Sky-high prices and rising interest rates fuck home affordability
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Home equity lines of credit (HELOCs) were a common way for Canadian homeowners to tap into their home’s equity during the long run of low interest rates and rapidly rising home prices over the past decade. However, a new survey from BNN Bloomberg and RATESDOTCA is shedding light on the vulnerabilities that could be lurking on some household balance sheets amid the recent steep rise in interest rates.
Twenty-seven per cent of homeowners who participated in the survey said they had a HELOC. Seventy-eight per cent of those individuals said they had used it, including about half who said they used it in the past two years. Those who said they requested the HELOC from their lender, rather than having been offered one, were far more likely to have used it (85 per cent versus 71 per cent).
More than half (58 per cent) of respondents said they currently have an outstanding balance on their HELOC. While the majority said they borrowed less than $50,000; 10 per cent said they borrowed between $50,000 and $100,000; another 10 per cent said they borrowed more than $100,000.
Larger balances of at least $50,000 were more common among those aged 55 and up, suggesting that older Canadians have been leveraging the large gains they saw in their home’s value.
That presents a risk, because many HELOCs are based on variable-rate interest. That means borrowers are on the hook for higher payments as interest rates rise, which is exactly what has been happening.
Earlier this month, the Bank of Canada raised its benchmark interest rate by half a percentage point in response to what was, up to that point, the largest inflation print in three decades. It was the second consecutive hike of that magnitude. Since the start of this year, the central bank has raised its key policy rate by 125 basis points (there are 100 basis points in a percentage point).
The Bank of Canada’s next policy decision is scheduled for July 13, and the market is increasingly pricing in a 75-basis-point increase in the rate (several economists and strategists are even predicting a full-point hike). That would mean another jump in HELOC payments for variable-rate holders.
HELOCs allow borrowers to make interest-only payments, and the survey found that eight per cent of HELOC holders do exactly that. Another 16 per cent said they often pay interest-only, and sometimes pay down the loan. Fifty-five per cent said they make regular payments beyond interest to decrease their HELOC debt. The other 21 per cent of HELOC holders said they either didn’t know their payment structure or chose not to answer the question.
With a HELOC, homeowners can tap into their home’s equity by borrowing up to 80 per cent of its value in combination with a mortgage. On Tuesday, the Office of the Superintendent of Financial Institutions announced some upcoming adjustments to the rules. As of late 2023, borrowers would be required to pay both principal and interest on any combined loan amount above 65 per cent of the home’s value.
Technically, HELOC lenders can demand payment in full at any time, and consumers often have to pay off their HELOC if they want to switch their mortgage to another lender. This can create a problem if borrowers are not setting aside extra money to pay down their HELOC in order to keep up with interest payments as rates rise.
The survey found that the top use of a HELOC for borrowers was home renovations, with 43 per cent saying renos were their main use of the loan. Another 30 per cent said that they used a HELOC for debt consolidation. Thirteen per cent said the main use of their HELOC was a vacation.
Leger conducted the survey of 1,507 Canadians from June 3-5; 972 (65 per cent) of the participants said that they were homeowners.
BNN Bloomberg has teamed up with RATESDOTCA to take the pulse of Canadians every month on key pocketbook issues as we strive to better understand how households are navigating COVID-19. This is the latest installment in monthly special coverage.