As mentioned in my website’s description, this blog is meant to be a home for the mostly developer thoughts that I have… mostly! So today, I’m taking a break from tech and I’m going to be talking about mortgages in Canada.
First and foremost, we should give a definition for the word mortgage. This was pulled directly from Investopedia.
A mortgage is a loan that the borrower uses to purchase or maintain a home or other form of real estate and agrees to pay back over time, typically in a series of regular payments. The property serves as collateral to secure the loan.
Key Terms
We need to establish some key terms and definitions if we’re gonna even start to talk about mortgages.
Amortization
This is the amount of time it would take for you to pay your mortgage down to a zero balance assuming equal payments. The most common amortization is 25 years, however with a down payment or equity position of 20% or more, you can go as high as 30 years
Fixed Rate Mortgage
This is a mortgage where the interest rate and the payment you’ll be making are fixed for the term of your mortgage agreement. Regardless of what the market does, your payments will not change. Preferable to people who are more risk averse.
Variable Rate Mortgage
Unlike a fixed rate mortgage, the payments/interest rate for this mortgage can vary based on the prime rate set on variable mortgages. The Prime Rate is set by the Bank of Canada.
Open Vs Closed Mortgage
An open mortgage lets you pay off the entire mortgage at any time during the term without incurring any penalities. Quite rare as these carry higher interest rates than closed mortgages. These are most often used when your maturity date is approaching and you have not yet re-signed with your current lender. Usually happens when the borrower wants to switch lenders but didn’t start the process until last minute (shame shame!).
If you’re looking to switch lenders and your maturity date is coming up, ASK YOUR LENDER and verify that they will throw you into an open mortgage otherwise you’ll have to pay fees for breaking your closed mortgage. Some lenders will automatically throw you into a closed mortgage if they don’t hear from you; the jerks.
Home Equity Line of Credit (Heloc)
This is the most common form of open mortgage. A HELOC can go up to 65% loan to value. These work like any other line of credit (you can pay as much as you want toward it or pay only the interest for the month). Sounds great, but the caveat with these is that they generally carry a higher interest rate than something like a fixed/variable rate mortgage. They’re usually a percent higher than the other two.
Preapproval
This is basically going to a lender and finding out how much of a loan you qualify for. Most realtors won’t even go around and show you listings until you’ve done this step since it’s unknown how much financing you’ll be able to rally.
Things that impact your chances of approval include but are not limited to:
- Thin credit
- Probationary employment
- Insufficient employment history
- Self-employed status
Stress Test
Essentially, in order to protect borrowers from changing interests rate, the Government of Canada created the idea of a stress test. Rather than using the lenders rate to determine how much an individual would qualify for in regards to a mortgage, a benchmark rate (which is generally quite a bit higher than the lenders rate) is used to determine the borrower’s qualifying amount.
Insurable/Uninsurable
In order to protect the lender, there is something called mortgage default insurance. If you’re unable to pay back your mortgage, this would make sure that the lender wouldn’t be up a creek. An insurable mortgage would be needed when the borrower didn’t have the 20% needed for the down payment. Your mortgage is uninsurable mortgage if:
- The house purchase price is over 1 million.
- The amortization period is greater than 25 years.
- If it’s going to be a rental.
- If you’re wanting to refinance existing mortgages.
Choosing the Right Mortgage for You
When it comes to choosing a mortgage term and deciding if you’re wanting a fixed/variable interest rate, it really comes down to what level of risk you can tolerate and what your goals are for the future. If you’re planning on moving into a place and then leaving within three years (like a friend of mine), it would make no sense to do a five year fixed rate mortgage because all fixed rate mortgages are closed and therefore would result in a penalty fee for breaking the mortgage agreement before the term date.
In the scenario above, it would make more sense for my friend to sign up for an open mortgage (like a HELOC or variable rate) with a term of less than or equal to three years. A good broker or mortgage analyst will listen to you and listen to your story before suggesting any type of mortgage but you should keep in mind that most people in this world are out for their own self interest. With that in mind, remember that even if the broker/analyst is pushing you to sign up for a five year fixed rate mortgage, realize that they might be doing it because five year terms are more profitable for banks and brokers and that 10 year terms are even more profitable than five year terms.
So how would one go about deciding if they wanted a fixed rate or variable rate mortgage? Well, it really comes down to (like a lot of this) one’s own comfort with risk. If you’re looking for a consistent price for the entirety of your term because you’re someone who wants to know exactly how much something is going to cost and you’re not comfortable with the chance of the price increasing, I would suggest a fixed rate. If you’re someone who doesn’t mind the chance that there possibly could be an increase or decrease in your payments, go with variable.
When deciding to go with variable though, always consider the spread (the difference) between the fixed and variable rates. The thinner the spread the more risk associated with going with variable. I, for one, don’t mind variable or fixed since a slight increase in my payments doesn’t really affect my overall mood/disposition but I’d of course look at the spread before making any kind of decision. If the spread is only .1%, you can bet your ass that I’m going to go with a fixed rate mortgage and locking in that interest rate.
Another common question is: how do I pick my amortization period? While it’s true that a shorter period will result in you paying less interest, this will also increase the overall cost of your payments for your term. If you’re not sure if you want to do 30 or 25 year, I would say go with the 30 year and if possible (this depends on your agreement), making payments as if it were a 25 year amortization period. You can always pay more but you sure as hell can’t pay less for your mortgage.
Choosing a Lender
You don’t have to just go with the bank. There’s also credit unions and monoline lenders. There’s zero risk associated with getting a mortgage through a non-bank (don’t let the lack of advertising scare you).
Banks
I bank with TD so it makes sense that I should go with TD for my mortgage? TD and I have a history and they have my back, right? Yeah… no, they don’t. Like I said earlier, everyone is out for their own self-interest and therefore, even though I’ve got a history with TD, that doesn’t mean they’ll tell me about an awesome rate that’s available to me… at SCOTIABANK.
Some people would argue that it would make sense to go with TD since they have all my info already; it’s convenient. I wouldn’t have to put together a list of different forms needed for the loan approval since they have half the info they need already; I can just open my TD app to see how much I owe for my mortgage, eliminating the need to download another app as opposed to if I went with a different lender; and TD has brand recognition… I can trust them.
While the reasons I mentioned above are valid reasons, I don’t think they’re valid reasons for paying upwards of thousands of dollars for my mortgage agreement. Big banks like TD tend to have higher interest rates, limited products, hella biased advice, higher penalities for breaking agreements, and limited branch hours.
Credit Unions
So prior to reading this book about mortgages, I didn’t really know much about credit unions (I still don’t lol). What I do know is that credit unions are local and never extend outside of their province of business. For example, Vancity is BC based and Servus operates in Alberta. These guys are similar to banks in that they offer branches to do business, offer services like chequings accounts, RRSPS, credit cards, and obviously mortgages. They’re member based, non profit organizations (membership is usually only like a dollar depending on the union).
The benefits of credit unions are that they are provincially regulated, require membership, offer flexibility, and have branches available to access. Because credit unions are provincially regulated, credit unions are not obligated to have a borrower pass the stress test in order to qualify for a mortgage so if the stress test is blocking you from getting a mortgage, try going with a credit union (True for smaller credit unions but larger unions probably will go based on federal guidelines). As a member, you’re given a small share and this lets you share in profits (not a lot but hey, it’s something) and moreover, the membership gives you a voice and the right to vote in selecting a board of directors. The flexibility I refer to has to do with that these guys can hook you up with vacant land and farms as well as homes 😊.
The drawbacks to these guys is that they’re locked down by geography. If you wanted to move to somewhere further up, you wouldn’t potentially be able to deal with these guys anymore. You’re required to become a member which might not be something you want to do. If banks have the convenience of having all your info in one spot, if you don’t deal with a credit union on the day to day, you’d have to install a new app and manage your mortgage outside of your normal banking. Moreover, you might not be able to switch your mortgage over easily as there are some lenders that won’t accept switches from credit unions.
Monoline Lenders
These guys deal with one thing and one thing only: mortgages. Unlike banks and credit unions, they don’t fuck around with RRSPs, chequings accounts, or even TFSAs… mortgages are their game. This can be nice so that you don’t have people (like at TD or RBC) trying to convince you to get sign up for a damn mutual fund when you’re trying to see how much you’re approved for.
Some known mononline lenders are: First National, MCAP, and CMLS Financial.
These guys are great because they tend to have lower rates, have lower penalities for breaking agreements, specialize in one thing only, and won’t try to do a post-closing sales pitch (I don’t want to have a mutual fund with you, fuck off… I do DIY investing).
The disadvantages to these guys is that they have no branches for you to go visit. Face to face contact isn’t a thing here. There’s no brand recognition. If you’re like me you’ve never ever heard of monoline lenders until just recently. And finally, and this is is a deal-breaker their mortgages are bulk insured. Being bulk insured fucks you in the scenario where your home price is over 1 million or if you’re wanting an amortization period of over 25 years. If you’re looking to buy a condo or something in Vancouver, these guys are a viable option but if you’re like me and looking for a fucking home, no way in hell are these guys a viable option.
Who’s Taking Care of Your Mortgage?
While it’s important to know what lender options exist, what’s more important is knowing the person that’s setting up your mortgage for you. Talk to a broker and try out a bank specialist and see. The name of the game when it comes to mortgages (like most big purchases) is to shop around.
Mortgage Broker
What is a mortgage broker? A broker doesn’t represent any one specific financial institution; they represent many. What’s a mortgage specialist? Someone who probably works at the bank and isn’t able to offer you mortgage products from any other institution other than his own.
The benefits of dealing with a broker, at least in theory, are that they’re able to provide you more options than a specialist at a bank, they in theory offer unbiased advice, convenience, free service (they get their money from the lender), they’re licensed, and they’re easily accessible. Most brokers tend to work with 10 lenders per year and have access to up to or more than 30 lenders (this is great!).
Because the broker isn’t owned/working for a particular institution, the advice they give you should be unbiased. I say should because the broker might have an agreement or some sort of system where they get major perks for sending business to one lender over another (their own self interest rearing its ugly head) and so their advice isn’t necessarily unbiased. Always analyze and question why a broker is offering one product over another.
Does this mean always go with a broker? Fuck no dude. There are cons with going with a broker. For example, brokers don’t have access to lenders such as BMO, CIBC, and RBC; you’ll have to talk to them yourself. Brokers also tend to have limited options for HELOCs so be careful of that and there’s no other point of contact other than the broker themselves. When dealing with a bank or credit union, you can rest easy knowing someone at the bank/union will be able to pick up your file and at least give you some info about your mortgage should such an occasion arise but since a broker is a one man show, if they go on vacation and you need a question answered, you could potentially be up a creek without a paddle. A good broker would set up another point of contact at his or her brokerage prior to going on vacation but not everyone is a good broker.
Bank Mortgage Specialist
The pros to dealing with these guys is that they enable face to face contact and are conveniently available (they’re at the damn branch most of the time). Moreover, if you want to talk to someone else, that option is also available to you.
The cons to these folks is that there limited by branch hours (generally), they are limited to the products which their firm offers, they aren’t licensed, and they’re limited in their options if you don’t qualify.
Questions to Ask a Broker/Analyst so You Don’t Get Fucked around
- How long have you been doing this for?
- Do you do this full or part time? (We don’t want someone who dabbles in mortgages dealing with such a huge investment)
- Do you have any references?
- What kind of education do you have? (Not having a license/education isn’t a deal-breaker since experience is the best teacher but it doesn’t hurt to ask)
- How easy are you to get a hold of? How quickly do you reply to emails/calls?
- What hours are you available?
- How do you get most of your business? (Ideally it’s from referrals)
- How are fixed mortgages determined? (Keep em on their toes lol. The answer is bond yields)
- Do you do anything else at the branch other than mortgages? (Only ask this if you go with a bank/credit union. It’s like the part time question above)
- What have you done with your own mortgage? (This will tell you a lot about this person — their aversion to risk etc.)
- How many different lenders have you deal with this year? (This is for brokers. The big benefit to these dudes is their network. If they’re going to only one lender, that’s hella sus).
Things to Keep in Mind
Prep for Your Meeting
Prep yourself with knowledge! Read up on mortgages (like I have). Realize that there are four components to a mortgage qualification: Down payment, credit, income, and debt.
You’re going to need statements for the past 90 days (account statements from your bank/for your credit cards), your investments (RRSPs and TFSAs), and if you’re working for someone, a letter of employment. You’ll also need your T4s for the year as well. Getting all these documents together should take only about an hour; don’t let it discourage you!
What Banks Might Not Tell You
So one thing that you need to keep in mind is the concept of a standard charge mortgage and a collateral charge mortgage. A standard charge mortgage will allow you to switch to a different lender at the end of your term with all legal and appraisal costs covered for you. The only thing we would have to deal with is the discharge fee from our current lender (usually around $300). The discharge fee usually gets covered by your new lender so no big deal there. Most mortgages are registered as standard charge.
Collateral charge mortgages typically can’t be switched with costs covered for us at the end of our terms. Changing lenders would involve a refinance, which is slightly different. We’ll have to pay legal fees to register a new mortgage and probably appraisal costs as well. The estimated cost is generally $800 to $1400. There are perks to a collateral though. In the scenario you want to borrow additional funds down the road, you can save on legal fees. TD, National Bank, and Tangerine register their mortgages as collateral.
Most borrowers will not benefit from collateral charge, but it does provide a big benefit to the banks who issue them.
The only way for a borrower to benefit from a collateral mortgage is if you chose to register the mortgage for a higher amount than what’s actually needed.
Talk to Me about Penalties
This refers to when you want to get out of your mortgage prior to the term date (when the contract is up for renewal).
The penalty for variable rate mortgages tend to be three months interest (regardless of the lender).
The penalty for a fixed rate mortgage (regardless of the lender) will be the higher of three months interest or the interest rate differential (IRD). IRD is the difference between your current mortgage rate and the rate offered by the lender at the time you break your mortgage.IRD can be calculated differently depending on the lender so if you’re unsure, ask the lender what their calculation is.
Breaking Midterm to Buy a New Place?
Generally speaking, you can port your mortgage over to your new place and your lender will offer you a blended rate. However, this usually only works out well with fixed rate mortgages. If you wanted to borrow additional funds for your new place, this will be tough to do with a variable rate mortgage since most lenders won’t let you up the borrow amount. Usually it makes more sense to just pay the fucking penalty fee over porting your mortgage.
Paying down Your Mortgage and What to Watch Out for
Some lenders might limit how many times you can make lump sum payments (some only allow you to do this once a year while others might let you do it monthly). Why does this matter? A lump sum payments goes directly to paying down your principal (the amount you borrowed) and not your interest. Since the interest applied to your mortgage isn’t simple interest (thanks
@moneywithpurpose_ for explaining this), making lump sum payment is a no brainer since it goes directly to decreasing the amount of interest you have to pay down and helps reduce the length of time you have to pay for the damn thing.
MAKE LUMP SUM PAYMENTS IF YOU CAN
There’s also generally a percentage rule for how much you can pay down too (usually 15% of the loan amount) for the term.
End of Your Term Approaching?
Within 90 days of your term ending, this is the bare minimum amount of time you want to spend shopping for a new mortgage agreement with a new lender. Anything less and you’re not giving yourself enough time to do your homework. Also, make sure you ask your lender what’ll happen if do not send over confirmation/signed documents for the new term agreement. Some lenders will move you into an open mortgage which is ideal because you can exit this mortgage without incurring any penalties. Some lenders though (maybe TD but you’re gonna have to fact check because things might be different now) will move you into a closed mortgage… This sucks because if you’re shopping around for new lenders, when you finally find the lender you want, you’ll incur the penalty fees.
Closing Thoughts
Knowledge is power. Go forth and do your own research on the mortgage industry and make sure that you’re not blindly trusting anyone.
Remember to ask why… the why is important.
All the info for this post can be found in this amazing book!