A recent report from the Canadian Imperial Bank of Commerce (CIBC) reveals that 20% of its mortgage holders are facing financial strain as they struggle to pay off their loans amidst rising interest rates. This data is concerning as it represents $52 billion worth of mortgages from the bank’s $263 billion residential loan portfolio.
CIBC has allowed borrowers to extend the time it takes to pay off their loans, also known as the amortization period, and add unpaid interest onto their original loan or principal. This strategy has led to a situation where borrowers are negatively amortizing, meaning that the unpaid interest is added to the mortgage principal and the borrower’s loan balance grows.
The report from CIBC also highlights the growing risk borrowers face when it comes time to renew their mortgages, and their amortization periods are required to shrink back to the lengths of time specified in the original contracts. At that point, borrowers will face much higher monthly payments.
According to Mike Rizvanovic, a financial services analyst with investment bank KBW, “It’s absolutely a sign of stress to come. It’s just the stress isn’t here yet.”
CIBC and most of the other big Canadian banks offer variable-rate mortgages that have fixed monthly payments. That means when interest rates increase, more of the borrower’s fixed monthly payment is used to cover the interest expense. The borrowers’ payments remain steady because their amortization periods are automatically extended.
However, CIBC’s variable-rate product allows borrowers to go past the trigger rate and stick with payments that don’t cover the full amount of the interest owed, up to a certain threshold. The unpaid portion of the interest is deferred and added to the mortgage principal, leading to negative amortization.
It remains to be seen whether borrowers with negative amortizations will be able to handle the higher mortgage payments at renewal time. CIBC has stated that it only sees a small portion, less than $20 million, of mortgage balances with clients at higher risk from a credit perspective.
The Bank of Montreal and Toronto-Dominion Bank offer similar products that allow mortgages to negatively amortize. However, they did not provide any disclosure on the share of borrowers with a negative amortization.
The full impact of higher mortgage rates will be reflected on renewal, according to Nigel D’Souza, a financial services analyst with Veritas Investment Research. Currently, the Bank of Canada’s benchmark interest rate is 4.5%, compared to 0.25% a year ago.
In conclusion, the report from CIBC highlights the financial duress that many homeowners are experiencing due to the jump in interest rates. With the growing risk that borrowers face when it comes time to renew their mortgages, it is essential to closely monitor the situation and take proactive measures to avoid further financial strain.