Buying Your First Home – Down Payment Options & Pre-approvals
As a first time home Buyer, you probably have many questions, including the right down payment amount and whether you’ll be approved for a mortgage.
Homebuyers will generally need to have an appraisal of the property they are purchasing in order to obtain a firm approval of their purchase.
When it comes to deciding on the right down payment amount, there are a number of options to consider:
A conventional mortgage requires a down payment of at least 20% and is offered on both a fixed or variable interest rate mortgage. Conventional mortgages have the lowest carrying cost because they do not have to be insured against default. So while it may take longer to accumulate this type of down payment, it will also save on mortgage costs over the long run.
Low Down Payment Insured Mortgage
Most lenders now offer insured mortgages for both new and resale homes with lower down payment requirement than conventional mortgages – as low a 5%. Low down payment mortgages much be insured to cover potential default of payment; as a result, their carrying cost are higher than a conventional mortgage because they include the insurance premium.
Using Your RRSP as a Down Payment
Under the Federal Government’s Home Buyer’s Plan, first time home Buyers are eligible to use up to $25,000 in RRSP savings per person ($50,000 for couples) for a down payment on a home. The withdrawal is not taxable as long as you repay it within a 15 year period. To qualify, the RRSP funds you plan to use must have been in your RRSP for at least 90 days.
Choosing the Right Mortgage
Mortgage options can be confusing for first time home Buyers. Choosing what’s right for you depends on a number of factors, including your comfort with interest rate risk and when you plan to sell your home.
Some options to consider:
Fixed or Variable Rate?
When you take out a fixed rate mortgages, your interest rate will not change throughout the entire term of your mortgage. As a result, you’ll always know exactly what your payments will be and how much of your mortgage will be paid off at the end of your term.
With a variable rate mortgage, your rate is set at the start of each month so it can change from month to month.
Short or Long Term?
The term is the length of your mortgage agreement, which usually ranges from six months to 10 years. Often, the shorter term, the lower the interest rate.
Short term mortgages have a term of two years or less while long term mortgages’ terms are three years or more. A short term mortgage suits a Buyer who thinks interest rates will drop when their term is up. Buyers who believe that the current rates are reasonable and want to budget long term are often better suited to long term mortgages.
Open or Closed?
Open mortgages can be paid off at any time without penalty. Usually negotiated for very short terms with Buyers who plan to make lump-sum payments, they often don’t appeal to first time home Buyers. However, if you plan to sell your home in the near future, you might consider an open mortgage.
Closed mortgages don’t allow borrowers to pay back the loan before the maturity day without penalty. However, the interest rates for closed mortgages are often lower.
Reducing the CMHC fees on your purchase
When you require a mortgage for more than 80% of the purchase price of a property, that mortgage must be insured by Canada Mortgage and Housing (CMHC) or GE Mortgage insurance. The premium charged by these company`s decreases as the down payment increases. When you finance your property at 95%, a premium of 3.75% is added to the mortgage. By increasing the down payment to 10% of the purchase price the premium can be reduced to 2.5%. If you can put down 20%, you can avoid any additional insurance fee. Depending on your situation there are ways that you can structure this financing to avoid the CMHC or GE insurance premium.
Advantages of Bigger Down Payments
As mentioned above, when you put a 20% down payment on your purchase you can avoid the CMHC premium. More importantly the larger the down payment, the lower the amount of interest you will pay over the life of your mortgage. It is important to note that it may not be wise to stretch yourself to increase your down payment and end up borrowing on credit cards or a line of credit at a higher rate.
Bi-weekly and weekly payments
Most mortgages have the option to allow payments to be made on a weekly or bi-weekly basis. This option may be desirable for two reasons. The first is it can save you money as you can expect to pay off your mortgage about 4 years sooner. This can save you dramatically over the life of your mortgage. The other reason why these options are so popular is that if your employer pays you on a weekly or bi-weekly basis, you can simplify your budgeting by making the payment line up with the way you paid.
Making Extra payments
Paying extra amounts on your mortgage can make a big interest saving over time. When we select a mortgage company, privilege payments options are something that we look for. A 20% privilege payment will allow you to pay off up to $20,000 per year on a $100 000 mortgage. It is important that the privilege payment also be flexible to allow you to pay smaller payments on the mortgage and as often as you wish. An extra $1000 periodically paid on a mortgage can help you become mortgage free faster.