Financial difficulties are no fun. They’re stressful, make life hard, and often there’s not much you can do to fix the situation without cutting back on your expenses or taking out (or working to pay off) a loan. But before you get yourself into even more trouble by borrowing money, it may be worth looking at the possibility that you’ve already got too much mortgage debt.
This article talks about concrete ways to determine you have too much mortgage debt. These are ratios used by professional financial lenders to qualify borrowers. They are incredible tools to assess your financial situation.
Your Gross Debt Service Ratio (GDS) is Above 30%
Gross Debt Service (GDS) is used to determine the percentage of your income going to housing costs. Mortgage lenders review this ratio when analyzing your creditworthiness. Although 39% is the absolute maximum to qualify for a mortgage in Canada, anything over 30% is still risky.
You can calculate this ratio by dividing your gross monthly income by monthly housing costs:
- Gross Income: Your income before any income taxes or deductions.
- Housing Costs: Includes mortgage payment, property taxes, heating costs. Additionally, half of any condo or homeowner fees if applicable.
A high GDS ratio might indicate that you have too much mortgage debt. You can reduce your mortgage payments to decrease your GDS ratio, suggesting looking for a cheaper property. Alternatively, you can attempt to boost your earnings.
Your Total Debt Service Ratio (TDS) is Above 40%
Total Debt Service Ratio (TDS) is different from GDS because it accounts for outstanding debt payments outside of your property. For example, you may have student debt or auto loans that you need to pay off every month. These payments are not housing costs, so they would not impact your GDS.
In Canada, the absolute maximum TDS is 44% to qualify for a mortgage. However, anything over 40% could mean you have too much mortgage debt.
Calculating TDS is similar to GDS; the only difference is adding your monthly debt payments to housing costs. To clarify, you divide your gross monthly income by your monthly debt payments and housing costs.
The easiest way to reduce a high TDS is by decreasing your mortgage payments. This can mean moving to a cheaper house or refinancing to a lower mortgage rate. Additionally, you can increase your income or pay off high-interest debt. This will enable you to prioritize paying off your mortgage debt.
You Can’t Afford a 2% Increase in Your Mortgage Rates
Stress testing is a requirement to obtain a new mortgage. However, it’s also a valuable tool to determine if you have too much mortgage debt. If a 2% increase in your mortgage rates sends your GDS and TDS into the danger zone, you should be cautious.
In Canada, most mortgage terms renew every five years. In an economic environment where interest rates are expected to rise, you could find yourself forced to renew your mortgage into a higher payment. If you already have too much mortgage debt, then the increased costs could send you into bankruptcy. It is best to use a mortgage calculator to see what your payments would increase to with a +2% interest rate. From here, use the new payment as an input into calculating your TDS and GDS. If the ratios are too high, then it could be a sign that you have too much mortgage debt.
3. You’re Using Credit Cards to Make up for the Difference Between Your Income and Mortgage Payments
Although this may seem like a short-term solution, you will quickly find yourself spiralling into more debt. Credit card APR is around 20%, whereas your mortgage interest rate is likely significantly lower. In any scenario, you will be paying far more in interest if you are paying off a credit card balance instead of a mortgage.
Additionally, your credit card payments are included when calculating your TDS. If the balance gets too high, it could prevent you from qualifying for another mortgage – even if you sell your house. There’s a danger that you’ll be required to sell your home and become trapped renting.
5. You’re Stressed About Your Debt, Or It’s Affecting Your Relationship
If you’re experiencing stress or anxiety due to your mortgage debt, this could indicate a more significant issue. For instance, you may be experiencing money problems that are affecting your relationship or health.
If this is the case, it’s best to speak with a professional about your mortgage debt situation. A financial planner can help you organize your finances and ensure you aren’t using credit cards to make up for any deficiencies in budgeting. Additionally, a relationship therapist can address money problems with your significant other.
Overall, keep an eye on your GDS and TDS ratios if you want to manage your mortgage debt properly. If they’re over the prescribed threshold, then it could cause problems down the line. If you’re experiencing any of these five signs, talk with a financial planner about how to reduce your high monthly payments and interest costs.