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TESTIMONIALS
Tom I would like to take this opportunity to say 'Thank you' from the bottom of our hearts! You truly made our dreams come true. Before Ken and myself came too you, we felt it would be impossible for us to own our own home, You showed us that was not so. No one likes rejection, and with the right Real Estate Agent you will not need to experience it. We have made a valuable and trustworthy friend who went the extra mile, and for that we are forever indebted to you. Tom Brailsford is a talented, professional and resourceful man, an asset to his profession. We look forward to working together again in the future.
Cheers! Sincerely, Samara and Ken Allan
I
have bought three houses in Victoria and have a good idea of what to
expect from Realtors. The attention and service I received from you
was truly outstanding. I especially appreciated your attention to
detail and your efforts to help me save time and therefore energy in
my dealings with the lawyer and the bank. Your advice was excellent
throughout the process of early looking, right to the final
negotiations… …The personal service which you provided me may very
well have spoiled me from ever dealing with another Realtor again.
Jim Henderson
We would like to add our names to your list of highly satisfied customers. Specifically, we are delighted with the services supplied to us… Gary has simplified the whole house buying process to the point where even now I’m still dazed from the speed and efficiency with which we were able to acquire two properties…
C. & L.Yokimas
My
wife and I have been buying and selling real property for many
years. During this time we have of course, dealt with many Realtors
and Realty firms. We have no hesitation in stating that we have
never met a more diligent or more knowledgeable Realtor than Mr.
Brailsford
W.L. McDonagh
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Regarding The Following Mortgage Information... This information is published by Canada Mortgage and Housing Corporation and we have duplicated it verbatim for your perusal. We see this information as mere guidelines for the general public and not necessarily the gospel. How one interprets these guidelines makes all the difference in obtaining a property. C.M.H.C. is constantly changing its regulations. Contact Tom or Gary for the latest changes and guidelines, (and of course, interpretations).
THE BASICS
Mortgages:
A mortgage is the largest chunk of money most people
will ever borrow. The interest costs alone can easily run into the tens of thousands
of dollars. When borrowing to buy your home, it's important to understand how
mortgages work. Knowing how they differ from lender to lender, how much they really
cost, and how to reduce your costs can save you a lot of money, and possibly take
years off of the life of your mortgage.
What Is A Mortgage?
When you take out a mortgage, you are taking out a large loan. The security
for the loan is the house itself. If you fail to make payments, the lender can
sell or repossess your home, and sometimes sue you as well.
The Impact
of Interest Rates
Because the loan most people require to buy a home
is so big, a small difference in the interest rate can really add up over the
life of a mortgage — usually 20 or 25 years, but up to 35 years. Here are some
examples.
First, let's look at the total cost of buying a home with a
mortgage. A $160,000 mortgage loan at an interest rate of 8.55 per cent will cost
you a staggering $223,300 in interest over 25 years. That means your total outlay
is $383,300, not including your down payment.
The impact of interest rates
on the cost of your mortgage is so great that even if you manage to only lower
your interest rate by a fraction, you can significantly reduce that total price
tag. For instance, if you pare the interest rate in the above example by half
a percentage point, you would save $15,400 over 25 years. Another effective way
to cut your total bill is by paying the loan off faster. For instance, shortening
the amortization (or life) of the mortgage to 20 years will save you $52,400 in
interest.
Note that these calculations assume that interest rates will
remain constant for the next two decades or more. Chances are they won't. When
your mortgage comes up for renewal in six months or a year or five years, whatever
term you have chosen, rates may be substantially higher — or lower. This will
have a significant impact on your payments.
The Interest Rate Gamble
Borrowers today are forced to play mortgage-rate roulette. Each time your
loan comes up for renewal, you are faced with the difficult choice between less
expensive, short-term financing and more expensive, longer-term financing. Fortunately
lenders, faced with keen competition for mortgage business, are becoming more
flexible.
Be an Informed Mortgage Shopper
Shopping carefully
and asking the right questions will help you find the best possible loan for your
needs. In an attempt to win your business, for instance, many lenders will offer
you a rate lower than the posted rate — if you ask. Don't be shy about bargaining.
The banks and trust companies are quickly becoming used to customers who
are out to get the best deal for their money. By bargaining, the only message
you'll be sending them is that you are proactively managing your finances. If
you need some motivation, just think of what you can do with the savings you'll
enjoy by negotiating a lower interest rate.
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RENTING vs BUYING
Home ownership is one of the most common Canadian dreams. There are two big reasons why home buying is a national passion. The first is that, at least historically, a house has been a good long-term investment for many Canadians. There's also something undeniably powerful about owning real estate. Unlike stocks and bonds, a home is tangible — you can actually reach out and touch it.
The second attraction is having a place you can truly call your own. It's yours to fix up as you see fit, nobody can raise your rent, and you put an end to lugging your stuff from apartment to apartment.
To decide if buying a home is for you, you need to look at some hard numbers and some softer, lifestyle factors. First, the numbers.
Is a Home a Good Investment?
For those wanting a steady return on their money, houses used to be a sure bet. And when the baby boomers started madly buying houses in the 1980s, what was once a solid investment suddenly seemed like the path to instant wealth. No more. House prices took at dive in many of the overheated markets, and in some regions have yet to fully recover. Where is the housing market headed? Nobody can accurately predict. Some expect another round of price increases when members of the "baby boom echo" hit the market. Others, such as demographer David Foot, say the heyday for housing is over.
But even if house prices don't rise phenomenally, a home has two strong things going for it as an investment. First, any capital gains on your principal residence are tax-free. If your house appreciates by 6 per cent, you get to keep every cent of your gains.
Now 6 per cent may not sound like much, but in terms of how much you end up with, you'd have to earn as much as 12 per cent on a fixed-income investment such as a GIC to match that return, after tax.
Second, you don't have to come up with the full purchase price, meaning you're able to harness leverage. Conventional mortgages require a down payment of 25 per cent of a house's appraised value. High-ratio mortgages, which you can read about in elsewhere in this section, require even less.
For example, if you buy a $200,000 home, you need to come up with around $50,000 for a conventional mortgage. If the home's value rises to $220,000, that's an increase of 10 per cent. But what's really happened is you've put up $50,000, and made $20,000. Your real gross return on your invested funds is around 40 per cent. But notice the word “gross”. Don't forget that your real return will be less. Not only will you have incurred interest costs on your home loan, but there are many expenses involved in buying and selling property that will decrease your real return.
Buying a home and having a mortgage is also a tremendously powerful forced savings program. If you don't make your payments you lose your property, which tends to ensure that each and every month you get your money to your lender.
Coincide Your Time Horizon
Generally, a home only makes financial sense if you are going to live in it for at least three, four, or preferably five years. The costs involved in buying and selling a home, from appraisal fees and home inspection to real estate commissions, are considerable.
In order to come out ahead, your house needs to appreciate significantly between the time you buy and the time you sell. You can't depend on that happening in the next year or two. In fact, the market may fall after you buy your home. The longer you own your property, the better your chances that it will have increased in value when you come to sell.
Home Ownership and Your Finances
Buying a home should also be looked at in light of your overall financial health and long-term plans. Investing a significant chunk of your savings into one asset has both benefits and costs.
If you're like many buyers, you'll be pouring most of your savings into your down payment, especially for a first home. (First-time buyers can even tap their RRSPs to come up with a down payment. You can read more about this plan elsewhere in this section.) You'll be tying up a lot of your assets, and tying them up in one investment that is reasonably illiquid.
If you need the money, you can of course sell the property, but that could take months. You could also be forced to sell when the market is soft and, combined with having to pay real estate commissions, you could pocket a lot less than what you put in.
However, the fact that a house is a largely illiquid investment can also be seen in a positive light. Mortgage payments are liked a regular forced savings plan, and over time, you will gradually pay down your home loan and increase your equity. And because it takes a lot of time and effort to sell a home, it's unlikely you'll be panicked into selling rashly just because the housing market is in one of its unavoidable downturns.
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HOW MUCH CAN I BORROW?
When it comes to dining, many people's eyes are bigger than their stomachs. It's far too easy to pile more food on your plate than is good for you, or that you can even eat in the first place.
The same "big eyes" situation develops with many house-hunters. You start looking at homes in a certain price range, and by the time you've decided that yes, you'd like to be a little closer to this school and that shopping area, and that you can't possibly get by without an extra bedroom and another bathroom, you're suddenly looking at homes costing tens of thousands of dollars more than the highest amount you figured you wanted to pay.
Lending Limits: Understanding the Rules
Because many would-be home-buyers suffer from this, it's usually fortunate that lenders have strict rules dictating exactly how much they will lend you to purchase a home. While limits and conditions put in place by financial institutions can be frustrating, remember that they exist for a reason. Those reasons usually lessen the risk for the lender, but when it comes to a mortgage, you're also being protected from borrowing more than is financially healthy for you. It may be true in some cases that you can afford the payments on a substantially larger loan than the bank is willing to make. However, in general, those lending limits act as a kind of enforced control, preventing you from borrowing beyond your means.
How are these limits arrived at? The amount of money you can borrow to finance a home depends on three factors: the type of mortgage loan, the property, and your income.
Conventional Mortgages
With a conventional mortgage loan, banks, trust companies and credit unions can lend up to 75 % of the purchase price or the appraised value of the property, whichever is lower. So if you wanted to buy a home selling at its appraised value of $200,000, you could get a mortgage for $150,000.
High-Ratio Mortgages
In some circumstances you may be able to obtain what's known as a "high–ratio" mortgage, and borrow up to 90 per cent of the purchase price. There is also a special program run by CMHC (Canada Mortgage and Housing Corporation) which allows buyers to put down as little as 5 per cent (as of 2006 Zero percent), of the purchase price. However, you must meet certain requirements, and the size of the loan is limited to a maximum that depends on the area in which you're making your purchase. High–ratio mortgages carry extra costs, and may also put you under more financial pressure than is healthy.
Your Income Level
In the above section, we looked at the maximum a financial institution would lend you as a percentage of the value of a house. In order to qualify for this maximum, you must meet other requirements, including having enough income so that the lender feels secure you can make your mortgage payments. There are two tests lenders use to compare the cost of paying your mortgage to your income: the "gross debt-service ratio," and the "total debt-service ratio."
To get an idea of how much you can borrow for a conventional mortgage with your household income, you can ask a lender or two to pre-qualify you for a loan (final approval will depend on the property and your credit rating). Or you can do the calculations yourself — they're quite simple.
The Gross Debt-Service Ratio
To use this test, the lender will total your housing expenses. This means adding your monthly mortgage payment, your monthly property tax bill, and your heating bill together. The resulting number cannot be greater than 30 to 32 % of your gross family income. (Most lenders will include the stable income of both partners.)
Say the mortgage you're hoping for will mean a monthly mortgage payment of $1,125, heating will cost $75 a month, and taxes $100, for a total monthly payment of $1,300. You will need a gross income of at least $4,062 a month or $48,750 a year in order to qualify (assuming your lender's allowable ratio is 32 per cent).
The Total Debt-Service Ratio
In addition to housing costs, lenders may also look at your other debts, including credit cards, car payments and personal loans, to see whether you make enough to meet all your financial obligations. Under the "total-debt service" test, your mortgage payments, property taxes, heating costs, and the cost of other debts together should not be more than 37 to 42 per cent of your gross income.
Number Crunching Made Easy
There is another, quicker way to crunch the numbers to see if you will qualify for a specific mortgage. Add your projected monthly mortgage, heating and tax payments, and multiply the total by 40. This will tell you approximately how much annual income you will need to carry the loan. For example, say your mortgage payments, heating, and taxes will total $1,000 a month. Multiply that by 40 and you get $40,000 — the annual income required for that mortgage.
Is It Wise To Borrow the Most You Can?
Today's low mortgage rates have made financing a home cheaper than it has been for decades. And that can make it tempting to borrow as much as possible. Before you do, remember that interest rates go up as well as down, so be careful. If mortgage rates have moved up when you must renew, you'll have to find the extra cash to make payments which may be substantially higher than the ones you're looking at today.
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FINDING THE RIGHT LENDER
When you're looking for mortgage money, it may be tempting to accept the first offer that comes your way. A word of advice: Don't!
A mortgage is a big financial transaction, so it pays to shop around. And lenders are competing very strongly for mortgage business these days. If you put yourself in a bargaining frame of mind and "shop the market," you'll likely be able to get a great interest rate as well as additional features to make your mortgage more flexible and less costly.
Getting Started: Pre-Approved Mortgages
A good way to start your search for mortgage money is by applying for a pre–approved mortgage loan at the bank or trust company you usually deal with. Pre-approved mortgages are useful because they allow you to start house hunting without worrying about how you will pay for it. But why settle for just one? Be sure to go to the competition and see if they'll offer you a more competitive pre-approved mortgage.
Ask For a Better Deal
Once you have a commitment in writing, ask the lender if they can give you a lower interest rate. Most will cut the rate on display (called the posted rate) by a quarter or a half percentage point, and sometimes even more. Your ability to bargain for the lowest rate going will often depend on how much business you have with the institution. In some cases, it may make financial sense to bring your car loan, chequing accounts, and credit card business to a single lender in return for getting a lower interest rate on your mortgage.
Get It On Paper
Once you have agreed on a rate, get the commitment in writing. Be sure to ask how long the offer is good for in case rates jump before you close the deal.
Negotiate for the Features You Need
Your interest rate isn't the only consideration. Another important feature in a mortgage is flexibility. Ask the lender for the terms and conditions you need and get them in writing. Bank policy may change from month to month, so arrangements not written into the mortgage contract may become void.
Hit the Bricks (Yuk... Just get a broker or call Tom & Gary)
The next step is rather old fashioned: Call a few lenders in your area, and ask to speak to the manager. Tell him or her you are in the market for a mortgage, and that you would like to see what sort of package they could put together for you. They may want to meet you, or they may be happy to do it over the phone. The whole process will go much smoother if you are familiar with the basic terms of a mortgage, and the features that you would like to see on your loan.
After this round, compare your offers and rank them. If your best deal has all the features you need and the lowest rate, you're all set. If not, make a list of what's missing, and call up the institutions. Tell them you'd like to give them your business, but you require a few changes. At this point, your leverage will largely depend on whether you do other business with this lender. However, don't underestimate what you can get by deciding to engage in some back-and-forthing to land yourself the best deal possible.
Consider Using a Mortgage Broker
If you don't have a lot of time to go from lender to lender, consider using a mortgage broker. Mortgage brokers are no longer the lenders of last resort. Indeed, many financial institutions pay them to drum up business; the lender rather than the borrower pays the fees.
Mortgage brokers really come in handy if you have been turned down for a loan from a bank, trust company or credit union. This is often the case if you have declared bankruptcy, have a bad credit rating, or are self-employed.
For difficult financing, expect to pay a fee for a broker, as well as interest premiums ranging from one to three percentage points — or more — over bank financing. As long as you have a big enough down payment, a broker should be able to help you — for a price.
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HIDDEN COSTS OF BUYING A HOME
When you're budgeting for home ownership, remember that coming up with a downpayment is not your only expense. There are a variety of fees and costs associated with the purchase. These can amount to a tidy sum: an estimated two to four per cent of the house price.
Here is a list of the most common hidden costs, with an estimated price. Note that not all will apply to every situation or every province.
Appraisal $200 - $350
This is a fee charged by your mortgage lender to determine the value of your property. It may be covered by your lender.
Home Inspection $325 - $425
A home inspection can tell you what condition your home is in, and estimate the cost of repairs. It's a good idea to make your offer conditional on a home inspection. See The Ins and Outs of Home Inspection for more details.
Property Survey $750 - $1,000
The legal written/mapped description of your home and lot's location and dimensions. A recent survey is usually required by your mortgage lender. It may be available from the vendor, otherwise, your lawyer will obtain it for a fee.
Insurance for High-Ratio Mortgages Up to 3.15% of mortgage amount
If you are taking out a high-ratio mortgage (i.e. a downpayment of less than 25 per cent of the purchase price) it must be insured by the federal Canada Mortgage and Housing Corp. (CMHC). The insurance can usually be added to your mortgage. Learn more by reading High-Ratio Mortgages.
Home Insurance $450
Your mortgage lender will probably require you to have adequate insurance to protect its investment. Our Home Insurance section covers everything you need to know about insuring your home.
Land Transfer Tax 1 % for the first $200,000 & 2% of the Balance
A tax levied by some provinces whenever property changes hands.
Prepaid Property Tax and Utility
Adjustments $400 - $1,500
If the previous owners prepaid property taxes and/or other utilities, you will have to reimburse them, starting at the date your house closes.
Legal Fees $350 - $2,500
A real estate lawyer (or in Quebec, a notary) will bill you for conducting a title search, drafting the title deed, and preparing the mortgage. Registration fees and other disbursements are extra.
Moving Expenses $200 - $1,000
The cost of getting your stuff into your new home will vary, depending on if you rent a truck and do it yourself or hire movers.
Service Charges $150 - $200
There may be additional charges for hooking up your gas, hydro, phone, cable, etc.
GST/HST For new homes only
The tax is often paid by the builder, but it's a good idea to ask before you buy.
This list covers the costs of getting you into your new home. You may also want to budget for repairs, renovations and decor changes once you move in.
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Building the Perfect Mortgage
The ideal mortgage would be one with a lower-than-market interest rate that is open to prepayment and flexible in every way.
While lenders inevitably fall short of this ideal, keen competition for mortgage business has made them more obliging, especially if you have other business they would like to win. Indeed, the number of choices can make assembling the right mortgage appear overwhelming, especially to first-time home buyers.
Here are some guidelines to help you find your way through the maze of mortgage options, including:
Short- or long-term
Open mortgages
Variable rate mortgages
Convertible mortgages
Amortization
Early renewal
Short- or Long-term?
When you choose the term of your mortgage, you're forced to bet on the future direction of interest rates. Over the life of your mortgage, the choices you make can have a huge impact on the amount of interest you pay out.
The Short
If you think interest rates are likely to fall, then a six-month or one-year term makes sense for two reasons. First, interest rates on short-term mortgages are lower than rates on long-term loans. Second, they give you the option to quickly renew at still lower rates when your existing term runs out (if rates do trend lower). Even if rates are at the same level when it comes time to renew, you are still ahead because of the lower cost of short-term mortgages.
If you think interest rates are more likely to rise, you will want to lock in today's rates for a number of years. But for how long?
Begin by looking at the difference in rates for different terms. How much more will you pay for a five-year loan than a one-year? What is the cost of a three- or four-year mortgage? The difference can fluctuate greatly, depending on market conditions.
Watch The Trends
Next, consider where interest rates sit compared to recent years. If they are at or near historic lows, it may be prudent to choose a longer term. This will protect you from having to renew in one or two years, when rates could potentially be higher. Alternatively, if rates are at historic highs and seem to be in a downward trend, selecting a short term may be a safer bet.
Everybody Needs to Dream
Since no one can accurately predict where interest rates are going, who you are and where you stand financially should also play an important role in determining the mortgage you choose. First-time home buyers who are already stretched to their financial limit are well-advised to shun the risk of short-term or floating-rate mortgage loans. As well, people who are naturally averse to risk may find the security of a long-term, fixed-rate mortgage more appealing, although it might cost more. Knowing how much your monthly mortgage will be, and knowing that they are fixed for a set number of years is a lot easier on the nerves for many people.
Conversely, people with good, secure incomes and substantial equity in their homes are better situated to take advantage of the lower rates offered on shorter-term mortgages. The key is that, while historically those choosing shorter-terms have benefited from lower housing costs over time, you have to be prepared for the increased financial burden you'll have to carry when you next renew your loan if rates suddenly spike upwards.
Open Mortgages
If you want to postpone your decision to a more favorable time – say when you think interest rates will be lower – an open mortgage may be for you. An open mortgage means that you have the right to pay off your loan in full at any time without having to pay extra fees or penalties. Lenders generally offer them for terms of six months or a year.
With an open mortgage, you can respond immediately to changing market conditions. Rather than having to wait for your term to be up, you can simply pay off your mortgage, and then renew your loan for the same amount at the lower rate. However, this freedom comes at a price. You'll generally have to pay up to 1 per cent more for an open mortgage over a closed mortgage. You will have to weigh the higher cost against the potential savings.
If you know you are going to be selling your house in the near future, an open mortgage makes sense because it means you can pay off the mortgage with the profits from your sale, without incurring any penalties.
Variable Rate Mortgages
Another variation is the variable-rate mortgage, one whose payments stay the same even though the interest rate floats. What changes is the proportion of your money that goes to interest and principal. These mortgages are risky because if rates rise substantially, you could end up owing more than you did in the first place.
Convertible Mortgages
Some lenders, eager to win mortgage business, are offering convertible mortgages in which you can start with a short-term loan and convert to a longer-term one when you think the time is right. These loans are often an excellent choice, giving you the lowest current rate, with the added protection of being able to lock in should rates start heading up.
Amortization
The amortization of a mortgage is simply the period of time over which the loan is spread. Most mortgage loans are automatically amortized over 25 years. That is the amount of time it would take to repay the loan in full. However, you are free to choose a shorter amortization if you wish. By shortening the amortization, you will pay more each month, but you will save thousands of dollars in interest.
Early Renewal
Perhaps the most important of the new mortgage features is the early renewal option, offered by a number of lenders. This allows you to renew your mortgage, generally any time during the last year of the mortgage, instead of having to wait for the end of the term. If interest rates have fallen, this feature could save you a substantial sum.
Putting It All Together
As you can see, the decision to buy a house using borrowed money brings with it many additional decisions. Take some time to understand your options, and don't rush into any agreement without understanding the implications of these decisions. A good mortgage agreement will save you money, time, and headaches. Find a lender who will help you understand your choices, and who is willing to put together a package that works for you and your family. And remember that each time your loan comes up for renewal, you have the chance to restructure it to take advantage of the current interest rate environment and your changing financial circumstances.
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HIGH
RATIO MORTGAGES
Even if you don't have a big enough down payment
for a conventional mortgage, you may still be able to buy a home. Conventional
mortgages require a down payment of 25 per cent of the home's appraised value.
If you're looking at a house with a price tag of $200,000, that means you need
to come up with $50,000 of your own money. But if you don't have that much saved,
you may still be able to purchase that property.
There are two basic
alternatives if you can't meet the requirements for a conventional mortgage:
1.Obtain what's known as "high–ratio financing" from your bank, trust company,
or credit union. High–ratio mortgages can be obtained from many lenders if you
have a minimum of 10 per cent of the purchase price. (If you are a first–time
home buyer, you may be able to put down as little as 5 per cent under a special
CMHC program, depending on the area in which you live.)
2.Get a second
mortgage. This means taking out a traditional (or first) mortgage for the first
75 per cent, and then arranging a second mortgage for the remaining amount you
need to borrow.
High-Ratio Financing
First, let's look
at high-ratio financing. These loans must be insured by the federal Canada Mortgage
and Housing Corp. (CMHC), or Genworth. The protection is for the lender, not for
you. Mortgage insurance is expensive: it can range up to 2.5 per cent of the value
of the loan. You have to insure the entire loan, not just the amount that is above
75 per cent of the purchase price. That means the insurance premium for a $140,000
mortgage would be $3,500. Most lenders will let you roll the insurance premium
into your mortgage. If you do, though, you'll end up paying a good deal of interest
on the insurance fee as well.
One advantage to this type of financing
is that CMHC-insured mortgages become open after three years. All that's required
to pay off your mortgage at that point is to pay a penalty of three months' interest.
(An open mortgage means you can pay it off or refinance at current rates at any
point.)
CMHC's 5 Per Cent Down Program
If you are a first-time buyer, you can put as little as 5 per cent down with an
insured mortgage. (NOTE: Recently CMHC/Genworth have altered their policies...
it is possible to purchase more than one property under the 5% conditions),
— provided you earn enough income to qualify. The amount of money you can borrow
under this plan depends on where the house is located. Contact CMHC for more information
about your specific situation and location.
These loans must be insured,
and while you can choose any term you wish, your income must be able to meet the
payments required under a three-year term.
Second Mortgages
Now let's consider a second mortgage. In general, you have to go to a mortgage
broker to find secondary financing. You'll probably have to pay the broker a fee
for arranging the loan. The interest rate on the money you borrow on a second
mortgage will also be higher than the rate on your first mortgage and you must
pay the costs of drawing up a second mortgage document.
Which Alternative
is Better?
Despite the higher interest rate, a second mortgage may
turn out to be cheaper than high-ratio financing, provided you repay it quickly.
Consider the following comparisons:
The Smiths buy a house for $250,000.
They put $40,000 down, get a conventional first mortgage of $187,500 at 8 per
cent, and get a second mortgage of $23,100 at 10 per cent with a three-year term.
(That amount includes $600 in fees for the second mortgage.)
Based on
a 25-year amortization, the monthly payments on the first mortgage are $1,431.
The monthly payment on the second mortgage is $206.63, for a total of $1,637.66
a month.
Each year on the anniversary of the second mortgage, the Smiths
prepay $6,000 towards their second mortgage. They make a final payment of slightly
less than that when the second mortgage term ends in three years.
The
Gates family buys the house next door at the same price, but opt for a $210,000
high-ratio mortgage at 8 per cent. The insurance premium is 2 per cent, or $4,200,
plus an administration fee of $75, bringing the size of the loan to a total of
$214,200.
They make monthly payments similar to the Smiths' — $1,634.80
— as well as the same annual lump-sum payments.
In the end, the Smiths'
second mortgage option costs them a total of $244,612 in interest, while the Gates'
high-ratio mortgage costs them $276,240 in interest. In addition, after three
years, the Smiths' outstanding balance is $179,353, a good deal less than what
is outstanding on the Gates' high-ratio mortgage — $183,842. The reason is the
high up-front cost of mortgage insurance.
As you can see, for the second
mortgage to work, the couple must pay down the loan within three or four years,
otherwise, the higher interest payments will tip the balance back the other way.
A variation on the second mortgage theme could make it a hands-down winner.
You could ask the seller of the house to help you finance its purchase by taking
back a second mortgage at the same interest rate as a first mortgage. This way,
you save both the higher financing costs on the second mortgage and the broker's
fee.
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USING YOUR RRSP TO BUY A HOME
In 1992, in the depths of the recession, the federal government decided to help people buy their first home by allowing them to borrow up to $20,000 tax — and interest-free — from their RRSPs. The idea was to motivate those still unwilling to take the home - buying plunge and thus give the economy a shot in the arm.
In the first year alone, more than 220,000 Canadians used RRSP dollars to make their first home purchase. The plan was supposed to have been a temporary measure, but its instant popularity led the federal government to announce that the plan would become a permanent part of the RRSP rule book in its 1994 federal budget.
If you are finding it tough to scrape together the down payment on your first home, the plan definitely warrants investigation. But make sure you take into account all the rules and associated costs before you start tapping your RRSP funds.
How It Works
The plan allows you to borrow a maximum of $20,000 from your RRSP to buy your first home. You don't have to pay tax on the money you withdraw to use as part (or all) of your down payment, nor do you have to pay interest on the money while it's outside your plan. Both you and your spouse or partner can take advantage of the Home Buyers' Plan, so in total, you could drum up $40,000.
The Rules
The government has a number of conditions on the Home Buyers' Plan:
- To
qualify, you and your spouse must not have owned a home within four years of the
date of withdrawal, together or individually.
- You
must pay the loan back to your RRSPs over 15 years, with payments beginning the
year after you withdraw the funds.
- You
must be a resident of Canada and intend to make this home your principal residence.
- The money must
be in your RRSP for at least 90 days before you can withdraw it under the plan
if you want to claim a deduction.
- You must buy or have an agreement to build a home by October 1 of the year following your withdrawal.
- The key requirement is that you have to replace what you've taken out of your RRSP to buy a home. And you're required to repay a minimum amount each year — the equivalent of one-fifteenth of the amount you originally borrowed.
The
Drawbacks
There are a couple of drawbacks to the plan that may not
be immediately apparent. To begin with, you must have ready cash in your plan.
You may find it is tied up in GICs that cannot be cashed in until they mature.
And remember that if you have been building the tax refund from regular RRSP contributions
into your budget each year, you need to make sure you can get by without the extra
cash flow.
Penalties For Missed Payments
As noted above,
you have to repay a minimum of one-fifteenth of the amount you take out of your
RRSP each year, starting the second year after you make your withdrawal. The penalties
are high if you don't make the required repayments. If you miss a payment, or
even part of a payment, the government will act as if you had simply withdrawn
that money from your RRSP, and add it to your taxable income for that year.
Less Diversification
Withdrawing money from your RRSP to
invest in a home also leaves your holdings less diversified than they might have
been — and diversification is the cornerstone of sound investment.
Repayments and New RRSP Contributions
Repayments of money you've
borrowed from your RRSP to buy a home are not considered RRSP contributions and
cannot be deducted from your income. If repaying the loan makes it impossible
for you to also contribute to your RRSP, it may prove costly, indeed. Not only
do you lose the compound growth you would have earned on the dollars you take
out, you also forego the growth on new contributions you might otherwise have
made.
However, if your new home appreciates nicely, the growth in its value
will offset some of the growth you've foregone in your RRSP.
The Largest
Cost
The biggest cost of a loan under the RRSP Home Buyers' Plan
is the loss of compound growth inside your RRSP on the money you withdraw.
Just how much growth you sacrifice will depend on how old you are. The younger
you are, the more time your RRSP would have to grow, and therefore the greater
the cost of withdrawing the money. The older you are, the less time your savings
have to enjoy compound growth, so the amount lost is lower.
The Bottom
Line
In the end, your decision may turn on personal, not financial,
considerations. You may want to buy a home now rather than wait until you can
save a big down payment. Just make sure you understand that while this plan may
help you realize the dream of owning your own home, it has its costs.
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Refinancing your mortgage
Number crunching doesn't usually top the list when people are asked what they like to do in their spare time. But just wait until interest rates drop, as they did in recent years.
Suddenly, dusty old calculators are dug up as homeowners start figuring out how much they would save if they could renew their mortgage at a lower rate.
It's easy to see why we quickly overcome our aversion to figures when mortgage rates fall. Take someone with a $120,000 mortgage. At 10 per cent, their monthly payments would be $1,073.38. What if they were able to cancel their present loan and take out a new one at 7 per cent? Their monthly payments would drop to $840.50. That's a savings of $232.88 a month. Over a year, those savings would add up to a total of $2,794.56. That's a lot of money, especially when you consider they're after-tax dollars we're talking about.
I'd love to be able to tell you these type of savings are yours for the asking, but if you have a closed mortgage, they're not. In most cases (generally those people who have a fixed mortgage) refinancing is complicated and, at best, a break-even proposition — at least in the short-term.
The Lucky Few
There are, however, some homeowners who can take immediate advantage of lower rates. They include those with:
Open Mortgages: If you have an open mortgage, you can terminate your loan at any time, pay off the balance, and renew at the lower rates. That's why an open mortgage can make sense if rates are at historic highs and look set to fall. (However, a better alternative in this case is often to select a short term loan and renew often, possibly every six months. Another strategy is to opt for a convertible mortgage.)
Insured Mortgages:
If your mortgage is insured by CMHC (Canada Mortgage and Housing Corporation), it automatically becomes "open" 3 years into the term. You can pay off the outstanding balance at any point after that with the payment of a 3–month interest penalty. That means, for example, if you have an insured mortgage and opted for a 5–year term, you could effectively "cancel" your home loan and take out a new one at the going rates as long as you were at least 4 years into the term.
To find out if your mortgage is insured with CMHC, you can call your lender, or consult your mortgage agreement.
Long Term Mortgages:
Another possible way in which you can get out of your current agreement is if you are at least 5 years into the loan, and the term is longer than 5 years. You will incur a three month interest penalty, but this right is guaranteed under the Federal Interest Act, Section 1d.
As For the Rest of Us
If you don't fall into any of the above categories, it's a lot more complicated to refinance, and often won't bring you any immediate financial relief. Don't feel too bad — you've got plenty of company. The great majority of mortgages are closed and have a maximum term of 5 years, meaning there is no easy way to refinance.
The reason for this is simple, though it may be of little comfort. Lenders like to make money on their loans. If you were to pocket the gains from dropping your mortgage rate from 10 per cent to 7 per cent, your mortgagee would have to be willing to make 3 per cent less on your loan. That's not a likely scenario.
Most lenders will let you out of your current mortgage if you're willing to pay a penalty. The goal for the lender is to be compensated for the loss of extra income if they allow you to pay off your loan. If you're paying 10 per cent and refinance at 7 per cent, they're not going to be able to lend that money out to somebody else at 10 per cent, so they want to make up the difference.
How Lenders Calculate the Penalty for Refinancing
There are two basic methods used by lenders to calculate the penalty for refinancing. Some charge a flat 3 months' interest, while others charge what is known as an interest-rate differential (IRD). This is what the lender would have made in interest if you had not refinanced at a lower rate, with some adjustments. Others charge the greater of the two.
Here is how the penalties are calculated:
Suppose your mortgage is for $100,000 at 8 per cent amortized over 25 years. You are 3 years into its 5-year term. The current rate is 6.75 per cent and the balance outstanding is $95,655; 3 months' interest would be $1,882.
The interest-rate differential would be more. The difference between 8% and 6.75% is 1.25 percentage points. Multiply this by the balance of $95,655 for two years and you get $2,391. The actual amount of the interest-rate differential would be lower because the bank will earn interest on the penalty. The actual penalty is $2,130. In this case, a straight three-months' interest would be the preferable option for you.
Which Penalty is Cheaper for You?
Which option is least costly will depend on the rate difference and how close the loan is to maturity. The IRD can be the cheaper alternative if the difference in rates is small or the time until maturity short.
Suppose in the above example you had only one year left to run. Using the difference of 1.25 percentage points, you would have to pay $1,110, considerably less than 3 months' interest.
If the rate difference in the above example had been one percentage point instead of 1.25, the IRD penalty would again be the cheaper route.
Consider Your Other Alternatives
Before you pay a big penalty to refinance, consider using the money to make a lump-sum payment to your mortgage instead. Most lenders will allow you to do this. Depending on the circumstances, you may end up better off than if you had renewed early.
With the numbers stacked in favor of lenders, why would anyone bother to refinance their mortgage loans in advance? Because they're guessing that interest rates have hit bottom and will have risen again by the time their mortgage is due for renewal. Even if they break even once the renewal penalties are figured in, they're hoping to be ahead because they'll have locked in today's lower rates.
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REVERSE MORTGAGES
After having worked a lifetime to pay off their mortgages, many people find themselves in an unhappy situation. They might look well off on paper because their house price has risen over the years. But they may be living on a modest pension, barely able to pay the property taxes. They are what's known as "house rich and cash poor." Often, the only way to get at that money tied up in bricks and mortar is to sell.
In an attempt to resolve this problem, lenders devised the reverse mortgage. A reverse mortgage lets you get money from your home without having to sell it. You borrow against the equity you have built up in your home, pledging it as security. Like the proverbial cake, you can have your home and money too.
Reverse mortgages are a relatively new concept in Canada. Depending on the lender, they are available mainly to people of retirement age in areas where real estate prices are stable or rising. The amount you can borrow is relatively small — usually less than 50 per cent of the appraised value of your home.
How They Work
One type of reverse mortgage resembles a home equity loan in which you draw on a line of credit as needed. For example, you can borrow a lump sum, draw monthly payments or take some combination of the two. You can borrow to buy a condominium in Florida or to give your children a down payment on a home. Or you can draw a monthly income to supplement your pension or savings. The money you borrow is tax free.
The other, more common type is the reverse annuity mortgage, which gives the borrower monthly income, usually for life.
Although you can repay the loan in full at any time, you don't need to make any payments until you sell the home, move out or reach the end of a preset term. The downside is the lender eventually owns your home unless you or your heirs repay the loan with interest — and the interest adds up more quickly than you might think.
At first glance, reverse mortgages may sound too good to be true — for the lender. Say your house is worth $300,000 and the lender gives you $150,000. In time it owns your home, which by then is worth $400,000. It seems unfair.
But the lender wants interest, too. Add up the interest on a $150,000 loan over several years and the amount owing swells surprisingly quickly. If the lender sells your house for more than $150,000 plus interest, it wins; if not, it loses. It takes the risk rather than you.
Is a Reverse Mortgage For You?
Like pensions, reverse annuity mortgages look better the older you get. That's because the older you are, the more you can borrow and the larger the monthly payments because they're spread over a shorter time. But there are other things to consider. Some people feel uncomfortable with debt or want to leave an estate for their children. You may outlive the term of the loan and be obliged to move, although most contracts preclude this.
Before signing up for this financing plan, be well informed. Discuss it with your lawyer, your lender, your partner and your family. Shop around and compare the different deals available to you. After all, a mortgage is no small thing.
If you need only a small amount of money to help with living expenses, find out if your community will let you defer property taxes. Many do. This works like a reverse mortgage in that the taxes, plus interest, build up during your lifetime and are payable when your home is old.
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BUYING A VACATION HOME
Cottage life is an ingrained part of the Canadian psyche. Three in five cottage owners say that's where they feel most at home, according to a recent Angus Reid poll, and nearly two-thirds say even if it they had to move to another province, they wouldn't sell their cottage.
If you are thinking of buying a cottage or vacation property, there are a few considerations to keep in mind. Financing the purchase won't be as straightforward as arranging your first mortgage, and deciding if the cottage is a sound buy can be trickier than a standard residential purchase.
Financing Your Cottage
Unless you can pay for your vacation home in cold, hard cash, you'll have to borrow the funds. Banks may finance up to 75 per cent of the cottage's appraised value or the purchase price, whichever is lower. The same holds true if you are building your vacation home, except that the loan is based on the lower of the total construction cost plus land value or the appraiser's estimate of the value of the project when completed. The bottom line: you'll have to come up with a minimum of 25 per cent of the purchase price yourself. However, if you are building, this downpayment may be by way of land value.
You can arrange financing through a personal loan. Your financial institution will use the use Gross and Total Debt Service Ratio to see if you can carry the loan. Gross Debt Service Ratio includes the carrying cost of your home (mortgage/rent, heating and taxes), while the Total Debt Service Ratio includes annual cost of your home, plus other monthly debt payments including the proposed loan. A spotless credit history is vital.
If you already have substantial equity built up in your home, you may be able to finance your leisure property through a home equity line of credit. This option, which can be less expensive than a personal loan, is explored in The Home Equity Line of Credit.
Your home equity may also allow you to take out a second mortgage to pay for your cottage. The mortgage rate will depend on the property you're buying: you'll probably get the bank's residential mortgage rate if your cottage is "house-like" – winterized and accessible year-round. However, you may be charged a higher rate for difficult to access and/or seasonal properties.
Shopping Notes
Buying a cottage is like buying a house in the city up to a point: you'll want to consider its location, structural features and, of course, price. All the pointers in our Home Shopping Guide also apply to your cottage. But rural and lakefront properties have some unique characteristics you'll want to evaluate. These include:
Access: Is the road to your cottage public or private? Who pays for its maintenance? Can you even access the road in the winter? Or, if you're considering a cottage that's only accessible by water, how do you arrange for transportation and parking?
Water: Usually, cottages get their water supply from wells, lakes or rivers. You'll want to make sure water the water is potable – i.e. drinkable! Potability refers to the measurement of acceptable levels of contaminants as determined by controlled tests. Ask if the vendors have a current water analysis. If not, be sure to get the water analyzed in a lab.
Sewage system:This is regulated under the federal Environmental Protection Act, which is especially stringent on systems near a lake or river. Failure to comply could result in fines, as well as having the system blocked and maybe even removed. So make sure the sewage system is properly certified.
Development: If you're planning extensive renovations or maybe a new dock or boathouse, make sure you can actually build before you buy. Municipalities, cottage associations and conservation authorities may all have regulations restricting construction. Your agreement of purchase and sale should warrant the legality of current structures, and ensure intended changes can be made.
Property taxes: It's likely you will be paying relatively high property taxes for your leisure home because of the cost to service rural or remote areas. However, some areas may tax seasonal residents at a higher rate than year-round residents.
Estate Planning and Your Cottage
Chances are, the cottage will provide your family with years of good times and happy memories – and you'll want the tradition to continue after you're gone. However, if your cottage is not your principal residence, then it is not exempt from capital gains tax. At your death, 75 per cent of the growth in its value is taxed.
If you want your children to inherit the cottage while minimizing the tax bite, you have a few options. If you think the cottage is going to appreciate in value quite dramatically, you can "gift" it outright to a child. However, a gift is still a sale for tax purposes, and your child will have to pay 75 per cent of the capital gain, assessed as the difference between what you paid for the cottage and its value at the time of the gift. Any gains after that will be assessed once the cottage again changes hands.
The cottage can also be transferred to a trust, allowing you and your spouse to retain control over the cottage until your deaths. Any capital gains made after the trust is set up will be tax-free to you, since you no longer own the cottage. You can learn more by reading Trusts in our Estate Planning section. But remember that estate planning can be a complex subject, so your best bet is to talk to a professional.
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