A mortgage enables individuals and families to spread the cost of real estate or homeownership over many years, making it more affordable to buy property. Taking a mortgage allows Canadians to invest in real estate, build equity over time, and benefit from potential property value appreciation, all while enjoying the stability and security of owning their own home. Here is a summary of five types of mortgages in Canada:
Fixed-Rate Mortgage
A fixed-rate mortgage is a mortgage in which the interest rate remains constant throughout its term, which is typically 1 to 10 years. Fixed-rate mortgages provide financial stability by protecting borrowers from fluctuations in interest rates. This leads to consistent monthly payments, helping homeowners budget more effectively. Borrowers of fixed-rate mortgages are insulated from the risk of rising interest rates, which can be especially reassuring for those with tighter budgets who might struggle with higher payments if rates were to increase. This is particularly important in a volatile economic environment. When interest rates are low, securing a fixed-rate mortgage allows borrowers to lock in these favourable rates for the term of the mortgage, potentially saving money over time compared to if rates were to rise. Fixed-rate mortgages tend to be ideal for individuals or families with a stable income who plan to stay in their home for a long period. The stability of payments matches their stable financial situation and long-term commitment to their home.
Variable-Rate Mortgage
In a variable-rate mortgage, the interest rate fluctuates with ranges in the prime rate. A typical term for a variable-rate mortgage is 3 to 5 years. In some cases, variable-rate mortgages may start with lower interest rates compared to fixed-rate mortgages, which can result in lower initial monthly payments. If market rates decrease, the interest rate on a variable-rate mortgage will also decrease, potentially lowering monthly payments and overall interest costs. However, if market rates increase, the interest rate on a variable-rate mortgage will also increase. When the economy is stable or when interest rates are expected to remain low or decrease, borrowers can benefit from lower rates and payments. A variable-rate mortgage may be suitable for borrowers who have the financial flexibility to handle potential increases in interest rates. It may also be ideal for homeowners who plan to sell or refinance their home within a few years. The lower initial rates can result in savings over the short-term, and they may not be as concerned about potential rate increases in the distant future.
Open Mortgage
An open mortgage allows for repayment of any amount of the principal at any time without incurring a penalty. This flexibility is a significant advantage for those who expect to make large lump-sum payments or pay off their mortgage early. Open mortgages typically have shorter terms, usually ranging from 6 months to a year. With an open mortgage, borrowers can refinance their mortgage or switch to a different lender without facing prepayment penalties. They may be ideal for borrowers who need a short-term mortgage solution while they transition to another financial situation, such as selling their home or awaiting a significant influx of funds. Open mortgages may also be beneficial for individuals with variable or uncertain income, such as freelancers or self-employed individuals, who may want the ability to make extra payments during high-income periods. Borrowers who anticipate changes in market conditions, such as a decrease in interest rates, might prefer an open mortgage, so they can switch to a better rate quickly without penalties.
Closed Mortgage
A closed mortgage is one that cannot be prepaid, renegotiated, or refinanced without paying a penalty. Closed mortgages typically offer lower interest rates compared to open mortgages and tend to have longer terms, lasting from 1 to 10 years. Closed mortgages provide a clear, structured payment plan over the term of the mortgage, helping borrowing plan their finances over a longer period. Closed mortgages may be suitable for borrowers who are looking to minimize their interest costs over the term of the mortgage, as closed mortgages generally offer lower rates than their counterparts. Borrowers who appreciate a disciplined approach to their finances may also prefer a closed mortgage, which has a structured repayment plan that fits into their long-term financial strategy.
High-Ratio Mortgage
High-ratio mortgages require a downpayment of less than 20% of the property’s purchase price, making it easier for individuals with limited savings to purchase a home. This allows many first-time buyers, who may not have had the time to save for a large downpayment, to enter the housing market. This type of mortgage requires homeowners to have mortgage default insurance to mitigate the lender’s risk. Since mortgage insurers provide a safety net for lenders, lenders become more willing to offer mortgages and competitive interest rates to borrowers with lower downpayments. Borrowers, such as young professionals who meet the income and credit requirements but lack the downpayment, might still qualify for a mortgage thanks to the backing of mortgage insurance, allowing them to buy a home and start building equity early. Additionally, for buyers who prefer to keep more cash on hand for other investments, emergencies, or expenses, a high-ratio mortgage allows for a lower initial cash outlay while still securing a home.
In Canada, a financial advisor can help you assess your financial situation and determine how much you can afford to borrow. They can guide you through different mortgage options to find the one that best suits your needs and help you understand the implications of each option. They can also assist in optimizing your financial strategy, ensuring you are prepared for associated costs and providing advice on managing your mortgage alongside other financial goals and investments.