WHAT'S YOUR MORTGAGE REALLY COSTING YOU?
BY KIMBERLY GREENE | 15 DEC 2016
When you get a mortgage, you know you’re going to have to pay the principal and interest, but there’s more to the picture than it would appear.
When it comes to the overall cost of the mortgage, the biggest factor that you have the most control over is the size of your down payment, and for some homeowners, that's by far the hardest part of the entire process.
There are many ways to save up for a down payment, but you have to either decide how much you want to save and wait to buy a home until you reach that amount, or save for a certain period of time and then move forward with the process, regardless of the exact amount you have saved. For an owner-occupied property, you have to have a minimum down payment of five per cent of the purchase price of the property, and if that down payment amount is less than 20 per cent of the purchase price, then you’ll be required to get mortgage default insurance, which protects the lender in case you default on your mortgage.
The bigger the down payment you have, the less you’ll have to borrow from the bank for the mortgage. And since the interest is calculated on the size of the mortgage, you’ll end up paying less over the life of the loan if you have a large down payment. But since the latest round of changes in mortgage regulations went into effect, there are some other changes coming into play.
Chris Allard, mortgage agent with Dominion Lending Centres, says that lenders are starting to favour buyers with a hefty down payment and offer them certain rates and/or promotions depending on the size of their down payment.
“Where the biggest question marks are is where we see clients not understanding why there’s starting to be a discrepancy between the rates for people who are putting less than 20 per cent versus the people putting more than 20 per cent,” he says. “There’s starting to be a bit of a gap there between lenders.”
As you know, the amount you’ll pay in interest varies based on the interest rate you’ll get. There’s a wide variety of interest rates available in the marketplace, from short- and long-term variable rates, to short-and long-term fixed rates, to posted rates that are advertised by institutions like credit unions and banks. It can be confusing to know why there are differences between posted and discounted rates, but when you go to a lender, the rate that you get depends on a lot of factors, such as your debt ratios and credit report. If you’re a great borrower (on paper) then you may get the best – and lowest – rate offered by the lender. A difference in a portion of a percentage point may only represent $20 a month and not break the bank, but a combination of a rock bottom interest rate and a fat down payment can make a real difference when it comes to the actual cost of your mortgage, whereas a minimal down payment and a high interest rate could burn you in the end.
Although the standard or posted rate probably isn’t used much, it still exists, perhaps because that’s the rate that banks use to calculate the penalties charged when borrowers break their mortgage. The standard penalty is the greater of either three months’ interest or the interest rate differential (IRD) between the current interest rate on your mortgage and the rate that a lender could be getting for your mortgage, which is the higher posted rate. Different lenders have different ways to calculate penalties, and some lenders don’t even have posted rates, but the rate that you get could mean that your mortgage costs much more than you were anticipating.
If you’ve been renting a home before buying, as is the case with many first-time home buyers, then it may be tempting to compare your rent payment to your mortgage payment. That comparison isn’t accurate, however, and omits a lot of information.
“[First-time buyers] take a look at, ‘What am I doing now: I’m spending $1,500 a month in rent, so if I spend $1,500 in my mortgage payment, then it’s going to be the same, and that’s not the case,” says Rachael Beemer, mortgage broker and owner of My Better Mortgage™. “When you’re a homeowner, obviously, there’s expenses that go along with that that you don’t have as a tenant – the hot water tank goes or the bathroom toilet floods your main floor – it’s up to you to make that repair. So if you’re coming in with five per cent down and you don’t have a backup, you’re in a sticky situation.”
Experts tout the importance of saving a certain amount of money each year specifically reserved for home repairs and unforeseen costs such as those that specified by Beemer above. That percentage is anywhere from one to five per cent of the value of your home each year for home maintenance and repairs, and the percentage necessary is based on a number of factors, such as the age of the home, whether or not previous home owners took good care of the property, and the weather conditions where you live. You probably won’t use that reserve every year; some years will only require new filters in your furnace, for example, or replacing the weather stripping around doors or windows. Other years will require much more extensive maintenance, such as foundation repairs or the replacement of your roof.
There are also costs that go along with a mortgage that aren’t exactly hidden, but usually don’t factor into the calculations done by most borrowers when they think about getting a mortgage. One of the big thing is closing costs, which account for anywhere from 1.5 to five per cent of the sale price of your home. A full breakdown of closing costs includes legal fees, title searches, and various other items that are due at the time that you sign all of the papers and get the keys to your home. So if the purchase price of your home is $400,000, you’ll need to come up with anywhere from $6,000 to $20,000, depending largely on where you live. While different lawyers might charge slightly different fees for their services, pay close attention to what they’re offering. Closing is a very important process and you want a well-qualified, experienced – and hopefully recommended – attorney to do the job.
One of the fees due at closing is the land transfer tax, which can blindside home buyers. The amount of the tax this varies largely based upon the province where you live, and if you live in Toronto, you’ll have to pay an additional municipal tax. All provinces apart from Alberta and Saskatchewan levy this tax, and those two provinces instead require home buyers to pay another transfer fee, which is much smaller than its counterparts across the rest of the country. The amount of tax you pay is based on a number of things, but in most provinces it is at least based in part on the value of the land itself, as well as the condition of any of the buildings on the property. If you’re a first-time home buyer, there is some good news: Ontario, British Columbia, Prince Edward Island, and Toronto do offer rebates for the land transfer tax.
Remember: your monthly payment is not your bottom line!
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