To buy a home you need a mortgage. To get a mortgage you need a down payment. Down payment + mortgage = happily ever after. But, as with all good fairy tales, the journey is filled with dragons and appropriated treasure and trolls (also known as down payments and deposits and default-insurance).
Starting out on your homeseeking adventure can feel much like embarking on a quest for the keys to the kingdom. In the land of real-adult life, this mystical set of keys is known as a “down payment”, and if you don’t have the minimum required, no amount of infinity stones will get you the home that you have set your heart on.
Let's break it down.
First off – a down payment is NOT the same thing as a deposit. A deposit is the money you put down during the offering process. It makes your offer attractive and shows the seller that you are serious. It is usually 5% of the sale price, but there is no magic formula, it’s up to you to negotiate with the seller. The deposit is placed in a trust until closing and is included into the purchase amount as part of your down payment.
A down payment is the lump sum amount that you pay when purchasing a home. This amount is deducted by your lender from the total purchase amount of your new home and the difference between the two amounts becomes the amount of your mortgage. If anyone could please abracadabra a new synonym for amount, this paragraph would read far easier. Thanks.
The bare minimum.
Much like Alladin’s lamp, here's the rub: you can’t get a mortgage without a down payment. In 2008, the government outlawed zero down payment mortgages in Canada. The minimum requirement is 5% of your purchase price, for homes under $500,000. Homes between 500k and 1mil pay 5% on the first 500 and 10% on the balance up to a million. Over a million and you have to pay a full 20%. Ouch. Here's a little table on all that because big numbers make some of our brains feel bewitched.
Bigger is better.
Now, you don’t have to only put the minimum amount down. In fact, the bigger your down payment, the better your mortgage rate will be - and the more flexible your financing options. If you are able to pay a 20% down payment you avoid paying the mandatory mortgage default insurance (we’ll explain in a sec) from Canada Mortgage and Housing Corporation (CMHC).
The one insurance you can get out of.
CMHC insurance is applicable to all high-ratio loans (that means you if your down payment is under 20%). This insurance protects the lender against the risk of a borrower defaulting on payments.
CMHC insurance is a percentage calculation, based on your purchase price. It also factors in your down payment amount and decreases as that amount (seriously, this word) gets higher. It can be up to 4% of your total purchase price. In Ontario, Manitoba and Quebec, provincial sales taxes apply to mortgage loan insurance premiums, increasing the cost even more.
There are also a bunch of asterisks and considerations, as always.
- If you are not the fairest in the land (i.e. are self-employed or have poor credit history), you might have to pay a higher down payment amount.
- If you want to have a mortgage with a longer amortization period (fancy word that means life-span of a mortgage) than the standard 25-year offering (in other words, a 30-year mortgage), you will need to put down 20%.
- Don’t forget that you also have closing costs to consider, like land transfer tax, legal fees, and moving expenses. You need to factor those in when calculating how much you are able to put down for your deposit and down payment.
Some good news (for some).
There are home buying plans and incentives out there which can help if coming up with the cash is proving to be a challenge.
The Home Buyer’s Plan
The Home Buyer's Plan allows you to withdraw up to $35,000, tax-free, from your Registered Retirement Savings Plan (RRSP). You have to use this amount to buy or build a home that meets certain qualifying criteria. You have up to 15 years to repay the amounts you withdraw. There are risks involved, so make you know what you are getting into if you go this route.
First-time Home Buyer's Incentive
The government of Canada offers a shared equity mortgage for first-time home buyers which provides you with financing without interest. This reduces your monthly mortgage payment without you needing to increase your down payment. Again, there is fine print attached to the offer so make sure you understand the ins and outs before signing any dotted lines.
Hey Cindy, let’s get flexible
If you don’t have any savings for the down payment, but you have a brilliant credit score and sparkling clean record, you can qualify for a Flex-down mortgage. With this option, you can borrow the 5% down payment through a loan or line of credit separate from the mortgage. You will then need to be able to service both this loan and your mortgage, and you will need to cover the CMHC insurance, so it’s important to make sure you have the funds to pay off this type of down payment option.
A down payment is like needing to come up with a pot of gold in order to get your rainbow, and the task can seem overwhelming. But, if you know what to expect and if you diligently save you will get there. So take that first step on your quest. And then the next and next and next. You’ll get there, you’ll see.