Real Estate

Should we calculate budget using higher rates?

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  • May 10th, 2021 4:11 pm
[OP]
Newbie
Nov 15, 2020
59 posts
18 upvotes

Should we calculate budget using higher rates?

Hi all,
First time home buyer and wondering if what we are doing is make sense:

So, I realize that interest rates are low, but, I'm wondering, what if in 5 years interest rates going up, would we still able to pay the mortgage?

That said, instead of calculating budget based on 1.5%, we are calculating based on 3.9% and see if we can still afford to buy a house.

The issue is, once we factor in all of our income, expenses, retirement contribution, house maintenance, etc., we have to increase our income by $10,000 more per year before we can afford to buy a house if we use 3.9%. If we calculate based on 1.5%, then our current income is enough.

That said, calculating the budget using a much higher rates make sense to me, but, not sure if I'm just being paranoid?
13 replies
Deal Addict
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Mar 30, 2010
3623 posts
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Greater Toronto Area
If you're going fixed, use an amortization tool to see what your principal would be after 5 years, and then yes, stress test yourself on that.
RichmondCA wrote: Leading indicator on bear market, when you see this avatar start popping up in this thread
Newbie
Apr 9, 2020
92 posts
79 upvotes
In five years, a portion of the principles has been paid , I hope you consider it that case using your calculation.

Secondly, in five years, your salary is also likely to increase.

In the worst case, you lose your job. Your income reduces, you can not pay the mortgage interest, you can still sell your house and you still gain the equity you have paid for the first five years.
[OP]
Newbie
Nov 15, 2020
59 posts
18 upvotes
dc200 wrote: If you're going fixed, use an amortization tool to see what your principal would be after 5 years, and then yes, stress test yourself on that.
True, thanks!
[OP]
Newbie
Nov 15, 2020
59 posts
18 upvotes
ZhaoW9051 wrote: In five years, a portion of the principles has been paid , I hope you consider it that case using your calculation.

Secondly, in five years, your salary is also likely to increase.

In the worst case, you lose your job. Your income reduces, you can not pay the mortgage interest, you can still sell your house and you still gain the equity you have paid for the first five years.
Yes, much thx!
Deal Fanatic
Dec 11, 2003
8457 posts
997 upvotes
I stress test myself with
- a lost of the higher income, replaced by EI
- unexpected baby
- both of the above

Also use the pre pandemic numbers so more dining out, day care, car etc
October 2015 for sale, PM for details!
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Member
Jun 6, 2014
309 posts
140 upvotes
Toronto, ON
I would consider the higher rate and whether it is affordable. A rough estimate of the increase your monthly payment of about 25-30% of the current payment. Because interest is so low right now, any meaningful increase in rates is increasing your interest by double. Like an increase from 2% to 4% is double the interest.

No you're not paranoid, depending on how things go, this is where others might get caught. But it's a risk and reward thing that has paid off for some people in the current market.

There are possible solutions to increasing rates, such as remortgaging in 5 years when you need to renew. That is extending the payback period of your mortgage to make payments more manageable. But it could also mean working longer.
Deal Addict
May 12, 2014
3402 posts
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Montreal
ZhaoW9051 wrote: In the worst case, you lose your job. Your income reduces, you can not pay the mortgage interest, you can still sell your house and you still gain the equity you have paid for the first five years.
That is not the worse case.

Worse case is similar to 2009: recession causes you to both lose your job and reduces house prices.
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Mar 30, 2010
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FrancisBacon wrote: That is not the worse case.

Worse case is similar to 2009: recession causes you to both lose your job and reduces house prices.
Agreed.

We should all just not buy houses and rent instead, because that is the safest, most risk free option.

If things go south, just join the Keep Your Rent movement and get featured on the front page news as a social justice warrior.
RichmondCA wrote: Leading indicator on bear market, when you see this avatar start popping up in this thread
Deal Addict
May 12, 2014
3402 posts
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Montreal
dc200 wrote: Agreed.

We should all just not buy houses and rent instead, because that is the safest, most risk free option.
In a province with crazy rent controls and other skewed laws, renting is indeed safer.

However what you were really doing is presenting a strawman argument. I'm not saying the sky is falling nor even arguing in favor of renting.

My recommendation is that if you do buy, plan to have a cushion, don't buy the absolute most expensive house the bank is willing to finance you for. Do you disagree?
Deal Addict
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Mar 30, 2010
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FrancisBacon wrote: In a province with crazy rent controls and other skewed laws, renting is indeed safer.

However what you were really doing is presenting a strawman argument. I'm not saying the sky is falling nor even arguing in favor of renting.

My recommendation is that if you do buy, plan to have a cushion, don't buy the absolute most expensive house the bank is willing to finance you for. Do you disagree?
Yes I disagree.

My philosophy towards RE is to go balls to the wall, pedal to the metal, overextend to the last penny until you can't afford Swiss Chalet, over leverage until your great grandchildren feel the debt, all for the chance to enjoy those sweet gains at the end.

If it doesn't work out you can just declare bankruptcy and start trading crypto instead.
RichmondCA wrote: Leading indicator on bear market, when you see this avatar start popping up in this thread
[OP]
Newbie
Nov 15, 2020
59 posts
18 upvotes
elty wrote: I stress test myself with
- a lost of the higher income, replaced by EI
- unexpected baby
- both of the above

Also use the pre pandemic numbers so more dining out, day care, car etc
Very true, thx!
[OP]
Newbie
Nov 15, 2020
59 posts
18 upvotes
icedtea365 wrote: I would consider the higher rate and whether it is affordable. A rough estimate of the increase your monthly payment of about 25-30% of the current payment. Because interest is so low right now, any meaningful increase in rates is increasing your interest by double. Like an increase from 2% to 4% is double the interest.

No you're not paranoid, depending on how things go, this is where others might get caught. But it's a risk and reward thing that has paid off for some people in the current market.

There are possible solutions to increasing rates, such as remortgaging in 5 years when you need to renew. That is extending the payback period of your mortgage to make payments more manageable. But it could also mean working longer.
If interest rate is below and up to 2%, we can afford increasing the monthly payment, so maybe we should be doing that in the first 5 years. After 5 years, even though interest rate maybe going up to 3-4%, hopefully, the the lower principle even out the higher rate to make not that significant of an increase for the monthly payment. I think that's how I should look at this, right?
Member
Jun 6, 2014
309 posts
140 upvotes
Toronto, ON
choicedot3 wrote: If interest rate is below and up to 2%, we can afford increasing the monthly payment, so maybe we should be doing that in the first 5 years. After 5 years, even though interest rate maybe going up to 3-4%, hopefully, the the lower principle even out the higher rate to make not that significant of an increase for the monthly payment. I think that's how I should look at this, right?
The way monthly payments (amortizations) on mortgages are calculated is based on the assumption that the rate doesn't change over the life of your mortgage. So any increase or decrease of the interest rate at renewal will directly impact your monthly payment.

Mortgage $550,000 - 30 year at 2% is $2K a month : pay mortgage without addition payments at the end of 5 years your principle will be $478,390.
Mortgage $380,000 - 25 year at 4% is $2k a month : thus you would need to pay extra payments of almost 100K over 5 years to get to the same monthly payment

Which is why the drop in rates last year caused housing prices to go up so much. Try running your numbers into a mortgage amortization calculator and you'll get a better estimate. And also recheck your interest rate, from what I've been hearing, rates are back above 2% for mortgages.

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