How to choose a mortgage
With interest rates at their lowest point in 50 years,
more and more Canadians are forsaking their renting ways and choosing
to pay their own mortgage instead of someone else's.
Figuring out what type of mortgage is best for you
can be tricky. But once you understand the basics and the lingo,
you'll be well on your way to owning your home.
Establish good credit
Before you start shopping for a mortgage, make sure your credit
is in good shape. The better your credit, the more options you'll
have when applying for mortgage.
According to Maggie Edgar, a mortgage consultant with
Mortgage Intelligence in Simcoe, Ont., the two things mortgage brokers
look for are job stability (which, in today's economic climate,
is considered two years or more at the same job, or a similar job)
and established good credit.
That means at least two years of paying your bills
on time and not over-extending yourself financially.
"If you don't have good credit, I have lenders
who will work with you, but you'll pay a higher interest rate and
a fee on top of that," says Edgar. "Having good credit
means better interest rates, and over 25 years, even a 1 percent
difference can save you a lot of money."
To check your credit report, contact one of the country's
two major credit bureaus, Equifax
Canada or TransUnion
Choose a down payment
There are two main types of mortgages: conventional
and high ratio. A conventional mortgage is for 75 percent or less
of the purchase price of the property. You pay the balance as your
If you can afford to make a down payment of 25 percent
or more, it's a good idea, as your proclivity for saving will be
rewarded with a low interest rate. And the larger your down payment,
the quicker you'll be able to pay off your mortgage.
But for many people today -- especially young, first-time
home buyers -- a 25 percent down payment is beyond their means.
In that case, you can make a down payment of between 5 percent and
24 percent of the purchase price and get a high-ratio mortgage for
The only catch with high-ratio mortgages is you must
buy mortgage insurance to protect your lender in case you default
on your loan. But because the insurance premium can be rolled into
your mortgage, allowing you pay it off as part of your monthly mortgage
payment, most home buyers accept it as a necessary evil.
In Canada, mortgage insurance is offered through the
Mortgage and Housing Corporation and GE
Capital Mortgage Insurance Company.
Rates vary depending on the size of your loan, ranging
between 1 percent and 3.25 percent of the principal amount of your
There is a third option when it comes to choosing
the size of your down payment -- not to make one at all. You can
actually get a mortgage with no money down whatsoever.
Mortgage Intelligence's Edgar says some lenders will
approve you for a 107 percent mortgage that will cover the full
purchase price of your property plus all the related closing fees
and still leave you $3,000 for moving and renovation costs. To qualify,
you need a golden credit rating.
But just because you can buy a house for nothing doesn't
mean you should. "They'll charge an additional 4 percent in
fees as well as steep interest rates," says Edgar. So often,
it's better to hold off until you've saved a down payment of at
least 5 percent to take advantage of lower rates.
Choose a rate
Although the economic climate and the state of the stock market
will largely determine what interest rate you'll pay on your mortgage,
you have some say in the matter. You may choose either a fixed-rate
or a variable-rate mortgage.
With a fixed-rated mortgage, your interest rate is
locked in and won't change for the duration of the term. With a
variable-rate mortgage, the interest rate will fluctuate according
to the market and the Bank of Canada's interest rate.
The benefit of a fixed rate is your monthly payments
remain the same for the entire term of your mortgage. So, it's easy
to budget for and there'll be no surprises.
The disadvantage is fixed-rate products have higher
interest rates, as lenders hedge themselves against the possibility
of climbing interest rates.
Historically, variable-rate mortgages have delivered
more cost savings in the long run than their fixed-rate counterparts
when interest rates are stable. But that doesn't mean they're right
"It's a lot like the stock market," says
Cara MacKillop, mortgage development manager at VanCity, Canada's
largest credit union, in Vancouver, B.C. "You have to believe
in the philosophy that you'll be better off over the long term and
can handle the short-term fluctuations."
The best-case scenario with a variable-rate product
is interest rates decrease over the term, and a greater proportion
of your monthly payment goes toward paying down the principal, and
you end up paying down your mortgage ahead of schedule.
The worst-case scenario, on the other hand, requires
a high risk tolerance and good cash flow, says MacKillop. If interest
rates increase such that your monthly payment is paying off only
the interest on your mortgage, your payment will be increased because
it must also pay off the principal.
If you have the cash flow to ride out a period of
rising interest rates before being able to renegotiate your rate
at the end of the term, you'll be fine. But if you don't, you could
be stuck with increased monthly payments you can't afford, so it's
better to stick with a fixed rate.
Choose a term
The term is the length of time your contract for repaying your mortgage
-- which establishes all fees, interest rates and prepayment options
-- remains in place. A term lasts anywhere from six months to 10
Once your term is up, you may either pay the entire
outstanding balance of your mortgage or negotiate the conditions
of a new term.
First-time buyers who plan on staying in their house
for more than a couple of years generally favor long terms (considered
three years or more) for the same reason they favor fixed rates
because locking in rates over the long term gives them stability.
The downside to longer terms are higher interest rates.
Generally, the shorter the term, the lower the interest rate.
According to Janice Church, manager of Scotiabank's
Horizon Square branch in Calgary, short terms -- usually less than
two years -- are for people who believe interest rates will fall
by the time they renew their mortgages or expect big life changes.
"If you are anticipating changes to you income,
try a shorter term so you have the option to shorten your amortization
and increase your payments or make lump-sum payments to change the
look of your debt," says Church.
If you're plugged into the world of business and like
speculating which way interest rates are headed, shorter terms can
save you money. But you run the risk of interest rates being higher
at renewal time. So if your budget is tight, stick with a long term.
Choose prepayment options
Most mortgages are amortized over 25 years, which means it takes
that long to pay them off completely.
If you want to pay your loan off within a few years,
however, choose an open mortgage. Open mortgages have a built-in
opportunity for you to pay the balance of your loan ahead of schedule
without penalty charges.
It's an option you pay for, though. Since the lender
has no guarantee of how long you'll be making interest payments,
they'll charge you higher interest rates. But open mortgages are
helpful for people who plan on selling their property in the near
future or expect to come into a bit of money.
Most first-time buyers don't have the extra cash to
pay off their entire mortgage even if they wanted to, which is why
closed mortgages are their best option.
Closed mortgages do not allow prepayment without a
hefty penalty. But they do have lower interest rates because lenders
feel comfortable knowing they have years of interest payments from
you to look forward to.
Bruce Gillespie is a freelance
writer and editor in Simcoe, Ont.