Buying a home is no small task, nor a decision to be taken lightly. One of the most important aspects to consider when looking for your new home is a mortgage. Which is exactly what brought us (and yourself) to this blog post. By the end of this you will have a better understanding of what a mortgage is, everything that you need to know from starting to shop to after your home closes, and definitions of terms using through the process. For the information in this article, we had Nadine Taylor from Dominion Lending help us out with the fine details.
Let’s start with the basics, what is a mortgage? Simply put, a mortgage is an agreement between you (a borrower) & a mortgage lender to buy or refinance a home without cash up front. A lender may be a Mortgage Broker, Private Lending Company, or a bank.
Are there different types of mortgages? Yes, there are two common types of mortgages:
Fixed Interest Rate Mortgage – A mortgage with a locked-in interest rate, meaning it won’t change during the term of the mortgage.
Variable Interest Rate Mortgage – A mortgage where the interest rate fluctuates based on the current market conditions. The payments will generally remain the same, but the amount of each payment that goes toward the principal or the interest on the loan changes as interest rates fluctuate.
Which type of mortgage is the better option? It truly all depends on your own personal finances. When speaking to a lender they test all options with your personal financial structures to provide you with guidance on which is the right fit with you.
One of the most important factors in home ownership is understanding your budget and determining how much you can afford to ensure you find the perfect home in your price range. There are additional costs on top of your mortgage payment, it’s best to make sure that you are not spreading yourself too thinly. Before beginning your search for your new home, it’s best practice to get a Pre-Approval from a lender. Getting a Pre-Approval helps to avoid wasting time looking at homes outside of your budget, shows sellers a level of seriousness when placing an offer on their home, and locks you into the current mortgage rate for up to 120 days. Bring the following information when speaking with your lender for a Pre-Approval – Contact information for your employer and your employment history (such as a T4 or recent paystub), Proof of Address, Government-issues photo ID with your current address, Proof of Income for your mortgage application, Proof of Down Payment (amount and source), Proof of Savings and Investments, and details of current debts & other financial obligations.
Next is to understand your Down Payment options. A Down Payment is the amount of money you need to put down on your new home. The ideal down payment for purchasing a home is 20%. However, if you have less than 20%, you must account for Default Insurance (we will talk about that next). If the purchase price is less than $500,000 the minimum down payment is 5%. If the purchase price is between $500,000 and $999,999, the minimum down payment is 5% of the first $500,000, and 10% of any amount over $500,000. For properties valued over $1M, you must have a minimum down-payment of 20%. If your down payment comes from a savings account, TFSA or RRSP, the bank will want 90 days of statements to ensure the funds are accounted for.
Pro Tip from Nadine: Allow approximately 32% of your household monthly income before deductions to cover your monthly mortgage payment (including property taxes, heating costs and half of any maintenance fees).
Mortgage Default Insurance
Alright, if you’re still asking what Mortgage Default Insurance is, here’s the answer: Mortgage Default Insurance is designed to protect the lenders from any losses should there ever be a foreclosure. As we mentioned above, purchasing a home with less than 20% down means you will need Default Insurance. It is calculated based on your loan-to-value ratio (mortgage loan amount divided by the purchase price). The insurance premium is typically added to your regular mortgage payment meaning there are no out of pocket expenses. If you prefer, the premium can also be paid as a single lump sum.
We cannot forget about the Closing Costs of buying a home either. The following is a list of closing costs to help you calculate the true expense of purchasing your new home.
- Land Transfer Tax – A tax that is charged whenever a property is purchased. These taxes vary by province, but the average is 1% for the first $200,000, 1.5-2% for $200,000 up to $2 million, and 2.5-3% for over $2 million.
- GST/HST – This tax is only charged on brand new homes or substantially renovated homes. If a property is valued at $450,000 or less, and we be your primary residence, you may be eligible for a partial rebate but certain conditions apply.
- Legal Fees – Your lawyer/notary will charge you a fee for drafting up the mortgage and conveyance of title. Your lawyer/notary will also conduct a property title search to examine public records on the property and confirm the property’s rightful legal owner. The amount of the fee will depend on the individual you use, although the typical cost is $1,500 which includes Land Title Registration, Title Insurance, courier fees, etc.
- Survey – If you’re purchasing a single-family home, you’ll need to give your lender a survey certificate showing where the property sits within the property lines. A survey will cost approximately $350, but the lender will often accept a copy of an existing survey.
- Property Taxes – Something that most buyers don’t take into consideration is the property tax balance you will be responsible for upon closing. The amount varies based on location and time of closing; however, a good rule of thumb is that if you take possession halfway through the year, you would be expected to pay 50% of the taxes for the year upfront. This is included in the final amount owing when you sign your documents with the lawyer/notary.
- Condo/Strata Fees – Only applicable if you are purchasing a condo, townhouse or another property with condo/strata fees that you will need to account for your portion during the month of possession. For example, if your monthly amount is $304.65 and you close four days prior to the end of the month, you would owe $39.31.
Download the Closing Cost Worksheet provided by Nadine Taylor to calculate your closing costs today!
Once you have finished signing your mortgage paperwork and receiving the keys to your new home, there are a few things we like for you to keep in mind to protect your investment and ensure financial success.
- You want to be sure you are maintaining your home and protecting your investment, it’s up to you ensure that it sustains its value. This also includes planning for the costs of operating a home – be sure to set aside maintenance and repair costs in case anything was to ever happen. We suggest setting aside an emergency fund of about 5% of your income every year so you’ll be prepared to deal with unexpected expenses.
- Make sure that your mortgage is paid on time. Late or missed payments may result in charges or penalties, and they can negatively affect your credit rating.
- Prepare a monthly budget and live within it. Take a few minutes every month to check your spending and see if you’re meeting your financial goals.
Glossary Of Terms
Lastly, let’s cover a list of terms that you might come across in your mortgage journey:
- Amortization: The period of time required to completely pay off a mortgage is all conditions are met and all payments are made on time.
- Appraisal: An estimate of the current market value of a home.
- Appreciation: An increase in the value of a home or other possession from the time it was purchased.
- Closed Mortgage: A mortgage that can’t normally be paid off or renegotiated before the end of the term without the lender’s permission and a financial penalty. Some closed mortgages allow for extra or accelerated payments, but only is specified in the mortgage agreement.
- Closing Date: The date when the sale of the property becomes final and the new owner takes possession of the home.
- Conventional Mortgage: A mortgage loan equal to or less then 80% of the value of a property (that is, where the down payment is at least 20%). Conventional mortgages don’t usually require mortgage loan insurance.
- Default: Failing to make a mortgage payment on time or to otherwise abide by the terms of a mortgage loan agreement. If borrowers’ default on their mortgage payments, their lender can charge them a penalty or even take legal action to take possession of their home.
- Default Insurance: This insurance protects the lender in the event that the borrower defaults on their mortgage.
- Equity: The cash value that a homeowner has in their home after subtracting the amount of the mortgage or other debts owed on the property. Equity usually increases over time as the mortgage loan is gradually paid. Changes in overall market values or improvements to a home can also affect the value of the equity.
- Fixed Interest Rate Mortgage: A mortgage with a locked-in interest rate, meaning it won’t change during the term of the mortgage.
- Gross Debt Service (GDS) Ratio: The percentage of a person or household’s gross monthly income that goes to pay the mortgage principal and interest, property taxes and heating costs, plus 50% of any condominium maintenance fees or 100% of the annual site lease for leasehold tenure if applicable. To qualify for a mortgage, the borrower’s GDS ratio must be at or below 35 or 39% (depending on the lender).
- High-Ratio Mortgage – A mortgage loan for more than 80% of the value of a property (that is, where the down payment is less than 20%). A high-ratio mortgage usually has to be insured against default with mortgage loan insurance provided by CMHC or a private company.
- Home Inspection: A thorough examination and assessment of a home’s state and condition by a qualified professional. The examination includes the home’s structural, mechanical and electrical systems.
- Land Transfer Tax: A tax charged by many provinces and municipalities (usually a percentage of the purchase price) that the buyer must pay upon closing.
- Maturity Date: The last day of the term of a mortgage. The mortgage loan must either be paid in full, renegotiated or renewed on this day.
- Mortgage Life Insurance: Protects the family of a borrower by paying off the mortgage if the borrower dies.
- Mortgage Term: The length of time that the conditions of a mortgage, such as the interest rate and payment schedule, are in effect. At the end of the term, the mortgage loan must either be paid in full, renewed or renegotiated, usually with new conditions.
- Open Mortgage: A flexible mortgage loan that lets the borrower pay off or renegotiate their loan at any time, without having to pay penalties. Because of this flexibility, open mortgages usually have a higher interest rate than closed mortgages.
- PITH – An acronym that stands for mortgage “Principal and Interest Payments, Property Taxes and Heating Costs”. All the main costs paid by a homeowner on a monthly basis.
- Pre-Payment Penalty – A fee charged by your lender if you pay more money on your mortgage than the pre-payment option allows.
- Pre-Payment Privileges – The ability to prepay a portion of the mortgage principal before it is due and without penalty. This extra payment on the mortgage would be applied directly to the principal, as your regularly monthly payment covers the interest.
- Principal: The amount a person borrows for a loan (not including the interest).
- Property Taxes: These are taxes that are charged by the municipality based on the value of the home. In some cases, the lender will collect property taxes as part of the borrower’s mortgage payments and then pay the taxes to the municipality on the borrower’s behalf.
- Title Insurance: Protects against losses or damages that could occur because of anything that affects the title to a property (for example, a defect in the title or any liens, encumbrances or servitudes registered against the legal title to a home).
- Total Debt Service (TDS) Ratio – The percentage of a person or household’s gross monthly income that goes to pay the mortgage principal and interest, property taxes and heating costs, plus all other debt obligations such as car payments, personal loans, or credit card debt. To qualify for a mortgage, the borrower’s TDS ratio must be at or below 42 or 44% (depending on the lender).
- Variable Interest Rate Mortgage – A mortgage where the interest rate fluctuates based on the current market conditions. The payments will generally remain the same, but the amount of each payment that goes toward the principal or the interest on the loan changes as interest rates fluctuate.
- Vendor – The seller of a property.
- Vendor Take-Back Mortgage – A type of mortgage where the seller, not a bank or other financial institution, finances the mortgage loan for the buyer.
That’s all we have for you right now, congratulations on looking to buy or successfully purchasing your own home! If you have any questions, or are wanting more information, please feel free to reach out to Nadine or us and we would be more than happy to help!