Beat the 32 per cent rule in real estate

Mortgage lenders have loads of rules they must follow from government policies around borrowing limits to their internal risk management frameworks that protect their institutions from a borrower defaulting on their loan (i.e. not paying it back). But, one rule in particular has stood the test of time and is the reason you may or may not qualify for the mortgage amount your really want – the rule of 32 per cent.

The rule is simply that the cost of your housing can’t add up to be more than 32 per cent of your gross income (before taxes) each month. That includes your mortgage payment, property taxes, heat, and half of your condo fees (if applicable).

When the bank takes ALL of your debt into that same equation, it can’t add up to more than 40 per cent of your gross income.

Rules in action

What do these ratios really mean if you’re buying a property? We like to use the affordability calculator available on CMHC to see the 32 per cent and 40 per cent rules in action. Here are two scenarios (Scenario 2 has higher monthly debt compared to Scenario 1):

Scenario 1 Scenario 2
Gross Income (monthly) $8,000 $8,000
Debt Payments (monthly) $500 $1,000
Condo Fees (monthly) $500 $500
Property Taxes (monthly) $250 $250
Heating Costs (monthly) $100 $100
Down Payment (lump sum) $50,000 $50,000
Mortgage Interest Rate (%) 2.75 2.75
Amortization (years) 25 25
Maximum Mortgage $425,614 $347,440
Maximum House Price $475,614 $397,440
Maximum Monthly Mortgage Payment $1,960 $1,600
Loan Default Insurance* $13,194 $10,770

*When you have less than 20 per cent down payment, you must have loan insurance.

The table above showcases the maximum borrowing limits for a household that makes a gross income of $8,000 per month. In other words, these scenarios show borrowing to the maximum of the 32 and 40 per cent lending rules.

Breaking the rules

Well, you can’t break these rules. But, you can beat them.

Besides rethinking the price of the house you’re interested in buying, there are really only two factors that you can control to increase your borrowing limit – your household income and your debt.

Increasing your income can include activities like landing a higher paying job, getting a second job, sending your spouse back to work if they’ve been on a leave, or generating regular income from your investments.

Decreasing your debts is another powerful option. If you hustle to pay them off, you’re purchase power jumps up in a massive way. So, focus on the highest interest debt first and pay extra whenever you can. This might also mean selling your car or other possessions.

And of course, if you want to take more time to save up a larger down payment, that will bump up the purchase price you can afford. You may also want to ask your family for a little financial help or early inheritance.

For step by step tips on the home buying process in Canada, we love CMHC’s home buying guide.