Plus: The difference between a high ratio and a low ratio mortgage
Whether you are hoping to purchase a home in Toronto, Calgary or Vancouver, you will have to crunch a lot of numbers to maximize affordability. At this stage, it is critical to account for your household income, your long-term financial goals, your debt obligations and your monthly bills. Another important consideration you will need to make is the size of your down payment. That is where high ratio mortgages come in.
Here are some important factors to weigh before you buy your dream home.
What is a high ratio mortgage?
A high ratio mortgage is when a borrower makes a down payment of under 20% of the purchase price of a house. In other words, a high ratio mortgage is a mortgage with a loan-to-value ratio over 80%. A conventional mortgage, on the other hand, is a mortgage wherein the borrower pays over 20% on the down payment.
If you get a high ratio mortgage, you will need mortgage insurance, which can generally be bought by the lender through three Canadian default insurers: Genworth Financial, Canada Mortgage and Housing Corporation, and Canada Guaranty.
Since there is less immediate equity in the home, high ratio mortgages are seen as bigger risks for banks. It could be harder for banks to recoup the loss in total in the event of a default, which is why the federal requirement of mortgage insurance has become law.
A high ratio mortgage can still be bought with a down payment as low as 5% of the purchase price, thanks to mortgage insurance. The housing market is open to far more people because of homebuyers utilizing mortgage insurance as a replacement for a larger down payment.
How does it work?
A high ratio mortgage allows you to buy a home with a down payment as low as 5%. With a high ratio mortgage, you put down over 80% of the value of the property. In other words, you have a high ratio mortgage if you purchase a property and make a down payment under 20%.
However, low ratio mortgages, which are sometimes referred to as conventional mortgages, are for less than 80% of the value of the property. A down payment of more than 20% is needed for it to be considered a low ratio mortgage.
Read more: Down payment on a house: How much should you pay?
Compared to a low ratio mortgage, a high ratio mortgage essentially means that you are borrowing more money. This makes those mortgages riskier for lenders, meaning mortgage loan insurance is extremely important for most mortgage lenders, like credit unions and banks, when dealing in high ratio mortgages.
High ratio mortgage vs conventional mortgage
One major difference between high ratio mortgages and conventional mortgages is that mortgage loan insurance is necessary for the former and not required for the latter. Canada Mortgage and Housing Corporation (CMHC) and other private insurers offer mortgage insurance in Canada. But this type of insurance is not free of charge—you are required to pay CMHC mortgage insurance premiums that are calculated based on your mortgage’s loan-to-value ration.
The loan-to-value ratio, or LTV, of your mortgage is the appraised value of the home or the purchase price compared to the dollar amount that you want to borrow. The loan-to-value ratio of your mortgage would be 90%, for example, if you made a 10% down payment on the house. Your loan-to-value ratio would be 80% if you made a down payment of 20%.
It is a high-ratio mortgage if the loan-to-value ratio of your mortgage is higher than 80%. In Canada, the minimum down payment required is 5% for properties that cost under $500,000. You would have a maximum allowed loan-to-value ratio of 95% if you made a 5% down payment.
Is a high ratio mortgage cheaper than a low ratio mortgage?
Homebuyers in Canada must pay at least a 5% down payment on a house with a price tag of $500,000 or lower. That amount leaps to 10% for any house priced at over $500,000 and as high as $1 million. If you are looking to purchase a property in Canada that is more than $1 million, you will be required to pay at least 20% down.
A high ratio mortgage is required for any homebuyer is purchasing a home and paying less than 20% down. If you as a borrower have a high loan-to-value ratio of between 80-95% and between 5-20% equity paid into the home, that would require a high ratio mortgage. If, on the other hand, you buy a home with more than 20% down, you would require a low ratio mortgage.
