Before you take your first step towards buying a home, it is important to determine what you can afford and then decide which mortgage type works best for you. Here are some basic mortgage terms that you need to know:
1) Types of Mortgages
There are two basic options to choose from: a conventional mortgage, which requires at least a 20 per cent down payment and a high ratio mortgage, which is designed for people who do not have the 20 per cent down payment. If you purchase a home with a high ratio mortgage, you will pay mortgage default insurance, which transfers the risk of the default from the lender to the mortgage insurer.
Mortgage insurance is not to be confused with mortgage life insurance. While both provide additional peace of mind for homebuyers, mortgage life insurance provides protection only in the event of death or serious long-term disability, not default.
2) Amortization Period
Both a conventional and high-ratio mortgage can have a variety of features, such as the amortization period, which is the length of time over which your entire mortgage is to be paid. Some people may choose a 15 year amortization if they want to own their home as soon as possible. Others prefer to stretch it to the maximum allowable 25 year amortization in order to have the flexibility to make lower monthly payments. A lower mortgage payment every month frees up money to cover other monthly expenses you may have.
3) Interest Rates
Another choice is whether to select a variable or fixed interest rate on your mortgage. A fixed interest rate mortgage has a pre-determined rate that will not change during the mortgage term (note, term length is different from amortization, and is typically three, five or ten years). Fixed interest rate mortgages help to protect you from market interest rate fluctuations, making it easier for new homebuyers to manage their budget. With a fixed interest rate your mortgage payments remain the same month to month so you don’t get any surprises. Variable interest rate mortgages have interest rates that are adjusted based on the prime interest rate set by the Bank of Canada. If the prime rate goes up, your interest may go up and that could affect your monthly mortgage payments. Conversely, if the prime rate drops, you could find that you are paying off more of your principal faster since your interest rate may be lower.