Federal Finance Minister Jim Flaherty assured reporters that "there is no bubble in the Canadian housing sector" recently, on a day when the Canadian Real Estate Association reported the first drop in average house prices since January 1999. But the government says it is taking a "responsible and measured approach to ensure Canada's housing market remains strong and to reduce the risk of a U.S.- style housing bubble developing in Canada."

The government will fix the maximum amortization period for new government-backed mortgages at 35 years, and will require a minimum down payment of five per cent on new mortgages. It will also require a consistent minimum credit score requirement, and introduce new loan documentation standards for those applying for a mortgage.

The rules are set to take effect on Oct. 15 of this year, and apply only to new mortgages that require government-backed mortgage insurance.

The insurance is currently required on all loans where the down payment is less than 20 per cent of the purchase price of the home. The insurance protects mortgage lenders from losses if the borrower defaults. The government's federal housing agency, Canada Mortgage and Housing Corp., is the largest provider of mortgage insurance in the country, but the government also backs private mortgage insurers.

It's speculated that the moves are intended to keep borrowers from getting in over their heads, but also to protect taxpayers from massive payouts on mortgage insurance policies.

Many of Canada's banks and financial institutions announced they would immediately stop selling 40-year amortization and no down payment mortgages, but other lenders are not so sure that the changes are necessary. The country's private mortgage insurance providers were to meet with government officials to see what they could offer consumers. One proposal would see a product in which the first 95 per cent of a mortgage would be insured by the government, with the remainder insured by the private insurers.

It's thought that companies will still be able to offer 40-year and zero-per-cent down mortgages, but without financial backing from the government.

Mike Averbach, founder of Averbach Mortgages in Vancouver, says Canada is not in danger of a housing crisis like that in the U.S., and his clients are asking for proof that the policy changes are necessary. "There are definitely groups that will be affected by the change," says Averback. "The 40-year amortization mortgage is a terrific benefit, especially for the self-employed who need the flexibility of minimum monthly payments." He predicts that a large number of homeowners will turn to private mortgage insurers "to take advantage of more flexible features because it's a better lifestyle fit."

Other critics have said that in the short term, the policy change may create a rush of people who want to lock into the high-risk mortgages before the Oct. 15 deadline. However, with many of the major lenders already backing away from these products, they will have to shop around.

The Canadian Association of Accredited Mortgage Professionals says that mortgage loans longer than 25 years represent about nine per cent of the market. The longer-term mortgages, which have only been available in Canada for a few years, were credited with helping to sustain the long housing boom that saw record sales levels until this year. Sales across the country have now cooled to more traditional levels, but in most parts of the country, prices continue to appreciate. Royal LePage predicts that average prices nationally will rise 3.5 per cent by the end of the year.

The recent report that showed a drop in average prices was a "headline grabber" but exaggerated the weakness in prices, says Douglas Porter of BMO Capital Markets. He says the decline "reflects that fact that sales have fallen so heavily in the most pricey cities in the country -- the median city in the country still reported a 6.8 per cent year-to-year price increase last month … ."

However, Porter says, "News that Canadian house prices are now in retreat is the latest skunk in the economy's summer picnic. While the small one-year drop overstates the weakness in prices, there is no debating that there is now a serious chill in Canada's housing market after a six-year boom. As we have opined on numerous occasions, an end of boom does not equal U.S.-style doom, but that may be small consolation for potential home sellers."

For buyers scrambling to qualify for a mortgage, it's going to be tougher to scrape up enough money for a down payment, but declining prices may help. On a $250,000 mortgage with a five per cent interest rate, the difference between monthly carrying costs on a 35-year amortization versus a 40-year loan is only about $55. However, interest savings over the length of the loan would amount to almost $50,000.

Published: July 22, 2008

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Jim Adair is editor of REM: Canada's Real Estate Magazine, a business publication for real estate agents and brokers. He has been writing about Canadian real estate, home building and renovation issues for more than 30 years. You can contact Jim at .