In-Depth Notes on Mortgages

Mortgages Notes

Mortgage Overview

• Definition: Transfer of interest in the property to a creditor as security for payment of a debt, with borrower's right of redemption upon repayment.
• Characteristics:
• A mortgage is a loan specifically for buying property.
• It is typically a long-term contract, requiring repayment over many years.
• Lender retains the right to own the property if the borrower fails to make payments.
• The property serves as collateral for the loan.

Mortgage Participants

• Mortgagor: The homeowner who borrows money and retains possession of the property until fully paid.
• Mortgagee: The lender who has the title to the property until the mortgage is settled.

Key Mortgage Terminology

• Purchase Price: Total price of the home.
• Down Payment: Initial upfront payment made when buying a property.
• Equity: Value of the homeowner's interest in the property after outstanding debts.
• Amortization: Payment plan outlining loan repayment over time.
• Maturity Date: The date when the loan is due in full.
• Blended Payments: Payments that cover both principal and interest.

Types of Mortgages

• Conventional Mortgage: Requires at least 20% down payment; typically not insured.
• High-Ratio Mortgage: Down payment less than 20%; requires insurance by CMHC or equivalent institutions.
• Open Mortgage: Allows for prepayments without penalties; can be paid off anytime.
• Closed Mortgage: Must adhere to payment schedule; incurs penalties for early payments.
• Fixed Rate Mortgage: Interest rate remains constant over the term of the loan.
• Variable Rate Mortgage: Interest rate fluctuates with market rates; typically offers more flexibility for additional payments.

Down Payment Guidelines

• $500,000 or less: Minimum 5% of purchase price.
• $500,001 - $1.5 million: 5% on first $500,000 + 10% on balance.
• $1.5 million or more: Must be at least 20% down.
• Sources of Down Payment: Personal savings, RRSPs, gifts from relatives, and loans.

Total Cost of Home Ownership

• Influenced by down payment, interest rates, and amortization periods.
• Closing Costs: Legal fees, taxes, and miscellaneous expenses usually range from 1.5% to 4% of purchase price.
• Cash Outlays: Home inspections, deposits, and other upfront costs before closing.

Mortgage Repayment Details

• Amortization Period: Maximum duration is typically 25-30 years.
• Term Length: Duration the interest rate and payments are set (usually 6 months to 7 years).
• Prepayment Privilege: Allows for repayments without penalty (up to a certain percentage).
• Prepayment Penalties: Fees incurred for exceeding prepayment limits, typically the greater of three months’ interest or Interest Rate Differential (IRD).

Property Charges

• Lenders register a lien on the property; the first mortgage has priority over subsequent mortgages.
• Second Mortgage: A loan against the property where the first mortgage must be satisfied first.

Mortgage Features

• Options may vary by lender, including convertibility, portability, and cashback features.
• Convertibility: Switch from one term to another without penalty.
• Portability: Move the mortgage to a different property without penalty.
• Cashback: Additional funds for closing costs added to the mortgage.

Mortgage Refinance

• Involves paying off an existing mortgage by obtaining a new one, often to achieve better rates or access equity.
• Variants include progress draw for homes under construction.

Qualifying for a Mortgage

• Criteria: Assessment of property value and borrower's creditworthiness.
• 5 C’s of Credit Approval:
  1. Character: Credit history and employment stability.
  2. Capacity: Ability to repay based on income and existing debt (Debt-to-Income ratio).
  3. Capital: Net worth of the borrower.
  4. Collateral: Security such as the property itself.
  5. Condition: Purpose of the loan, interest rates, economic conditions.

Debt Ratios for Approval

• Debt-to-Income Ratio: Total debt relative to gross income; a lower ratio indicates a less risky borrower.
• Gross Debt Service Ratio (GDSR): Proportion of income dedicated to housing costs.
• Total Debt Service Ratio (TDSR): Limits total debt servicing costs relative to income.

Mortgage Stress Test

• Applies to new mortgages and refinances, requiring calculations based on higher rate thresholds to ensure affordability even if rates increase.

Mortgage Pre-Approval

• Process completed prior to house hunting, indicating the maximum amount a borrower can afford and locking in interest rates for a limited time.

Consequences of Default

• Default: Failure to meet mortgage payments
• Foreclosure: Legal action taken to reclaim the property by the lender.
• Power of Sale: Lender's right to sell the property due to default.