Since urban land is scarce and first-time homebuyers are competing for a restricted supply, house costs would inevitably rise without bank support. Therefore, banks are necessary to maintain an artificial floor under prices. Mortgage amortisation periods may be extended by the bank to a length between 70 and 90 years at the borrower’s request. This helps borrowers keep their monthly payments affordable and, in theory, prevents them from defaulting on the loan. In addition, the 2008 financial crisis encouraged banks to provide such conditions to high-risk borrowers, since doing so enabled them to satisfy their monthly debt commitments without worrying about the borrowers’ ability to pay their mortgages.
This cannot continue since borrowers will eventually have to pay more interest and a larger portion of their income towards their debts regardless of how long the terms are prolonged. There is a higher chance that housing values may level off or even fall if the first bubble breaks, and the longer amortisation term might mean that people pay more over time.
The bubble’s inevitable bursting doesn’t only put borrowers at danger, unfortunately. When the economy is weak, Canada’s banking system is the first to feel the effects. Canada lacks a deposit insurance mechanism similar to that of the United States, therefore individual banks here bear the risk of any losses. This implies that Canadian banks would have to pick up the slack in the event of a significant drop in property values.
If mortgages with high loan-to-value ratios were extended by banks and the borrowers defaulted, the banks would have to recoup their losses. This will be very challenging and expensive for financial institutions. If home values fall far enough, homeowners who can’t make their mortgage payments will owe more on their mortgages than their homes are worth. The banks have a good chance of losing money in a foreclosure sale if the property is sold for less than its market value.
There is no meaningful method for Canadian banks to recoup their losses from borrowers defaulting on their mortgages if the real estate bubble crashes. Without a government-backed insurance system, the banks are at tremendous danger, and the losses they incur might be enormous. Canadians, more than ever, need to be aware of the possible costs associated with mortgage extensions in the event that home values decline. However, the future of the real estate bubble and its effects on Canadian financial institutions are unknown at this moment.