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Insured buyers must show 'ability to pay'...

By James Pasternak, Financial Post

When Frank and Susan Williams bought a house near Hamilton, Ont., this month, they followed a time-honoured tradition of using leveraged financing.

With mortgage insurance, they only had to put down 5% of the $270,000 purchase price. They went with a closed variable rate at 2.25% and amortized the loan over 35 years. The deal was initiated with a mortgage broker, with Bank of Nova Scotia providing the financing.

"It's a three-bedroom bungalow. That was attractive to us. We have a dog and we like to do things in the backyard. We did not have the type of money we thought we'd have to put into a house. We said let's just bite the bullet and get this over with," Ms. Williams says.

And getting it over with was probably a good idea. First, they were in a rent-to-own arrangement and had to exercise their option to buy before August 2010. And second, based on pending federal government rules for government-backed insured mortgages that come into effect on April 19, the Williams (not their real name) would probably not have qualified for the variable-rate mortgage. As recent arrivals from the United States and its housing crisis, their credit history might not have passed any stress test.

"We really came from the United States with nothing. Everything we had disappeared with the housing crisis. In areas that had bad loans all the houses just hit bottom. We were expecting US$250,000 out of our house but we got nothing," Ms. Williams says. They walked away from the whole mess.

But while the Williams might have had good reasons for leveraging to get their dream home -- they are first-time buyers in Canada -- the new federal rules governing mortgages have been widely misunderstood. In fact, the biggest fear among the young and house-less is fear itself.

"There are a lot of rules that changed. But they weren't communicated very well," says Robert McLister, the editor of Vancouverbased Canadian Mortgage Trends (www. CanadianMortgageTrends.com).

Margo Wynhofen, of Grimsby, Ont.-based Verico One Mortgage Corp. ( www.mymortgageadvisor.ca)and vice-president of the Independent Mortgage Brokers Association of Ontario, says she has spent considerable time explaining federal Finance Minister Jim Flaherty's statement.

Under current mortgage-lending rules, buyers with a down payment of less than 20% of the purchase price must purchase mortgage insurance, with the most common source being Canadian Housing and Mortgage Corp. The new rules affect only customers that are required to purchase the insurance.

Under the new rules, all buyers requiring mortgage insurance will have to meet the "ability to pay" for a higher, more expensive five-year fixed-rate mortgage even if they choose a mortgage with a lower interest rate and a shorter term.

"It's not just first-time homebuyers who are affected. It's anyone who wants a variable mortgage rate now who doesn't have one already; they now have to qualify at a higher interest rate. Some of them won't qualify. And that's fine, so they'll just take a fixed rate. It's not the end of the world," Ms. Wynhofen says.

Bernice Dunsby, director of home equity financing at Royal Bank of Canada, says the new rules might even help save fi rst-time buyers from themselves.

"We believe the new measures will have a small impact on mortgage growth, if any. First-time buyers should not be any more concerned about these changes. In fact, I believe the changes will actually help first-time homebuyers to ensure that not only can they afford their home today but in the future, especially if interest rates rise," Ms. Dunsby says.

In some cases, the rules might be outdated before they are fully implemented. A growing number of homebuyers are forgoing the conventional mortgage and using alternative financial products.

Take the case of London, Ont., accountant and recent homebuyer Phil Parkinson. Three years ago, he bought his first home with a fully secured line of credit offered through Manulife Financial Corp.

The Manulife One product provides up to 80% of the appraised value of your home. It can be used to pay off the balance of your existing mortgage, personal lines of credit and any other outstanding debts you might have.

"These operate on a variable rate. It's just like one big bank account. You can have your money deposited into the account, you can pay your bills. [As you deposit] you can knock your account down and lower your interest calculation. Theoretically, you don't have to pay anything except the interest," Mr. Parkinson says.

Other highlights of the rules don't directly affect first-time buyers. For example, the maximum amount Canadians can withdraw in refinancing their mortgages has dropped to 90% from 95% of the value of their homes.

"There is a bit of urgency now to get [a refinancing] done before April 19. People are chronically refinancing. I have clients that refinance every two to three years to take the equity out of their home to pay off credit-card debt. The home has become an ATM machine," Ms. Dunsby says.

A January 2007 Statistics Canada study of personal debt concluded that "increasing mortgage debt for refinancing purposes or taking out home-equity loans implies that homeowners in both [Canada and the United States] are using their homes as a source of cash to finance their spending rather than as an investment."

And in an effort to contain the risks of real-estate speculation, as of April 19 the minimum down payment for government-backed mortgage insurance on non-owner-occupied properties purchased for speculation rises from 5% to 20%.

As for ex-patriot Americans Frank and Susan Williams, they're pretty relieved about their fresh start.

"It's very different to get a mortgage here. It's a lot less hassle than in the United States," Ms. Williams says.

And because the Williams are not worried about the new rules, they are thinking about their next purchase.

"We might be able to buy a little place that's larger when we can leverage this up a bit -- maybe get something cheaper than this with more room," Ms. Williams says.

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