Mortgage defaults could rise by more than a third from current levels in the coming year as pandemic-related support measures have largely ended and the cost of living continues to rise, a recent RBC report warns.

The bank forecasts that the household debt-to-GDP ratio could rise by more than a percentage point over the next year to a historic high of 15.5 percent by the fourth quarter of 2024. And consumer bankruptcies could increase by nearly 30 percent over the next three years, returning to pre-pandemic levels and likely to remain on an upward trend.

“What we’ve seen over the past year has been a significant rise in interest rates, which has had a direct impact on adjustable-rate and fixed-rate mortgage holders looking to extend their terms in the years to come,” said Robert Hogue, RBC senior economist and co-author of the report . “There will be a significant impact on these households.”

Financial institutions are “watching” homeowners who bought a property between late 2020 and early 2022, when the market peaked and interest rates bottomed. Many will roll over between 2025 and 2027, Hogue added, and could face significant financial pressure at higher rates.

Pandemic relief programs like CERB didn’t stop Canadians from racking up more debt. The housing boom put mortgage debt on a “fast track” so that by the end of 2021, Canadian household debt-to-income ratios had exceeded pre-pandemic levels and have remained elevated since then, the report said.

However, the proportion of arrears on mortgages has not increased significantly, Hogue said.

“Households have been stress tested so that the majority can cope with the rise in interest rates,” he said. “Most won’t end up in default or bankruptcy.” In a stress test, buyers must demonstrate that they can afford a mortgage rate two percent above the qualifying mortgage rate.

However, the number of consumers who are more than 90 days late on their debt service payments has risen for installment loans (typically for one-off purposes like home renovations, unexpected emergencies and debt consolidation), credit cards, auto loans and more recently, lines of credit, the report added .

The biggest unknown next year that could have a dramatic impact on arrears is unemployment.

The bank is forecasting a “moderate contraction” for Canada’s economy, which would result in job losses. The report expects the national unemployment rate to rise from the current five percent to 6.6 percent by the first quarter of 2024.

“Employment is really the biggest factor because as long as people have jobs most households will be fine and we’ve been surprised by the strength of employment so far,” said Philip Cross, senior fellow at the Macdonald-Laurier Institute and former chief economic Analyst at Statistics Canada.

“Defaults and bankruptcies have not increased too much and even if they increase by another third, we will only be at pre-pandemic levels. But how long can it take?”

There is still confusion about how much debt and savings households have, Cross said, making it difficult to predict how long households will be able to absorb rate hikes.

“Households must have saved far more than they wanted to insure themselves against rising interest rates,” he added. “We really don’t have a clear picture of household finances.” People who rely on savings, Cross added, are in a vulnerable position when it comes to making debt payments.

And there has been a noticeable increase in foreclosures in the private lending space, but not in big banks, where potential homebuyers are subjected to stress tests.

“Things have been holding together pretty well so far,” Cross said. “But households are under a lot of stress and we have seen more stress in the banking system lately. At some point something has to happen. We cannot continue on this path forever.”

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