If you’re like most homebuyers, you got preapproved to find out how much you will qualify for prior to shopping for your new home.  Having a solid preapproval in place can give you the reassurance and peace of mind in knowing that you can put in unconditional offers to purchase your new dream home with confidence.

But is this really true?

 

The Impact Of The Prime Rate Increase On Mortgage Qualification

The Bank of Canada increased their key policy rate by 1.00% last week, which resulted in mortgage lenders increasing their prime rates to 4.70%.

This may have a direct and immediate impact on the mortgage amount you will qualify for.

If you already have a mortgage approval (commitment) in place with a lender for a property you have purchased but has not yet closed, then everything will remain intact and you have nothing to be concerned about.

Where you may be affected is if you have completed a preapproval and are still shopping for your new home. A preapproval letter will guarantee you that the rate will be locked in for 120 days. But it doesn’t guarantee that your mortgage will be approved for the amount stated on the letter.

As the lowest qualifying rate has now changed, the maximum mortgage amount listed in your preapproval may no longer be accurate.

 

Qualifying Rate And How It Works

The qualifying rate is also known as the mortgage stress test. This means that you are required to qualify as if your payments based on a higher rate. Its sole purpose is to ensure that you will still be able to make your mortgage payments in a rising rate environment. The rate increases that we have seen so far this year is exactly what the stress test was designed to protect you against.

The qualifying rate (stress test) used is the higher of the benchmark rate (currently 5.25%), or 2% above your contract rate (the rate your payments are based on).

For example, let’s say you could still get a mortgage rate at 2.75%. The 5.25% benchmark rate would be used for your qualification as it’s higher than 4.75% (2.75% +2.00%).  

Up until last week, most variable rate mortgages were able to qualify based on the 5.25% benchmark rate.  However, now that prime rate has increased by 1.00%, all variable rate preapprovals will need to be reworked based on the new qualifying rate.

For example, today’s lowest 5 year variable rates range from prime -1.15% (now 3.55%) to prime -0.65% (now 4.05%), depending on your situation.  The lowest 5 year variable with the big five banks range from prime -0.50% to prime -0.35% (now 4.20% to 4.35%)  

This means the new qualifying rate will range from 5.55% to 6.35%, which will drop your maximum qualified amount by roughly $20,000 – $75,000 depending on the lowest rate you are eligible for. 

This is a substantial difference if you are trying to purchase a home up to your maximum qualified amount.

 

Is Your Current Preapproval Valid?

If you have an active preapproval for a fixed rate, then your maximum mortgage amount will not change. Your rate is locked, therefore so is the qualifying rate used. Keep in mind that your new home purchase will need to close within the 120 day rate hold period for it to be valid. If your closing falls after the expiration date, then today’s rates will apply, as will the new qualification amount.

As the qualification rate for a fixed rate mortgage is higher than the variable options, you will qualify for a larger amount if you choose to go with a variable rate.

If you’re looking to maximize your qualification, then you will want to check out my blog on 7 Ways To Qualify For A Larger Mortgage

 

Conclusion

A mortgage preapproval is not much more than a rate hold and it does not guarantee that you will qualify for the amount listed on the letter. As the qualification rate has increased, your maximum mortgage amount has likely dropped. If you have an existing preapproval or prequalification in place right now, please ensure you reach out to us at pmteam@citycan.com to let us review it for you. We can then re-run the numbers for you and will let you know exactly what you can expect to qualify for.