Getting pre-approved and connecting with a mortgage broker is an important first step in any home search. Before you make one of the biggest purchases of your life you should take the time to understand what your options are, especially if you are a first-time homebuyer getting newly acquainted with real estate and mortgage terminology. A mortgage broker will be able to help guide you to what is best for your circumstances, but in the meantime, here is an overview of the common types of mortgages available in Canada:

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Variable Rate Mortgages

A variable rate mortgage has an interest rate that fluctuates depending on the Bank of Canada’s prime interest rate. This means that as the BOC moves the prime rate up or down to address things like inflation, the interest rate on your mortgage also moves up or down – along with your monthly payments to cover the changing interest component. Variable rate mortgages are attractive because they typically have lower interest rates and perform better on a five-year term than fixed rate mortgages. They can be riskier because they come with the chance of higher monthly payments but you can choose a capped variable rate, meaning that the rate will not exceed a threshold established when you initially take out a mortgage.

A capped variable rate can help to avoid your trigger rate; a trigger rate is the point that the interest rate on your mortgage has increased so much that your entire mortgage payment is going towards the interest rather than the principal balance. You may need to renegotiate your terms to either increase your payments or switch to a fixed rate mortgage. You don’t necessarily need to wait to hit your trigger rate to switch to a fixed rate mortgage, you have the option to do so at any point if you feel it would better suit your situation. When switching to a fixed rate mortgage there are usually little to no penalties involved but you can’t shop around, your lender will simply switch you to their current fixed rate with the term being equal or greater to the time remaining on your current mortgage term.

Fixed Rate Mortgage

With a fixed rate mortgage your interest rate is set at the beginning of your loan and will remain the same for the entire loan term. Rates for fixed rate mortgages are linked to the bond market and tend to be based on the yield, the annual rate of return, of those bonds. When the bond yield rises so do fixed rate mortgages and when the yield falls fixed rates typically follow.

Atypical fixed rate mortgage has a 25-year amortization with a five-year term. In this case you would have 25 years to repay your loan and your interest rate is locked in for a five-year term, once the term is up you will need to renegotiate the interest rate with your lender.

Fixed rate mortgages offer stability that a variable rate can’t, with no surprises on monthly payments, but come at the cost of a higher interest rate and larger monthly payments. There is the option to switch from a fixed to variable rate mortgage, but you will usually incur a steeper penalty fee than when switching from a variable to a fixed rate.

Open, Closed, and Convertible Mortgage

When you take out a mortgage, an important option that you will want to consider whether the mortgage is open or closed. An open mortgage is a flexible mortgage that allows you to pay off your mortgage in part or in full before the end of the term by increasing your monthly payments or making an extra lump sum payment. There are no penalties to make these extra payments, but this flexibility usually comes at the cost of a higher interest rate.  

In a closed mortgage, the terms that outline how much you are allowed to pay back each year are determined at the outset of the loan and there are penalties if those terms are not followed, however it does come with the benefit of a lower interest rate. Your lender may allow some prepayments but any significant changes to the mortgage means you are breaking your contract and may incur penalties.

If you are not sure which one to choose, there is the option of a convertible mortgage which allows you to change from open to closed or vice versa at some point during the term. The convertible mortgage will generally have a lower interest rate than the open mortgage.  

Insured Mortgages

An insured mortgage is when your mortgage is covered by mortgage default insurance to protect the lender against default and foreclosure for owner occupied properties.  It is paid by the borrower and is mandatory for mortgages on new home purchases under $1,000,00 with less than a 20% down payment. The benefit to an insured mortgage is that you have the ability to buy a home with a smaller down payment and lenders can offer lower rates because they are now protected from default.

You do have the option to obtain insurance on a mortgage for new home purchases that are under $1,000,000 with a down payment that is over 20%. In this case the lender pays the insurance premium and can offer a lower rate because the mortgage is protected from default by insurance, but it won’t be as low as in a mandatory insured mortgage where the borrower is paying the premium.

An uninsurable mortgage occurs when you purchase either a non-owner-occupied single unit rental property, a purchase over $1,000,000, if it has an amortization over 25 years or if it is a refinance. Uninsurable mortgages offer rates that are slightly higher than insurable and cannot be insured whether the borrower or lender wants it to be.

How to Choose

The most important thing to do when choosing the best mortgage for you, is research to make an informed decision. There is no right or wrong choice - just the option that works best for you and your situation. Determine your monthly budget, shop around and make sure to pay attention to the fees and closing costs with each option. If you have any questions, please feel free to reach out. I am here to help!

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