HELOC holders could find budgets pinched by rising interest rates

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The rise in interest costs is already spelling trouble for some Calgary homeowners, finding their budgets increasingly weighed down by home equity line of credit debt, says a local mortgage broker.

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“We’ve seen this year people struggling with their debt payments to the point where they are selling their homes to buy something less costly to consolidate debt into one payment or even eliminate it,” says Matt Leggett, senior vice-president and mortgage broker at Ratehub.ca in Calgary.

“We don’t normally see that, but it’s happened a lot now because people are struggling to keep up with payments on their home equity lines of credit.”

His comments come in light of a new study showing many Canadian homeowners with a home equity line of credit — or HELOCs for short — are currently carrying an outstanding balance.

The survey by online mortgage marketplace RatesDotCA found 58 per cent of homeowners with a HELOC have a balance, with about eight per cent making interest-only payments.

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Amid the Bank of Canada hiking its overnight rate to tame inflation, interest rates on these variable products have increased significantly in the last few months. Rates are now jumping again after the latest announcement by the Bank of Canada on July 13 increasing its overnight another 100 basis points.

The RatesDotCA study also notes HELOC debt in Canada is not insignificant, reaching $167 billion in March, according to Statistics Canada data.

Among reasons for using their HELOC, the survey found more than three in 10 Canadians used it for home renovations.
Similarly, 30 per cent used their home equity to consolidate higher interest debt at a lower rate, while 13 per cent paid for a vacation with their HELOC.

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RatesDotCA mortgage expert Sung Lee in Toronto notes rising interest rates on HELOCs are more impactful on household budgets compared with variable-rate mortgages because of how interest costs are calculated.

“Depending on your amortization, interest rate hikes with a variable mortgage are not as significant because the calculation is based on the amortization,” he says, adding the payment is a combination of interest and principal. In most cases, borrowers see their amortization increase but not their monthly payments.

Interest costs, however, on a HELOC are calculated on the total amount owing, “so you will often see larger jumps in monthly payments.”

He adds using a HELOC for home improvements in the low interest rate environment over the last several years made sense so long as homeowners had a repayment plan.

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The study found evidence that many — 55 per cent — were paying down HELOC debt.

As well, new rules starting in late 2023 from OSFI (Office of the Superintendent of Financial Institutions) will limit the maximum home equity borrowers can access to 65 per cent instead of 80 per cent as presently allowed.

Homeowners with pre-existing debt above that threshold will have to make payments on principal until the amount is below 65 per cent.

Leggett says individuals with HELOC debt are best served paying it down as quickly as possible given rising interest costs. What’s more, HELOC debt can negatively impact their ability to move because these costs increase their total debt servicing ratio, which cannot exceed 44 per cent.

“A lot of other things have also changed, hurting borrowers, including the (OSFI) stress test,” he adds.

A few months ago, most borrowers had to qualify at 5.25 per cent — the Bank of Canada fixed rate benchmark. Now most must qualify at their offered mortgage interest plus two percentage points.

“That means qualifying at close to six per cent,” Leggett says. “So some now can’t qualify based on all these factors.”