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Mortgage Financing
Most Canadians need a mortgage to purchase a home.
A mortgage is essentially a long-term loan used for
buying a home. It is composed of two ingredients; the
first is the principal, the amount borrowed and the second
is the interest, the cost of borrowing. Each mortgage
payment will consist of these two parts - covering the
interest first and then, the balance of the payment will go
to the principal. Interest is paid on the principal amount
outstanding at a rate agreed to at the beginning of the term.
The number of years that it takes to pay back the entire
mortgage debt is known as the amortization period which
is normally 25 years.
There are two major types of mortgages - Conventional Mortgage and High Ratio Mortgage.
Depending on the financial institutions, a conventional
mortgage is placed when you have at least 25% or more
of the purchase price available for a down payment.
There is a minor exception which is if you prefer to deal
with a credit union, this loan to value ratio can increase
to 80% for a conventional mortgage depending upon
which credit union you deal with. But, for the purpose
of this article, we will consider less than 25% down
payment to be referred to as a high ratio mortgage and
it will require high ratio insurance. Under Canadian law,
most lending institutions cannot provide the first mortgage
financing with less than a 25% down payment unless it is
insured. An insured loan essentially protects the lending
institution against any mortgage default in the event that
the homeowner is unable to make his/her mortgage
payments over a period of time.
Since not all buyers have the required 25% of a down
payment for a conventional mortgage, using mortgage
insurance enables these buyers to enter the market
sooner and to start building up equity in their home. The
Canadian Mortgage and Housing Corporation (CMHC) is
the most recognizable name in mortgage insurance. Their
First Home Loan Insurance Program (FHLI), is a very
popular option for first time buyers who can afford only a
5% down payment. Under this program, the price of the
home must be under the maximum house price established
by CMHC for the area in which the property is located. For
example, the maximum housing price under the FHLI Program
for the Greater Vancouver area is $250,000, and that for
outlying areas is $125,000. If the buyer is not a first time
home buyer, or if the desired house is over the maximum house
price allowed, the maximum loan amount will be 90% of the
first $180,000 of value and 80% of the balance over $180,000.
Like all insurance products, there is a cost involved in using
mortgage insurance. CMHC charges its premiums at the same
rates across Canada based on the amount of the down payment
placed on the home. The lower the down payment the higher is
the premium due to increased risk. With a 5% down, the premiums
are at 2.5% of the loan amount. This amount decreases with an
increased down payment placed on the home. Normally, the
mortgage insurance premium is added to the amount of the
mortgage and amortized over the life of the mortgage but, if
the buyer so wishes, he/she may also pay the premium in one
lump sum.
For those buyers planning a renovation to their home, they may
also add on the costs of the planned renovation at the time they
take out the mortgage, which allows them to benefit from the
lower interest rates.
In general, to qualify for the FHLI Program, the buyer or
spouse; 1) must not have owned a home as a principal
residence in Canada within the past five years;2) must be
buying or building a home in Canada that will be their principal
residence; 3) the payments for principal, interest, property taxes,
heating and 50% of any condominium fees (if applicable) should
not exceed approximately 32% of their family gross income; and
4) the total payments which include other debts such as care
payments should not exceed 42% of their family gross income.
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