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I've found a house. Now how do I pay for it?

Today's mortgage market offers a smorgasbord of options. Lenders -- which include banks, trust companies, credit unions, mortgage companies and private individuals -- offer numerous options for home buyers. The trick is to pick the one best suited to you.

You must also decide on the amortization period (the length of time it will take for your mortgage to be paid off) and the term (the amount of time the agreed-upon interest rate applies). Traditionally, mortgages are short term or long term, stretching anywhere from six months to 25 years. Usually, the shorter the term, the lower the interest rate.

Here are some of the mortgage options available in Canada:

Conventional mortgage
A conventional mortgage requires a 25 percent down payment of the purchase price of the home. The lender finances the remaining 75 percent.

High-ratio mortgage
A high-ratio mortgage requires a minimum down payment of 5 percent of the purchase price of the home. Because the loan exceeds 75 percent of the appraised value, insurance fees can run as high as 3.25 percent of the loan amount.

Zero-down mortgage
In March 2004, the Canada Mortgage and Housing Corporation (CMHC) introduced the zero-down mortgage, allowing first-time home buyers to purchase a house with no money down, as long as they can prove they are able to meet the monthly payments. This means buyers with high monthly incomes and no savings are able to enter the housing market. An insurance fee is required.

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Second mortgage or VTB (vendor take-back) mortgage
The vendor holds a VTB mortgage. It is a mortgage taken out by the borrower to assist in financing the property purchase. The vendor can offer lower interest rates than lending institutions.

Assumable mortgage
The buyer takes over or assumes an existing mortgage, usually after being approved by the lending institution. This avoids other costs normally associated with purchasing a home, such as appraisal and legal fees, and allows the purchaser to take advantage of lower interest rates.

Once you've decided which type of mortgage is best suited to your needs, you must decide if you want a fixed- or variable-rate mortgage.

Fixed-rate mortgage
A fixed-rate mortgage features an interest rate that does not change during the entire mortgage term.

Some advantages to having a fixed-rate mortgage include:

  • Rates and payments remain constant, so if interest rates skyrocket over the term of the mortgage, there won't be any unpleasant surprises.
  • You have the security of knowing exactly how much your payments are and how much of your mortgage will be paid off at the end of the term.
  • By locking in to a low mortgage rate, you don't have to be concerned about rising rates.
  • The borrower is able to refinance if rates go down (although there may be a fee involved if you decide to refinance before the end of the term).

There are also some disadvantages to fixed-rate mortgages, including the following:

  • The borrower is locked into a fixed interest rate over the term of the mortgage.
  • The borrower is unable to take advantage of plummeting interest rates.
  • The mortgage costs more in the end.
  • It takes longer to build equity in your home.
  • There is often a penalty for refinancing to take advantage of lower rates.

Variable-rate mortgage
In a variable-rate mortgage, the rate is set at the beginning of each month according to the Bank of Canada's prime lending rate. Its advantages include:

  • Lower interest rates which equal higher savings and, historically, variable-rate mortgage rates are lower.
  • If interest rates go down, a larger portion of your payment goes to the principal.
  • The mortgage is usually paid off faster.
  • The payments stay the same even when the rate changes.

Disadvantages include:

  • If interest rates rise, more of your mortgage payment is applied to interest, not principal.
  • You face increased risk if interest rates skyrocket.

Repayment options: open or closed?
Once you have decided which type of mortgage is best for you, you need to consider your repayment options. Two are available:

With an open mortgage, the borrower is able to repay any amount of the balance at any time without penalty. This offers the flexibility of being able to increase your payments to any amount. The only disadvantage to this is interest rates are sometimes higher.

With a closed mortgage, the borrower is unable to make extra payments or pay off the mortgage balance until the maturity date of the loan unless she is willing to pay a heavy penalty. But the advantage to closed mortgages is interest rates are usually lower.

Finally, here are some important tips to consider when negotiating a mortgage:

  • Lending institutions are usually willing to consider a lower interest rate than that advertised, so be willing to negotiate.
  • Shortening your amortization period means considerable savings. For example, on a $100,000 mortgage at 6%, the difference between an amortization period of 25 years and 20 years amounts to a savings of more than $21,000.
  • Many lending institutions are willing to include property taxes in your payments, making it easier to budget on a monthly basis and removing the necessity of a yearly lump-sum payment.
  • Disability and life insurance ensures that you will not be at risk of losing your asset in the event of an accident or death.
  • Weekly or biweekly payments will save you thousands of dollars over the life of your mortgage.
  • Many lending institutions will allow you to increase your payments once a year on the anniversary of your mortgage so that you can realize significant savings.
  • The larger your down payment, the less your house will cost in the end.
  • A good mortgage broker can help you determine the best mortgage option for you. To find a reputable broker in your location, visit The Canadian Institute of Mortgage Brokers and Lenders.
  • The Canada Mortgage and Housing Corporation offers valuable information to home buyers, including a list of approved vendors and a rate comparison chart. It is a must-visit for anyone considering taking out a mortgage.
  • To determine how big a mortgage you can afford, try our Mortgage Affordability Calculator.
  • To help figure out how big your mortgage payments will be, try our Mortgage Calculator.

Before you take out a mortgage, research all your options. For most of us, a home is our biggest asset and the largest purchase we will make in our lifetime. A little footwork can save you thousands of dollars.

Pam Withers (http://www.pamwithers.com) is a business journalist,
business-book editor and author of a best-selling teen novel.

 




-- Posted: Sept. 20, 2004
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