Changes to the Down Payment Scheme – What Do They Mean?
On Friday, new Federal Finance Minister, Bill Morneau, announced changes to the down payment scheme in Canada. What are these changes? Who will it affect and how will it affect them? This article aims to answer these questions in a concise manner.
All-in-all, the changes are not expected to have a significant impact on housing markets. They will, however, have a more sizable impact on certain regions, dwelling types, and households types:
- The effect will be felt most by low-equity buyers in Greater Vancouver and the GTA looking to purchase townhomes and apartments in or near the city core or single-detached homes further out
- There may be some impact directly before and after the enactment date (February 14th), as some would-be purchasers choose to step into the market sooner, creating a small surge and subsequent lull
- Only homes that cost between $500,000 and $1 million will be directly affected
- Even then, most homebuyers are already putting down more than 5% anyway
- Any changes in demand for these homes will have some impact on the prices of other homes, but don’t expect a massive shift
- The sky isn’t falling as we estimate that only 0.6% or all home purchases in the last year might not have occurred under the new scheme
Explanation of the Changes
- Currently, the minimum down payment for an insured mortgage is 5% of the value of the home up to $1 million and 20% thereafter (because CMHC no longer insures million dollar homes)
- The new rule will require an additional 5% on the portion of the purchase price that is between $500,000 and $1 million
- As such, this new change only affects homes priced between $500,000 and $1 million.
- The effect grows as the home price increases, equivalent to an extra $5,000 in minimum down payment for every $100,000 increase in the price of the home when compared to the current scheme (see the chart below)
As you can see, a buyer looking to purchase a home that costs just shy of $1 million can expect to put down an additional $25,000 compared to the current minimum requirements (7.5% total down payment at the most).
These rules come into effect on February 14th, 2016.
Why the Change?
Firstly, the Ministry of Finance is looking to mitigate risk stemming from the Federal Government’s exposure to the housing market.
Low equity purchasers (5% down payment) are the most vulnerable to a hypothetical negative economic shock that would impact the housing market. Their mortgages are all insured (largely by CMHC), which puts the Federal Government on the hook if the market turns south quickly.
By requiring a larger down payment, they are forcing these buyers to have more skin in the game, while at the same time keeping some marginal buyers (those that couldn’t afford more than 5%) out of the market, at least for now.
Secondly, they are looking to cool certain housing markets. This leads into the next section…
Who Does It Affect?
The effect will vary by region and by buyer type.
What Regions Will the New Down Payment Scheme Effect?
Using data from CAAMP’s “A Profile of Home Buying in Canada”, it is estimated that 14% of all homes purchased between Sring 2013 and Spring 2015 were sold for between $500,000 and $1 million and would thus potentially be affected by the new down payment system (see chart below):
- The effect is most acute in British Columbia and Ontario, where 24% and 21% of all homes sold would potentially be effected, respectively
- The new rules are of almost no consequence in Manitoba, Quebec, or the Atlantic Provinces
- We should emphasize the use of the word “potentially” here. Because, while these home sales were valued at between $500,000 and $1 million, they did not necessarily have a 5% down payment
What Will the Effect Be in Different Areas?
Real estate is highly local, so provincial numbers for average home prices are of little use. Instead, this section focuses on current average resale prices by type of dwelling and region:
- Most regions covered here are not impacted, with the average price below $500,000 for all dwelling types
- That is not to say that smaller neighbourhoods are immune, just that the market average price falls outside of the new down payment scheme
- Single-detached homes in the Fraser Valley and the Greater Toronto area will be the most heavily impacted
- Interestingly, the aggregate effect for Greater Vancouver is minimal. This is because detached homes are so expensive that they already require 20% down payment
- Once again, this is only an impact in comparison to a 5% down payment, [which the majority of home buyers don’t use anyway]
We should point out that even these numbers can be deceiving, as different unit types in different areas can be negatively affected even though the average price for the region would not be.
To that end, we have done a deeper dive into local neighbourhoods in the Greater Vancouver Area...
What Neighbourhoods Will Be Affected?
- Within the city of Vancouver, detached house prices are already well above $1 million, so the new down payment scheme will have no effect
- Areas further away from the city, however, will be more affected. Coquitlam, East Burnaby and Tsawassen will all require an additional $20,000 in down payment for a single-detached house, using prices as of November 2015
- In denser areas, townhouses and apartments are impacted. Vancouver West will see a sizable increase in the down payment required for a typical townhouse
What Groups Does It Effect?
We have already shown what areas the new down payment scheme will affect, but the effect will not be felt equally by all buyer types:
- The effect will be primarily among first time home buyers. This is because they are the most likely to put down a lower down payment
- Younger households with less wealth will be worse off under this new down payment scheme
What’s The Total Impact?
What can we reasonably expect to happen to homes sales as a result of this new policy?
While it isn’t possible to say for certain, that doesn’t stop us from making an educated guess. The graph below illustrates:
- CAAMP estimates that, including existing home sales and new home sales, there are around 620,000 homes sales each year in Canada
- Of these, 155,000 (25%) used a down payment of 10% or less (and would thus be potentially affected by the new down payment scheme)
- Of these 155,000 sales with a 10% or less down payment, 29,000 (5% of all home purchases) indicated that they would probably not or definitely not be able to purchase their home if the down payment were 10%
- We have to go one step further, however, because only 14% of all homes sold are within the affected range. If we assume a uniform distribution of home prices by down payment (an admittedly sketchy assumption), that puts the total number of home sales that might not have occurred at just over 4,000 (0.65% of the total)
The graph below provides an alternative illustration of the concept.
The impact of the new down payment scheme will not be felt equally across the country, with different regions, buyer profiles and dwelling types being affected differently. In the grand scheme of things though, only a minimal impact is expected.
The specific timing of the policy will likely lead to a small surge in sales in these areas prior to the its implementation and a subsequent lull, but will not likely have a sizable impact on annual numbers. That being said, while annual sales and price data may not show a significant effect, some families will certainly feel one.