Canadians may be naïve about interest rates

The past decade of relatively cheap — or at times, free — money appears to have had an impact on the mindset of Canadian home buying and retirement plans.

The age of ultra-low interest rates is bound to end eventually, though, and many Canadians may be underestimating the impact that shift will have.

A study released last week by Investors Group suggests that many Canadian mortgage-holders are not especially worried about the impact of rising mortgage rates. More than 4.8 million Canadian adults hold a mortgage, according to Statistics Canada.

Just over one third (35%) said they were not worried about being able to make their payments if their mortgage rate increases, while 41% said they wouldn’t lose sleep over anything less than a 300 basis point increase.

“People need to plan for the impact of interest rate increases, which can affect their ability to save or enjoy retirement,” said Peter Veselinovich, vice-president, banking and mortgage operations at Investors Group.

The Investors Group poll found the median outstanding mortgage balance is roughly $130,000. Assuming a 25 year amortization and an interest rate of 4.5%, an additional 300 basis points would cost the mortgage-holder about $230 more per month, and add $70,000 in interest costs over the life of the mortgage.

The Bank of Canada left its trendsetting rate in place at 0.25% last week, but language in its statement suggested that rate hikes could come sooner than people think.

Most banks raised their mortgage rates mid-April and a second round of rate hikes could be getting underway, as RBC announced another increase on Monday. In April alone, the bank has added 40 basis points across the board.

In the past, being debt-free was often the cornerstone of a retirement plan, but attitudes toward debt appear to have changed.

The poll found 62% of respondents plan to carry their some kind of debt into retirement, or have already done so. Within this group, about half said their mortgage made up the bulk of their debt.

Twenty three percent of pre-retirement mortgage holders said they expected to retire with no more than $25,000 in outstanding mortgage debt, but the median balance among retirees is $82,000.

“The road to being mortgage-free is paved with good intentions, but twists and turns along the way can make the trip longer than you’d planned,” said Veselinovich. “Having a strong plan in place is essential to achieving your goal.”

Another poll by RBC found Canadians are increasingly entering retirement with mortgage or credit debt.

The bank’s first Retirement Myths and Realities poll finds 39% of Canadians over the age of 50 with assets of at least $100,000, retired with some form of debt. A further 22% entered retirement with a mortgage on their primary residence.

While most retirees polled (70%) feel that it is still important to be able to save part of their income, more than one-quarter (28%) have acquired new credit products since they retired.

However, this trend is not necessarily negative development, explains Lee Anne Davies, head of retirement strategies with RBC.

“Having access to credit in retirement can be beneficial to managing income and cash flow and provide additional flexibility,” she says. “To help make your retirement dreams a reality, our advice is to start early and prepare a comprehensive financial action plan that will keep you focused on paying down debt and saving, as well as establishing a budget for both your pre- and post-retirement years.”

Inflation and taxes rank as top concerns for retirees, with 35% worried that inflation will hobble their retirement income, compared to 43% of pre-retirees. Sixty-two percent worry about taxes on their income, with two-thirds (66%) believing the percentage of their income required for taxes will rise in the next 10 years.

(04/26/10)