(As of the 1st of January 2018, the Mortgage Stress Test will apply to all new loans, not just those insured mortgages under a 20% Loan to value (LTV) ratio)
The Mortgage Stress Test (MST) is calculated by taking your current interest rate +2% or the average bank 5 year posted rate of 4.89% (whichever is higher) and "stressing" it, to ensure under pressure you will be able to service your loan if the interest rates were to climb higher than the current average.
Stressing the rate will automatically reduce your borrowing capacity by a minimum of 18.5%. The larger the gap between your pre-approved interested rate and the stressed rate will further impact/reduce your borrowing capacity.
- i.e: if you were pre-approved at 2.49% (4.49% under stress of +2%), the posted rate of 4.89% would be higher and is what the loan would be stressed against, decreasing your borrowing capacity even further by ~22.50%.
If you have already been pre-approved, you can use the quick formula to determine an approximate reduced borrowing power capacity under the new stress test regulations.
Assuming you have been pre-approved for a $300,000 mortgage.
- Reduction = (Current pre-approval * minimum reduction)
- Reduction = ($300,000 * 0.185)
- Reduction = $55,500
- New loan capacity = $244,500
How can you increase your borrowing capacity?
Borrowing capacity is based on your ability to service the loan provided by your chosen financial institution and is very much geared towards your GDS (Gross Debt service) and TDS (Total Debt Service) ratios. When your mortgage is stress tested, these ratios increase, which in-turn decreases your borrowing capacity.
What reduces GDS/TDS ratio:
- TDS/GDS - Higher down-payment
- TDS/GDS - GROSS household income increase
- TDS Only - Reducing your current debt obligations (car payments, credit card interest, etc)
Need to find a home before the stress test kicks in? Setup a property alert and get notified the moment a property meeting your criteria hits the market.