Variable rate mortgages in Canada typically require borrowers to make regular payments in fixed amounts. So if interest rates rise, a greater share of the payment goes toward paying interest on the loan rather than paying down the principal, thereby extending the amortization period.
Negative amortization is a situation in which borrowers are adding to the principal and occurs when interest rates climb as high as the trigger rate. That's the rate at which interest on the loan exceeds the fixed payment. The Bank of Canada's surprise 25 basis-point interest rate hike this month and additional tightening expected either in July or September are likely to push more borrowers above their trigger rate.HOW UNIQUE IS THE SITUATION IN CANADA?
Variable rate loans account for one-third of the roughly C$1.5 trillion in outstanding residential mortgages held by Canadian banks, up from 18% before the start of the COVID-19 pandemic, data from Statistics Canada shows. Unlike in the United States, where home buyers can lock into a 30-year mortgage, the typical fixed-rate mortgage in Canada renews in five years or less, so that home buyers renew more frequently and have greater exposure to the prevailing market rate.Desjardins analyst Royce Mendes estimates that more than 20% of the mortgage portfolio of the big six Canadian banks had a repayment period greater than 30 years in the first quarter, up from roughly 2% one year ago.