers to re-enter this space,” said CMHC said.

Although CMHC only has data through 2021, this trend is expected to continue, with mortgage rates rising rapidly as the Bank of Canada raises interest rates to combat soaring inflation. The benchmark interest rate has risen 125 basis points in four months and is expected to rise further with the central bank’s next interest rate announcement next week.

The five-year fixed mortgage is double the cost of last year and is approaching an interest rate of 5%. This means that borrowers must prove that they can make mortgage payments at an interest rate of almost 7%. This has made it harder for borrowers to qualify, especially borrowers who have had credit issues.

The CMHC study found that subprime borrowers stayed with an alternative lender longer than expected. “Given higher interest rates, this may pose long-term affordability issues for these borrowers,” the study says.

Overall, CMHC said alternative lenders account for 12% of mortgage transactions in Ontario and are involved in up to 90% of foreclosures in the province each year.

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