Stress-testing your finances

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The Office of the Superintendent of Financial Institutions (OSFI) implemented a new mortgage rule that will come into effect on January 1st 2018.

Any mortgage applicant will have to be put to a financial stress-test, regardless of the down-payment amount. Same goes for renewal and refinancing, unless the lender is the same.

Initially, only high-ratio mortgages were subject to said test, i.e. mortgages with less than 20% down.

Basically, borrowers will need to qualify for a mortgage at a rate 2% higher than the rate they are actually getting or at the 5-year Canadian benchmark rate, whichever is greater.

This measure is put in place to ensure Canadians do not buy properties that they ultimately can’t afford to pay for. We also are in a rising-rate environment, after 7 years of stagnation….and household debt is at an all time high.

Canadians will qualify for lesser amounts, and personally I think it is a good thing.

stress-testing our personal finances is always a good idea

Life is never a straight line. Sometimes, shit happens; things don’t go according to plan. Suddenly, we are out of a job; or we are involved in a car accident.

So, what do we stress-test our finances? Let’s take a look at a few items.

liquidity 

How liquid are you? if something bad happens, you will most likely need some cash right away.

If you are sick, you will probably need to pay for your medication before submitting an expense claim. If you apply for E.I. benefits after being let go, there is a one-week waiting period. It will take 2 to 3 weeks before money is actually deposited in your bank account.

And no, a credit card is not considered as liquidity! Sure, you can charge expenses to it and earn rewards, but at some point, you will have to pay the credit card company back.

Your house and RRSP are not liquid either. It will take weeks, if not months to liquidate these.

insurance

Having adequate insurance coverage can be a life-saver and may avoid you bankruptcy or foreclosure on your home. I wrote this article a while back. Use it to assess whether you have sufficient coverage (shameful plug, I know!).

mandatory expenses

These include shelter, food, debt repayment at the very minimum. Depending on your situation, you will probably have more categories such as transportation and/or various insurance policies.

Don’t think for one second you will be able to skip these. Vacation and entertainment, however, can -and should- be put on hold. This is the basis of your bare-bones budget.

net worth

In extreme circumstances, you may have to sell all your assets to pay for what you owe or to avoid becoming homeless. Your net worth equals all your assets minus all your liabilities.

if after doing the math, you don’t have anything left, or you owe more than you own, you have a problem. Having some net worth is another good safety net.

Final word

Everyone should stress-test their finances at least once a year. Review your savings amount and allocation; review your insurance coverage; live on a bare-bones budget for a month. You don’t need to wait for an emergency to do so.

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