Purchasing a home is one of the biggest financial decisions you’ll make in your life, so it’s very important that you understand the process, terminology and your options as a borrower. There’s simply no substitute for being prepared, so take the time to educate yourself and gather the information you need to make the right mortgage decision with confidence.
This article will simplify the process, ensure you’re asking the right questions from the start and provide you with the insight you’ll need to better understand the mortgage process so you can find the perfect solution for you when the time comes to buy a home.
What Is A Mortgage?
Buying a home is always an investment. It’s likely that you won’t be walking through the doors of your dream home with cash in hand for the entire purchase price. What you are able to pay is a down payment, and to cover the remaining costs, you’ll need the help of a lender who can provide a loan to pay the rest, also commonly known as a mortgage.
Essentially, a mortgage is an agreement between you and your lender that outlines the details of the loan. It differs from other loans because it’s secured on a property like a house or condo, which means if payments aren’t made or conditions aren’t respected, the lender has the legal right to take your property.
What Should I Know When Getting A Mortgage?
Your term is the length of time your mortgage contract remains in effect. Terms can range from a few months to 5 years or longer. At the end of each term, you’ll be required to renew your mortgage if you can’t pay the remaining balance at that time. It’s likely that you’ll require multiple renewals before you’re able to pay off your mortgage entirely.
It’s important to note that the length of your mortgage term can have an impact on your interest rate, the type of interest rates you gave access to (fixed, variable, hybrid), the penalties you’ll have to pay if you break your mortgage and even how soon you’ll have to renew your agreement.
How Mortgages Are Calculated
The amount you’re borrowing from the lender is what’s called the principal, and it includes the purchase price of your home (minus the down payment) and the mortgage loan insurance if your down payment is less than 20% of the purchase price or if it’s simply required by your lender.
Lenders use different factors to determine your regular payment amount. Every time you make a mortgage payment, a portion goes toward the principal (as mentioned above) and another toward the interest (the fee you pay the lender for the loan).
The amortization period (amount of time it takes to pay off the loan) also affects mortgage payments. The longer the period, the lower your payments will be. But keep in mind that the longer you take to pay off the mortgage, the more interest you’ll pay in the long run. If your down payment is less than 20% of the purchase price of the home, the longest amortization period you can have is 25 years.
Your interest rate will also have an impact on your mortgage payment. The higher your rate, the higher your payments will be. Each time you renew your mortgage you’ll have the opportunity to renegotiate your interest rate so your payments could be higher or lower in the future.
When you apply for a mortgage your lender will offer you an interest rate which will depend on a multitude of factors including (but not limited to) the length of your mortgage term, your credit history and the type of interest you chose:
A fixed rate stays the same for the entire term. As such, it’s usually higher than a variable interest rate because it provides peace of mind with consistent payments throughout the term.
A variable interest rate can fluctuate throughout the term and is typically lower than a fixed rate. You have the option of keeping your payments the same for the duration of your term or opting for an adjustable payment which will adjust your monthly payments as the rate changes.
Choosing to combine them both is what’s called a hybrid rate. This means part of your mortgage will have a fixed rate and part will have a variable rate. The fixed portion will provide some form of protection in case the rates go up and the variable portion will provide some benefits if the rates fall. Keep in mind that this type of mortgage can be difficult to transfer between lenders.
Homeowners are required to pay property taxes and the amount you have to pay will depend on the value of your home and where you live geographically. Look into your options for paying these taxes as some financial institutions will do it for you.
Mortgage Payment Frequency
This simply refers to how often you choose to make mortgage payments. Whether it’s weekly, biweekly, monthly, semi-monthly, etc., you can choose a schedule that works best for you. Choose wisely as this can save you thousands, or even tens of thousands, of dollars in interest over the life of your mortgage.
Different Types Of Mortgages In Canada
There are plenty of options when it comes to mortgages in Canada. Before you make any final decisions, always make sure to compare rates to ensure you’re getting the most value possible.
If you’re looking to make large payments toward your mortgage or pay off the entire thing without penalties, then an open mortgage is the best choice for you because it offers maximum flexibility in exchange for some fluctuation in interest rates.
A closed mortgage means you’re committing to a predetermined interest rate over a specific period of time. With this option you can select a fixed or variable rate depending on your preference or specific needs.
This is a mortgage where the down payment is equal to 20% or more of the property’s purchase price/value. Normally this type of mortgage doesn’t require mortgage protection insurance.
A high-ratio mortgage is the opposite of conventional, where the borrower is contributing less than 20% of the purchase price/value as a down payment. These types of mortgages require mortgage default insurance through one of Canada’s mortgage insurance companies: Canada Mortgage and Housing Corporation (CMHC), Genworth Financial or Canada Guarantee.
Agreeing to a fixed rate mortgage means that your interest rate won’t change for the whole duration of your term. This means you won’t have any surprises if rates change because you’ll have the peace of mind that yours remains the same regardless. You’ll also know the exact payment you’ll have to make every month during your term so it’s easier to budget accordingly. If at the end of the term there’s still a balance and time left on your amortization period, the lender will typically offer you a renewal with the choice of a new term and whichever interest rate is available at that time.
Agreeing to a variable-rate mortgage means that your interest rate will fluctuate based on the bank’s prime lending rate and as a result, could vary from month to month. Your payment amount will remain the same even when interest rates change which means the amount being applied to your principal fluctuates instead. If interest rates drop, more of your mortgage payment is applied to the principal, if they increase, it’s less.
With an adjustable-rate mortgage, your payment will automatically adjust when there’s a change in the prime interest rate to make sure enough money is paid toward the principal amount to have the mortgage paid off by the end of your amortization period. Regardless of whether your lender calls it variable or adjustable, it’s important to know in advance if the payment will automatically change or remain the same when the interest rate changes. This is typically an option for homeowners who think the current interest rates are high and will drop lower soon.
Home Equity Lines Of Credit (HELOC)
A home equity line of credit (HELOC) is secured by your home and can be used to do things like consolidate debt, have other debts backed by your home or give you payment flexibility. When you take out a HELOC, you can either choose a standalone HELOC or a readvanceable mortgage, which is a combination of a HELOC and a fully amortizing fixed-rate mortgage. Learn more about your HELOC options and how it may help with your mortgage.
What Type Of Mortgage Should I Get?
Whether you’re refinancing your mortgage, renewing your mortgage or applying for the first time, there is no right or wrong answer in terms of which mortgage is best for you. Do your homework, have a solid grasp on your financial situation, assess your needs and seek advice from a professional to better understand your options.
When it comes to buying a home, there’s a lot to learn and mortgages are just the start. But creating a solid foundation through learning and understanding, will ensure that no matter what home you decide to buy and how, you’re prepared and confident with your decision.