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Radoslav Dimitrov

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Mortgage default insurance for low-ratio loans

10/27/2017

Say hello to the mortgage default insurance across the board when you are shopping for lower rates.  The common belief that you are not going to pay mortgage insurance if you put 20% down is not necessarily true nowadays.

Although so called low-ratio mortgages (Loan-To-Value 80% or less) are not required by law to carry mortgage default insurance (a.k.a. conventional mortgages) the lower interest rates on the market are mainly for Insured mortgages, and when I say “Insured” I mean loans for which the lender passes the insurance payments on to you, known as “transactional insurance”.

The interchangeable meaning of the terms conventional mortgage and low-ratio mortgage as it used to be is fading.  Well, it was not correct anyway.  By definition a conventional mortgage is a home loan that is not guaranteed or insured by the government. Beside Uninsurable (mortgage not eligible for insurance) low-ratio mortgages can be Insured (borrower pays the insurance) or Insurable (lenders may insure the mortgage themselves).  So, conventional are only the low-ratio insurable but not insured by the government mortgages.

Conventional mortgages have higher interest rates in general and if before when you put 20% or more down-payment it was almost standard to consider you are getting either conventional or bulked insured by the lender mortgage recently more and more lenders segregate their low-ratio loan products to lower interest rate Insured and higher interest rate Insurable and Conventional mortgages.

Looks like you have more options now and you can choose lower rate insured or higher rate conventional not pay any insurance, but let’s not talk hypothetically, let’s do the math.

Assuming you purchase a property for $500,000. You do not want to pay the recently raised 4% mortgage insurance for high-ratio 95% LTV mortgage and you want to put 20% down-payment to get low-ratio 80% LTV mortgage. You find this great 3.04% 5 year fixed rate and you are ready to proceed when you realize that you have to pay 2.4% insurance on the mortgage anyway if you want this rate (not 4% but still…)  In order not to pay any insurance you have to go with 3.49% 5 year fixed.  And the question comes: Why would I put 20% down and still pay insurance for the rate I like and is it worth going with the higher conventional rate?

For the above scenario if you go with 3.04% insured you will have to pay mortgage insurance premium of $9,600.  When added to the mortgage you total monthly payment would be $1,946.83, comparing to $1901.20 if you didn’t have to pay insurance for the same 3.04% rate ($45.63 more per month).

If you go with the 3.49 % uninsured your monthly payment would be $1,994.97 - $48.14 more per month comparing to the insured 3.04% monthly payments.  It is true that part of this difference will go toward your principal, or back in your pocket, but is it worth it?

Let’s see.  In the first case with the insured loan in the end of the 5 year term you would have paid in total $116,809.80 from which $57,582.42 in interest and $59,227.38 toward your principal. You remaining balance – $350,372.62.  In the second case the numbers are:  total payments $119,698.20  - $64,754.99 in interest and $54,943.21 principal, with outstanding balance $345,056.79.  As you can see, if you go conventional you would save $5,315.83 in outstanding balance, but you would pay $7,172.57 more in interest, so you tell me…  True that on the $9,600 insurance premium you have to pay taxes, 13% HST in Ontario or $1,248, on top of the insured mortgage payments but even those you would end up paying $608 more in the case of the conventional mortgage.

These calculation are done with real rates from a real lender and I chose their lowest rates in both cases – the insured and the conventional products.  It is possible that you may find slightly better conventional 5 year fixed rate with another lender. The difference in the final results will not be that significant but at least you will not be on minus $608 at the end of the day and you may even save a thousand or two, which is not the big deal here.   The big deal with conventional mortgages is that you would qualify easier on the real contractual rate (3.49% in the case above) rather than on Bank of Canada’s benchmark rate (currently 4.99%) for any insured mortgage.  However, with the last mortgage changes the financial minister announced, which will be introduced on the first day of the New Year, this is not going to be the case anymore.  Starting 1st of Jan, 2018 all mortgages must qualify on the benchmark rate or the contractual rate + 2% - whichever is worse (greater).   Yes, I know, these 200 bps (2%) look really like a randomly thrown number to gear the qualification process to a certain level of difficulty :)

For a closing statement I’ll just suggest that you do not have to worry too much about paying or not mortgage default insurance, if the math works for you.  Ask your mortgage broker to do the analysis for you and choose the product that fits your needs.

 

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