Personal Finance

It's not just about the lowest interest rate.
By Gail Bebee | 08/04/16

More than two-thirds of the households in Canada own their dwelling, according to Statistics Canada. Clearly, we're a nation that has a strong preference for home ownership.

About the Author
Gail Bebee is an independent personal finance speaker, teacher and the author of No Hype--The Straight Goods on Investing Your Money. She can be reached at gbebee@gailbebee.com; her website is www.gailbebee.com.

However, buying a home does not come cheap in most parts of the country. The latest report from the Canadian Real Estate Association states that the national average price for a single family home was $503,057, as of February. Excluding the booming greater Vancouver and greater Toronto housing markets, the average home price was a still substantial $355,235.

At these prices, borrowing money is almost inevitable for most potential home buyers. The standard form of home financing is a mortgage, a loan where the property being purchased is used as collateral. Obtaining the best mortgage for your personal circumstances is not as simple as signing up with the lender that offers the lowest interest rate. When it comes to one of the biggest financial decisions of your life, research and planning are essential to make the right choice. It boils down to a four-step process.

Step one is to learn the basics of mortgages. Pay particular attention to the pros and cons of the many mortgage features you could choose. The Canada Mortgage and Housing Corp. (CMHC) web pages on Planning and Managing Your Mortgage and the Financial Consumer Agency of Canada primer Mortgages 101: Buying your first home are useful sources of objective information.

Step two is to make some tentative decisions about the main mortgage features that will best serve your personal circumstances.

The amortization period is the length of time to pay off the entire mortgage. Twenty-five years is typical. But the shorter the period, the less total interest the borrower pays.

The term is the length of the contract with the lender that specifies the mortgage rate and other details. It could be anywhere from six months to 10 years. Generally, the longer the term, the higher the interest rate charged. During the amortization period of your mortgage, you will renew the term multiple times.

With a fixed-rate mortgage, you pay the same interest rate during the mortgage term, so your total cost is known. A variable or floating-rate mortgage usually offers a lower rate for the same term. But the rate fluctuates with changes in market rates, so your total interest cost is known only when the term is over.

A closed mortgage charges a penalty (usually substantial) if you repay before the term ends. An open mortgage for the same term charges a higher interest rate, but can be paid off at any time without penalty,

Payment frequency can be monthly, semi-monthly, bi-weekly or weekly. Paying more frequently means faster debt reduction and lower interest expenses.

Mortgage prepayment options allow a portion of the principal to be paid down without penalty. It could be a provision for an annual lump-sum payment or the ability to increase the monthly payment.

A portable mortgage allows you to transfer the mortgage to a new property.

Step three is to assemble the information a lender will use to assess your financial ability to handle mortgage debt and your debt-payment reliability. This information normally includes:

  • Employment history going back several years including job title, employer and time on the job;
  • Total monthly income;
  • Existing debt such as consumer loans, outstanding credit-card balances and line of credit;
  • Amount saved for a down payment;
  • How much money you intend to borrow (the mortgage principal);
  • Your credit history and credit score (a statistically derived number indicating an individual's creditworthiness.)

Most of this information should be on hand. You can obtain a report of your credit history and credit score by contacting the two main credit reporting agencies in Canada, TransUnion Canada and Equifax Consumer Services Canada.

Now, you can assess your borrowing readiness using the criteria lenders consider when evaluating a mortgage application. You will need to estimate the mortgage principal and your future home operating costs to complete this task.

  • Is your employment stable and income consistent? Lenders consider three years of employment history.
  • Is your credit score good enough? A score of 630 or higher should qualify for a standard mortgage, but the lowest mortgage rates require a credit score of at least 680, says mortgage broker David Larock of Integrated Mortgage Planners in Toronto.
  • How much can you afford to borrow? Lenders consider two financial ratios:
    1. Gross debt service ratio (GDS), which is the percentage of gross household income spent on home-related expenses (mortgage, taxes, utilities etc.). A borrower's GDS should be 32% or less, but can be as high as 39% for strong applicants with credit scores above 700.
    2. Total debt-service ratio, which is the percentage of gross income spent on total debt (mortgage, car loan etc.) A borrower's TDS should be 40% or less, but can be as high as 44% for strong applicants with credit scores above 700.
    CMHC's calculators will estimate GDS and TDS.
  • Is your down payment big enough compared to the mortgage principal? A down payment of 5% or more of the principal is normally required to qualify for a mortgage. Mortgage-default insurance is required for down payments below 20%.

Your assessment might indicate that you wouldn't qualify for the mortgage you want. Before applying for a mortgage, you'd need to improve your financial profile by taking steps such as working longer at your current job, saving more money or improving your credit score.

Step four, the final step, is to find the lender that can deliver the lowest-cost mortgage that fits your needs. Ensure you are up to date on the latest mortgage features and rates, and then shop the market to find the right lender. Websites such as RateSpy.com, RateSupermarket.ca, RateHub.ca and LowestRates.ca enable you to quickly compare mortgage rates and identify potential lenders. The financial institution where you bank is a potential lender. Another possibility is an independent mortgage broker or agent who has access to mortgage funds from many different sources.

Having your finances in order, knowing what you want and shopping the mortgage market is a successful recipe for obtaining the best mortgage.

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