Canadian Finance Minister Jim Flaherty announced new mortgage rules to help combat increasing household debt and further stabilize Canada’s housing market.

As expected, Canadian Finance Minister Jim Flaherty announced new mortgage rules. The rules are intended to add further stability to the Canadian housing market as well as help individual families control their household debt which has been described as “soaring.”

Flaherty said, “Canada’s well-regulated housing sector has been an important strength that allowed us to avoid the mistakes of other countries and help protect us from the worst of the global recession. The prudent measures announced would build on that advantage by encouraging hard-working Canadian families to save by investing in their homes and futures.”

The New Canadian Mortgage Rules

Maximum amortization periods for mortgages will be set at 30 years, reduced from the former period allowed of 35 years. The purpose of this reduction is to allow mortgagors to pay off their debt more quickly and thereby reducing the total amount of interest they will pay on their loan. But as their mortgages will be amortized over a shorter time period, monthly payments will increase.

The maximum amount that a Canadian can borrow to refinance their mortgages will be an amount equal to 85% of the value of their home. This is a reduction of 5% and the reduction will limit the amount of debt a family can incur. This is expected to allow and encourage savings. Families will no longer be able to borrow as much, resulting in the equity in their homes being greater.

Rules regarding the borrowing of funds that are secured by homes are also being changed. The federal government will cease to insure home equity lines of credit (HELOC’s) where money is borrowed against a home for use other than to purchase or refinance it. Financial institutions will be responsible for these loans and they, not the government, will manage them.

According to the Finance Department, these home equity loans have risen in recent years resulting in more consumer debt. Consumers are required to pay the monthly interest on these loans but many times no principle payments are required. Unless the loan calls for specified interest and principle payments, the government will not be insuring these loans. The government is hoping that by withdrawing insurance on interest-only loans, the Canadian housing market will become further stabilized. The risk of these loans will now be on the financial institutions that lend the money. It is expected these institutions will apply stricter criteria for the grant of the loan when they, not the government, are on the hook for defaulted loans.

Adjustments to mortgage insurance will become effective on March 18, 2011. A month later, on April 11, 2011, the government will completely withdraw from home equity loans.

Will There Be a Buying Boom?

Quoted in the Globe and Mail, the Canadian Real Estate Association predicts there will be a buying frenzy as new home buyers and those who seek to refinance their property or obtain home equity loans will do so now to avoid the new rules that come into force this spring. This is anticipated not only because of the announced changes but because there is speculation that interest rates will rise over the next few months.

In the past, when changes were announced that put home buyers at a disadvantage, house sales boomed by those wanting to purchase a home before those changes became effective. If this happens it will drive home prices higher and likely be followed by a big slowdown when the rules come in.

The government fears that failing to curb household debt that rose because of low interest rates will impede Canada’s recovery from the current recession.