The Ultimate Guide to High-Ratio Mortgages in Canada
By Arthur Dubois | 08 Aug 2023 |
Buying a home is a dream for many Canadians, but the high cost of real estate can make it seem out of reach. That’s where high-ratio mortgages come in. If you’re a first-time homebuyer or have a limited down payment, a high-ratio mortgage might be the solution you’ve been looking for. In this comprehensive guide, we’ll walk you through everything you need to know about high-ratio mortgages in Canada, from understanding the basics to comparing them with conventional mortgages.
Understanding High-Ratio Mortgages
Definition of High-Ratio Mortgages
Let’s begin with the basics of high-ratio mortgages. In this type of mortgage, the loan amount exceeds 80% of the property’s purchase price. In simpler terms, it means that the down payment you make will be less than 20%.
High-ratio mortgages are a popular choice for many homebuyers, especially first-time buyers who haven’t saved up a substantial down payment. They allow borrowers to buy a home with a smaller upfront investment, making homeownership more accessible to a broader range of people and families.
However, it’s crucial to be aware of certain considerations with high-ratio mortgages. Since the loan-to-value ratio is higher, borrowers will have a larger mortgage debt compared to their initial investment. As a result, the monthly mortgage payments can be higher as well.
How High-Ratio Mortgages Work
High-ratio mortgages are designed to share the risk between the borrower and the lender. This means that both parties benefit in certain ways. For the borrower, they can take advantage of a lower down payment requirement, which makes it easier for them to enter the housing market. On the other hand, the lender is protected from potential defaults through a mandatory mortgage default insurance.
To get a high-ratio mortgage, the lender will assess your financial situation, taking into account factors like your income, credit history, and existing debts. They will also consider the property itself, such as its appraised value and location. Based on these factors, the lender will determine the maximum loan amount they are willing to provide, which will be a certain percentage of the property’s value.
If your down payment is less than 20% of the purchase price, you will be required to obtain mortgage default insurance. This insurance is provided by companies like the Canada Mortgage and Housing Corporation (CMHC), Sagen, and Canada Guaranty (more on that later). The cost of the insurance premium is typically added to your mortgage payments, which means you’ll have slightly higher overall housing costs.
Keep in mind that the mortgage insurance premium is calculated based on the size of your down payment. So, the more you can put down initially, the lower the premium will be. Although these premiums increase the overall housing cost, they also allow you to fulfill your dream of homeownership with a lower upfront expense.
Once your high-ratio mortgage is approved, and the necessary insurance is in place, you can proceed with purchasing your home. From that point forward, you’ll be responsible for making regular mortgage payments, which will include both the principal amount and the interest charged by the lender. As you continue to make your payments over time, you’ll build equity in your home and gradually reduce your mortgage debt.
Now that we have covered what high-ratio mortgages are in Canada, let us proceed by taking a look at some of the benefits and risks associated with high-ratio mortgages.
Benefits of High-Ratio Mortgages
High-ratio mortgages offer several advantages that make homeownership more accessible and attainable for individuals who don’t have a substantial down payment. Let’s explore some of these benefits in more detail.
Lower Down Payments
One of the main benefits of high-ratio mortgages is the lower down payment requirement. Conventional mortgages require a downpayment of 20% of more, but with high-ratio mortgages, you can purchase a home with a significantly lower down payment. Instead of having to save up a considerable amount of money, you only need to put down a fraction of the purchase price. This makes homeownership more accessible, especially for first-time buyers who may be struggling to save for a down payment while paying rent and other expenses.
With a high-ratio mortgage, you can take advantage of entering the real estate market sooner rather than later. By putting down a smaller down payment, you can allocate your savings towards other financial goals, such as emergency funds, investments, or home improvements. However, keep in mind that lenders will typically ask for a minimum down payment of 5%, meaning that you still need to make a starting contribution.
Lower Interest Rates
Another notable benefit of high-ratio mortgages is that they offer much lower interest rates. The reason behind this is that lenders require borrowers to have mortgage default insurance on high-ratio mortgages. This insurance safeguards the lender in case the borrower defaults, enabling them to provide borrowers with a reduced interest rate.
However, it’s essential to understand that despite the lower interest rates, high-ratio mortgages come with additional costs. Borrowers must pay mortgage default insurance premiums, which can increase the overall cost of the mortgage compared to conventional mortgages by the end of the amortization period. The table below showcases the different interest rates for high-ratio mortgages and conventional mortgages.
Mortgage Rates in Québec, August 2023
| Term | High-Ratio | Conventional |
| 1-Year Fixed | 6.24% | 6.44% |
| 2-Year Fixed | 6.09% | 6.34% |
| 3-Year Fixed | 5.74% | 5.79% |
| 4-Year Fixed | 5.39% | 5.39% |
| 5-Year Fixed | 5.21% | 5.24% |
Drawbacks of High-Ratio Mortgages
High-ratio mortgages can be an attractive option for homebuyers who have a smaller down payment. However, it’s important to be aware of the potential risks and considerations associated with these types of mortgages.
Limited Property Value
High-ratio mortgages typically have a property value limit of $1,000,000. This poses a significant drawback for high-ratio mortgages in Canada, which are designed to make homeownership more accessible for borrowers with lower down payments. However, the cap restricts the availability of this option for properties above the limit, especially in expensive housing markets like Vancouver and Toronto.
This limitation hampers affordability for prospective homebuyers, as they may struggle to find suitable properties within the capped range. Moreover, it exacerbates the divide between regions with soaring property prices and those with more affordable housing markets, limiting mobility and access to homeownership. At the moment, the average house price in Canada is around $700,000, while housing in areas like Vancouver and Toronto are well above the property limit for high-ratio mortgages.
Shorter Amortization Period
A shorter amortization period can be a drawback of high-ratio mortgages in Canada due to its impact on affordability and monthly payments. A shorter amortization period, typically 25 years or less, results in higher monthly payments. This can strain the financial capacity of borrowers, making it challenging to manage other expenses or save for the future. Additionally, a shorter term may restrict flexibility for borrowers, limiting their ability to refinance or access additional funds when needed, thus adding to the financial burden.
Conventional mortgages with a longer amortization period of up to 35 years allow borrowers to spread out their mortgage payments over a longer time period, resulting in lower monthly payments. However, a longer amortization period also means that borrowers need to pay more interest over the lifetime of their mortgage. Finding the right repayment period depends entirely on your financial situation and your future plans, so make sure to evaluate your strategy with a mortgage calculator.
Amortization Period Comparison
| Property Price | $300,000 | $300,000 |
| Down Payment | $60,000 (20%) | $60,000 (20%) |
| Interest Rate | 5% | 5% |
| Amortization Period | 25 years | 35 years |
| Monthly Payments | $1,403 | $1,211 |
| Total Payment | $420,905 | $508,725 |
Mortgage Default Insurance Requirements
Another risk to consider is the requirement for mortgage default insurance. When you have a high-ratio mortgage, meaning your down payment is less than 20% of the home’s purchase price, you’ll need to pay for mortgage default insurance. This insurance protects the lender in case you default on your mortgage payments.
While mortgage default insurance provides an opportunity for homeownership with a smaller down payment, it’s essential to understand the financial implications. You’ll need to pay mortgage insurance premiums, which can be a significant additional expense over the life of your mortgage. It’s important to factor in these insurance premiums when calculating the affordability of your monthly payments and the total cost of your mortgage.
One important point to keep in mind is that the premium for mortgage default insurance depends on the size of your down payment. Below, we have a table illustrating the variations in these premiums when using CMHC as the provider.
Property Price of $300,000 with CMHC Mortgage Default Insurance
| Down Payment | 5% | 10% | 15% |
| Initial Mortgage | $285,000 | $270,000 | $255,000 |
| Insurance Premium | $11,400 | $8,370 | $7,140 |
| Total Mortgage | $296,400 | $278,370 | $262,140 |
Getting Mortgage Default Insurance for your High-Ratio Mortgage
As mentioned above, mortgage default insurance can be a downside of high-ratio mortgages, so it’s important to delve into the details of what this insurance entails, the eligibility criteria for it, and which institutions offer it in Canada.
Eligibility Criteria
To qualify for mortgage default insurance, borrowers must meet specific criteria. Although the requirements may vary among different insurers, there are four main conditions that apply universally.
The property must be for the borrower’s personal use, and the down payment must be between 5% to 19.99% of the purchase price. If the down payment is 20% or more, mortgage default insurance is not required.
The maximum allowable total debt service (TDS) ratio to apply for a mortgage default insurance is 44%. TDS is the percentage of your monthly household income that covers your housing costs plus any other debts. Then there is also the gross debt service (GDS) ratio, which should be no more than 39%. GDS is the percentage of your monthly household income that covers only your housing costs, and does not include any other debts like the TDS ratio.
The borrower’s creditworthiness is also a crucial factor in determining eligibility. A good credit score of at least 600 is typically required, and a clean credit history is preferred. For this reason, it is generally advised to get your credit score for free in Canada before applying for a high-ratio mortgage with mortgage default insurance.
Lastly, the maximum allowable amortization period for a mortgage default insurance is 25 years. Conventional mortgages that have an amortization period of up to 35 years do not require mortgage default insurance.
Mortgage Default Insurance Providers
Now that we know what the eligibility criteria is for mortgage default insurance, let’s take a look at the three mortgage default insurance providers in Canada.
Canada Mortgage and Housing Corporation
The Canada Mortgage and Housing Corporation (CMHC) is a vital federal institution that plays a pivotal role in the Canadian housing market. Established in 1946, it operates as a government-owned Crown corporation. CMHC’s primary objective is to promote housing affordability and accessibility for all Canadians. The organization provides mortgage default insurance, securitization, and affordable housing solutions, ensuring stable financial markets and assisting first-time homebuyers.
Sagen
Sagen, formerly known as Genworth Canada, is a prominent private mortgage insurer in Canada. Established in 1995, it plays a crucial role in the country’s real estate market. Sagen’s primary function is to provide mortgage default insurance to homebuyers, enabling them to secure home loans with a lower down payment. This vital service fosters homeownership by mitigating risks for lenders and borrowers alike. Sagen’s presence ensures a stable and accessible housing market, facilitating affordability for first-time buyers and bolstering the overall economy.
Canada Guaranty
Canada Guaranty is a leading provider of residential mortgage insurance in Canada. Established in 2010, the company plays a crucial role in the Canadian housing market by providing mortgage default insurance, protecting lenders and borrowers against potential financial risks. With a customer-centric approach, Canada Guaranty offers innovative and flexible insurance solutions tailored to meet the diverse needs of homebuyers. They are committed to supporting responsible homeownership and fostering a stable housing market. As a privately-owned mortgage insurer, Canada Guaranty has gained a strong reputation for its financial strength, exceptional service, and expertise.
The Process of Applying for a High-Ratio Mortgage
Applying for a high-ratio mortgage can be an exciting but also nerve-wracking process. It’s important to understand the steps involved and gather all the necessary documentation to increase your chances of approval. In this section, we will delve into the eligibility criteria and required documentation for a high-ratio mortgage application.
Eligibility Criteria
Before starting the application process, it’s crucial to ensure that you meet the eligibility criteria set by lenders. These criteria are designed to assess your financial stability and ability to repay the loan. One of the primary requirements is having a good credit score. Lenders typically prefer borrowers with a credit score of 680 or higher, as it demonstrates a responsible credit history, but borrowers can get a mortgage with a credit score of 600 as well.
In addition to a good credit score, lenders also consider your employment and income stability. They want to see that you have a steady job and a reliable source of income to ensure you can make timely mortgage payments. Typically, lenders require a minimum of two years of employment history in the same field or industry.
Another important factor in determining your eligibility for a high-ratio mortgage is your debt-to-income ratio. This ratio compares your monthly debt payments to your monthly income. Lenders usually have specific guidelines regarding the maximum allowable debt-to-income ratio, which is typically around 44%. It’s essential to calculate your own debt-to-income ratio before applying to ensure you meet the lender’s requirements.
Required Documentation
Once you’ve determined that you meet the eligibility criteria, the next step is gathering the required documentation to support your application. Providing accurate and comprehensive documentation is crucial to streamline the application process and increase your chances of approval.
One of the most important documents you’ll need to provide is proof of income. This can include recent pay stubs, tax returns, and employment contracts. Lenders want to see that you have a stable income that can cover your mortgage payments. If you’re self-employed, you may need to provide additional documentation, such as business financial statements or a letter from your accountant.
Bank statements are another essential document that lenders will request. These statements provide a snapshot of your financial situation, including your savings, checking accounts, and any outstanding loans or debts. Lenders want to see that you have enough funds to cover the down payment and closing costs, as well as a reserve for unexpected expenses.
Lastly, you’ll need to provide a list of your assets and liabilities. This includes any properties you own, investments, vehicles, and outstanding debts such as credit cards, student loans, or car loans. Lenders want to assess your overall financial position and determine if you have the ability to manage your debt responsibly.
Overall, applying for a high-ratio mortgage requires careful preparation and organization. By understanding the eligibility criteria and gathering all the necessary documentation, you can navigate the application process with confidence. Remember to consult with a mortgage professional who can guide you through the process and compare mortgages in Canada to find one that best suits your needs.
Stress Testing
Once you meet all the eligibility criteria and gather the necessary documents, you’ll be required to undergo a mortgage qualifier test. This stress test is mandated by federally regulated entities, such as banks, when applying for a mortgage. Its purpose is to assess whether you can manage regular payments at a higher interest rate than what’s stated in your mortgage agreement. Typically, the stress test rate is either 5.25% or the interest rate you negotiated with your lender plus 2%, whichever is higher. Even if you already have a mortgage, you’ll still need to pass the test if you wish to refinance your home, switch to a new lender, or take out a home equity line of credit.
High-Ratio Mortgages in Canada: The Bottom Line
High-ratio mortgages have helped many Canadians achieve their dream of homeownership. With a lower down payment requirement, they make it possible for first-time buyers and those without substantial savings to enter the housing market. However, it’s crucial to understand the risks and costs associated with high-ratio mortgages, such as higher monthly payments and mortgage default insurance requirements. Luckily, it’s easy to calculate your mortgage insurance in advance so that you know what to expect.
Before making a decision, take the time to explore your options, compare high-ratio mortgages with conventional mortgages, and seek professional guidance. With the right knowledge and careful consideration, you will know how to choose a mortgage in Canada.
FAQs About High-Ratio Mortgages in Canada
In Canada, a high ratio mortgage refers to a mortgage loan where the borrower provides a down payment of less than 20% of the home’s purchase price. As a result, the loan-to-value ratio is higher, and lenders often require borrowers to obtain mortgage default insurance to protect against potential default. This type of mortgage is common for first-time homebuyers or those with limited funds for a down payment.
A closed mortgage is a mortgage with specific restrictions. When you choose a closed mortgage, you commit to keeping it for a set term, such as 1, 2, or 5 years. During this term, if you wish to make significant changes like paying off the mortgage early or refinancing with a different lender, you might incur penalties or charges. On the upside, closed mortgages usually come with lower interest rates.
High-ratio mortgages usually come with lower interest rates because they involve mortgage default insurance, which protects the lender in case the borrower defaults on the loan. Since mortgage insurance reduces the lender’s risk, they are more inclined to offer lower interest rates to the borrower.
In Canada, individuals are prohibited from having more than one insured mortgage for residential purposes, which means you cannot obtain a high ratio mortgage for a second home. However, there is no specific restriction on the number of conventional mortgages you can have. The limit on conventional mortgages depends entirely on the mortgage provider’s policies and your financial circumstances.
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