Mortgage in Canada: nuances, mistakes, tips

My family and I used to live in Montreal suburbs and sold our house with a pool in 2020 for over CAD 500,000.

Mortgage

In Canada, credit in general is very common, and many Canadians have mortgages, car leases, phones on credit, and more. This is neither bad nor good because usually, the interest on loans is low — I'll tell you what they are later.

You need to make mortgage payments at certain intervals: every week, every two weeks, once a month, etc. You can pay off your mortgage slowly over 25 or sometimes 30 years. This is called the amortization period. Those people who are renting are essentially paying off the loan to the owners. And the owners, after the same 25 years, can sell their house for a million dollars or more. And the tenants will be left with nothing. They will be forced to keep spending on rent.

The problem is that not everyone can get a mortgage. Many factors influence this. The most negative one is matching income and expenses with the value of the home you want to buy. I won't go into that now, but if you're interested, read our article detailing how to calculate everything. If you don't have a job, you won't get credit. If you are self-employed, for some reason many banks consider this a negative factor, and your ability to get a mortgage is impaired.

Down payment

When you buy an apartment or house, you have to pay a down payment. Its amount depends on the value of the home and usually ranges from 5 to 20%. New immigrants with no credit history can get a mortgage with a 35% down payment. We did just that since Ivanna studied at university and I was self-employed. By the way, I already told you about the need to have a good credit history.

If the down payment is less than 20% of the value of your house or apartment, you will have to buy mortgage insurance. But the lender may require you to take out insurance even if you have a down payment of 20%. This usually happens if you are self-employed or have a bad credit history. And if you fail to make your loan payments, the insurance will make payments not to you, but to the bank that originated the mortgage.

Amortization periods

The loan or amortization period is divided into parts. It can be one year, two years, five, etc. Usually, people choose five years and the type of interest rate: fixed or variable. Originally on our first house, the amortization was for 30 years and the rate was fixed for the first two years. When two years passed, I renegotiated the contract and chose a variable rate for, like, five years. Let me explain in detail the difference between a fixed rate and a variable rate, there are some very important differences.

Fixed and variable rates

With a fixed-rate mortgage, your rate stays the same for the entire period. This mortgage gives you a sense of security: You know exactly what your payments will be until the contract expires.

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The variable interest rate is conditionally tied to the key rate of the Bank of Canada and may fluctuate throughout the contract. If you are a gambling person, you can both win and lose. Time has shown that many people lose because they only pay attention to the current rate, but do not analyze historical numbers or understand how the Canadian banking system works.

Here are some examples to make it clearer. The second house we live in now has a 25-year amortization, but the rate is fixed and capped at 5 years. Until 2025, the mortgage rate is 2.99%. If you want to take out a mortgage now, you won't get that, as of March 2023 the market rate at the major Canadian banks is somewhere around 5%. During the pandemic, mortgage interest rates dropped a lot and were around 2%. Many people took advantage of the situation and took out variable-rate loans. Now as of March 2023 at a major bank, it is about 6.25%.

What could be the difference in money depending on the interest rate if, say, you bought a house on credit worth CAD 600,000 and paid a down payment of 20% or CAD 120,000? That is, you borrowed CAD 480,000. During the pandemic with a 2% rate, you would pay CAD 2,033 per month, with a 2.99% rate as I have now it would be CAD 2,269, but with a 6.25% rate, it would be CAD 3,141.

As you can see, overpaying about CAD 1,000 a month is a lot of money, which is why there are so many dissatisfied people in Canada now who complain that living here has become expensive. Some of them will switch from variable interest to fixed interest because you have to pay less there. But if they do, they will probably lose out. Because historically the key bank rate has been going up and down all the time, and now the time is projected to go back down. I may be wrong, but time will tell.

Breaking the mortgage contract

When we moved to Canada, we didn't burn our bridges and left the apartment back home. I don't know how much it's worth, but you could potentially get the idea to pay off the loan early. Or another bank will offer you a better interest rate. However, you won't be able to pay any money down or cancel the contract. You'll have to pay a penalty, which could well run into tens of thousands of dollars.

If you have a fixed interest rate, the penalty will be higher than if it was variable. You should know this before taking out a mortgage and choosing an amortization period. For example, if you plan to buy a house, live in it for 3 years, and then move to another province as we did, you shouldn't take a 5-year amortization period with a fixed interest.

When we lived in Quebec, I liked everything there except French. So after the two-year amortization period was over, I changed the interest to a variable rate. That made it possible to sell our house and close the mortgage with a small penalty. And the house in Ottawa was already under a new contract.

The process of buying a new home and choosing a bank

I remember now how difficult it was to do all this. First of all, there was the pandemic, and the police were standing at the border between the provinces and would not let anyone in without a good reason. Second, almost all the institutions were closed because of the quarantine. And thirdly, it was not at all clear what would happen to real estate prices. Our real estate agent first feared that the buyer of our old house could back out of the deal, and then we were afraid that the seller of the new house would change his mind. But all ended well.

If you don't want to pay penalties, but still want to pay off the loan quickly, my bank has the option to add up to 10% of the mortgage amount once a year, and to make a double payment per month. I have found that there really isn't much of a benefit to paying off the mortgage early. Especially when the interest on it is low. A simple example — I was paying about 2% interest on my first house, and inflation was about 3%. Now inflation in Canada is at about 6%.

The Canadian banking system is considered one of the safest in the world. Canada is dominated by the Big Six banks: TD Bank, RBC, Bank of Montreal, Bank of Nova Scotia, CIBC, and National Bank of Canada. I have accounts at three different banks and I really trust them and I have taken loans from the Big Six.

But there are also smaller commercial institutions where you can take out a mortgage, and at a lower interest rate and with more favourable conditions for breaking the contract. For example, the 5-year fixed rate is offered at 4.44%, while the variable is 5.55%.

Small down payment

I promised to tell you how much you would pay on your mortgage if you paid less than 20%. Let's say the house is worth the same CAD 600,000, but you only have 10% or CAD 60,000. I'm sure if you moved to Canada with savings or both spouses are working, you can put that amount away in a few years with savings.

Let's round the mortgage rate to 5%, then the monthly payment comes out to CAD 3,238, the largest amount in the article. From this, we can conclude that a small payment increases the monthly payments, and the extra cost goes to insurance.

On the other hand, if you rent an equivalent home that costs CAD 600,000, I am sure you will pay significantly more than CAD 3,000. Of course, if you add extra home or condo insurance, city taxes, gas, water, electricity to the mortgage payment, CAD 3,238 will turn into CAD 4,000 or even more. We have an article comparing buying a home on credit and renting, be sure to read it to understand the issue.

How to find the best mortgage terms

We bought our first house on credit, not really understanding how everything works. Our agent just gave us the contact of a bank manager who spoke our native language and arranged everything for us. All major banks have about the same conditions, but the drawback is that the first thing they pay attention to is the amount of payment. I do not remember being told anything about the terms of breaking the contract. And this is important.

If I were buying my first house in Canada right now, I would probably contact an independent mortgage broker. This is a person who works with dozens of banks and financial institutions. You can get a customized solution for your situation. Note that the loan payment, if you contact a mortgage broker, will not be more expensive for you. That's the way the Canadian system works in everything.

For example, we are agents for several language schools and many universities and colleges across Canada. If you apply through us for language courses or study programs, you will often get a discount or scholarship, and assistance with potential problems.

You can contact us for help with immigration, visas, and admissions at the link.

Alex Pavlenko, founder of Immigrant.Today