Do you know if you are financially ready to be a home owner? Have you made an action plan before you go out house hunting?
The Canadian Mortgage and Housing Corporation (CMHC) offers guides to help you through some simple calculations to assess your current financial situation, and the best home price that you should consider.
STEP 1: CALCULATE YOUR HOUSEHOLD EXPENSES
The first step is to figure out your financial situation by reviewing your current household budget.
Do you know how much are you spending each month? Are you spending on things that you can cut back on to save money? If you know exactly how much, you get a better idea about what you can afford as a homeowner.
The CMHC Household Budget Worksheet or the CMHC Household Budget Calculator helps give you the ability to chart and make a review of your current monthly expenses.
Or, you may also use the CMHC Household Budget Calculator to complete your current household budget now.
STEP 2: CALCULATE YOUR MONTHLY DEBT PAYMENTS
How much debt are you currently carrying? This is important information you need in order to figure out whether you are financially prepared for home ownership. Mortgage Lenders will ask you for all information on your current debts (e.g. Credit Cards, Car Payments, Student Loans, Other Loans, Mortgages, etc.) in order to determine how much of a mortgage you may qualify for.
STEP 3: CALCULATE YOUR MONTHLY EXPENSES
Total Monthly Expenses are (A) Household Expenses (e.g. utilities, groceries, gas, etc.) PLUS (B) your current Debt Payments, which EQUALS (C) your Total Monthly Expenses.
Simply put: (A) Household Expenses + (B) Debt Payments = (C) Total Monthly Expenses
STEP 4: HOW MUCH CAN YOU AFFORD?
The first rule you need to learn is what your monthly housing costs (i.e. Mortgage Payments) which consist of 4 key items: Principal, Interest, Taxes and Heating (PITH).
PITH is explained as follows:
Principal – is the amount that pays down your mortgage debt;
Interest – is the amount of interest paid on the borrowed mortgage debt (ammoritized over a period of time);
Taxes – is the amount of property taxes you have to pay on the property;
Heating – is the cost of heating and cooling your home.
In addition to purchasing the home, other significant expenses will include home maintenance, repairs and any renovations as required.
There are two simple affordabilty rules that people you can use to help you figure out the most realistic amount that you can pay to afford your home. These two rules are essential to understand in order to get a Mortgage.
Affordability Rule 1
The First Rule is that your monthly housing costs shouldn’t be more than 32% of your Gross Monthly Income. To be considered for a Mortgage, your GDS must be 32% or less of your gross household monthly income.
NOTE: If you are thinking of buying a condominium or other form of leasehold tenure, you need to include Condominium Fees or the Annual Site Lease Costs in your PITH calculations.
Lenders use a term called called your Gross Debt Service (GDS) ratio (or Debt Service Coverage) which figures out what percentage they are of your Gross Monthly Income.
Affordability Rule 2
The Second Rule (and most important) is that your entire monthly debts should not exceed more than 40% of your Gross Monthly Income.
NOTE: Your Entire Monthly Debt Load EQUALS (A) your housing costs (PITH) PLUS (B) all your other debt payments (Credit Cards, Car Payments, Student Loans, Other Loans, Mortgages, etc.). This figure is called your Total Debt Service Ratio (TDS).
Simply Put: (A) Housing Costs (PITH) + (B) Other Debt Payments = Total Debt Service Ratio.
This is calculated on the CMHC Monthly Debt Payments Form.
STEP 5: YOUR MAXIMUM HOUSE PRICE
Calculating the maximum home price that you can realistically afford depends on several important factors. The most important factors are:
1) your household gross monthly income;
2) your down payment;
3) the mortgage interest rate.
Saving for the necessary down payment is the hardest part of buying any home, especially your first one.
Calculate Your Maximum House Price
The CMHC Mortgage Affordability Calculator can assist you to figure out what the maximum home price and mortgage (including principal and interest payments) you can afford.
STEP 6: CALCULATING YOUR MORTGAGE COSTS
Things to keep in mind:
1. Interest is generally Compounded. Compound interest is interest added to the principal of a deposit or loan so that the added interest also earns interest from then on.
2. The CMHC Mortgage Calculator is for general illustrative purposes only and makes projections based on assumptions only. They do include for the payment of CMHC Insurance Premiums or any applicable sales taxes, land transfer taxes, closing costs, or other fees that may be required.
CMHC Mortgage Loan Insurance:
CMHC Mortgage Loan Insurance protects lenders against any mortgage default by the borrower. This enables consumers to purchase homes with a minimum down payment of 5% for properties with a purchase price below $1,000,000. However this amount varies and affects the interest rate that may be applied, see the CMHC General Requirements for more information.
CMHC Mortgage Loan Insurance premium is calculated as a percentage of the loan and is based on the size of your down payment. The higher the percentage of the total house price/value that you borrow, the higher percentage you will pay in insurance premiums. The cost for Mortgage Loan Insurance premiums is usually offset by the savings you get from lower interest rates.
NOTE: Premiums in Ontario and Quebec are subject to provincial sales tax. The provincial sales tax cannot be added to the loan amount.
STEP 7: GET A COPY OF YOUR CREDIT HISTORY
Get a Copy of Your Credit Report
Lenders want to know how you have managed your debts in the past prior to approving you for a mortgage. Your credit history report is provided from a credit bureau (e.g. Equifax, TransUnion, etc.) and this gives them a detailed history of your financial history and debt management. You can contact either one of them to get a copy of your credit report. There is often a fee for this service. Once you receive your credit report, examine it to make sure the information is complete and accurate.
ISSUE 1: If you have no credit history, it is important that you start building prior to applying for a mortgage. For example, Banks offer Low-Interest Credit cards with small limits that you can use to make purchases and pay them off as soon as the bill comes in
ISSUE 2: If you have a poor credit history, lenders might not be willing to give you a mortgage loan. You will then need to re-establish a good credit history by making debt payments regularly and on time. Most unfavourable credit information (including bankruptcy) drops off your credit file after seven years.
If you are unsure about your credit history or have poor credit, talk to your lender to discuss any options or seek a credit counselor for advice.
STEP 8: GET A MORTGAGE PRE-APPROVAL
It’s a very good idea to get a pre-approved mortgage before you start shopping. In fact, most reliable realtors will ask if you’ve been approved.
Lenders will look at basic information of your finances and figure the amount of mortgage you can afford. The Lender will then give you a written confirmation, commonly called a Mortgage Pre-Approval Certificate or a Letter of Intent with an interest rate (which may be guaranteed or fixed for a maximum of 3 months from the Certificate).
VERY IMPORTANT NOTE: A pre-approved mortgage is not a guarantee of being approved for the mortgage loan. As the old saying goes, it is only worth the paper its printed on. Approval of a mortgage requires a more in depth look at your financial history.
Even if you haven’t found the home you want to buy, having a pre-approved mortgage amount will help keep a good price range in mind.
When you go to meet you Mortgage Lender representative , it is important to bring these items with you the first time you meet with a lender:
- Your personal information, including identification such as your driver’s license
- Details on your job, including confirmation of salary in the form of a letter from your employer
- All your sources of income
- Information and details on all bank accounts, loans and other debts
- Proof of financial assets
- Source and amount of down payment and deposit
- Proof of source of funds to cover the closing costs (these are usually between 1.5% and 4% of the purchase price)
STEP 9: LEARN HOW TO MAKE YOUR MORTGAGE WORK FOR YOU
Your lender or broker will offer you several choices to help find you the mortgage that best matches your needs. Here are some of the most common.
FIRST THING: TYPES OF INTERESTS
Amortization refers to the length of time you choose to pay off your mortgage. Mortgages typically come in 25-, 30- or 35-year amortization periods but they can be as short as 15 years, if you elect. Remember, the shorter the period, the higher the principal repayments on the mortgage will be (i.e. you will pay less interest over the amortization period) and the longer the amortization period, the smaller the principal repayments are (i.e. that you will pay more interest over the amortization period)
NOTE: As of 9 July 2012, the maximum amortization period allowable on a CMHC Insured Mortgage is 25 years. .
You have the option of repaying your mortgage every month, twice a month, every two weeks or every week. You can also choose to accelerate your payments. This usually means one extra monthly payment per year. This can affect how much interest you may pay over the amortization period of your mortgage loan.
You will have to choose between “fixed”, “variable” or “protected (or capped) variable”.
FIXED RATE: A fixed rate will not change for the term of the mortgage. This type carries a slightly higher rate but provides the peace of mind associated with knowing that interest costs will remain the same.
VARIABLE RATE: The interest rate you pay will fluctuate with the rate of the market. Typically may not change the overall amount of your mortgage payment, but does change the portion of your monthly payment that goes towards paying interest costs or paying your mortgage (your principal repayment). So, if interest rates go down, you end up repaying your mortgage faster. If interest rates go up, more of the payment will go towards the interest and less towards repaying the mortgage. This option means you may have to be prepared to accept some risk and uncertainty.
PROTECTED VARIABLE RATE: The interest rate of the mortgage has a maximum rate determined in advance. Even if the market rate goes above the determined maximum rate, you will only have to pay up to that maximum.
Use the CMHC Mortgage Calculator to determine the best mortgage payment options for you.
DISCLAIMER: The CMHC Mortgage Calculator is for general illustrative purposes only and makes projections based on assumptions only. TThe amounts it projects are based upon assumptions and estimates made according to generally accepted principles for mortgages in Canada. CMHC cannot guarantee the projections. Actual payment amount must be obtained from your lender. Neither CMHC nor any of its advisors shall have any liability for the accuracy of this information.
SECOND THING: YOUR MORTGAGE TERM
The term of a mortgage is the length of time for which includes agreed upon options (e.g. interest rate). Mortgage Terms can be as short as 6 months or as long as 5 years or even more. The Maturity Date, is the time when your mortgage is up and you will then have the ability to renegotiate your mortgage terms (and the interest rate of that time) and choose the same or different options.
A) “OPEN” MORTGAGE: An open mortgage allows you to pay off your mortgage in part or in full at any time without any penalties. You may also choose, at any time, to renegotiate the mortgage. This is a more flexible option but typically comes with higher interest rates. This option is best if you plan to sell your home in the near future or to make large additional payments.
B) “CLOSED” MORTGAGE: A closed mortgage has a lower interest rate but doesn’t have any flexibility of an open mortgage. Typically most lenders will allow a maximum annual pre-payement of the principal without penalties (e.g. you are allowed to make extra payments to pay down the principal of the mortgage). Closed mortgages are the most common.
STEP 10: UP FRONT COSTS OF BUYING A HOUSE
There are many up-front costs when you buy a home and some not commonly thought of. Early planning will help make sure things go smoothly.
A) DOWN PAYMENT: Is the part of the home price that does not come from the mortgage loan. The down payment comes from your own money. You can buy your home with a minimum down payment of 5%, if you have mortgage loan insurance from CMHC. You need a down payment of at least 20% for a conventional mortgage.
B) DEPOSIT: Is paid when you make an Offer to Purchase to show that you are a serious buyer. The deposit will form part of your down payment with the remainder owing at time of closing. If for some reason you back out of the deal without having covered yourself with purchase conditions, such as financing, home inspection, etc., your deposit may not be refundable and you may be sued for damages. The size of the deposit varies. Your realtor or lawyer / notary can help you decide on the amount.
C) APPRAISAL FEE: An appraisal is an estimate of the value of the home. Your mortgage lender require an appraisal of the value of the home from a recognized appraisal in order to complete a mortgage loan. Typically they use their own approved party. The cost is typically between $250 and $350 and must be paid when you contract for those services.
Is is always a good idea to have your own independent appraisal done on a property before you make an offer or as a condition of the offer. The appraisal will advise you what the property is worth and help ensure that you are not paying too much.
The appraisal should include:
- Assessment of the property’s physical and functional characteristics
- Analysis of recent comparable sales
- Assessment of current market conditions affecting the property
Ask your realtor or other member of your team to help you find an appraiser or see our referrals page.
D) MORTGAGE LOAN INSURANCE PREMIUM: Mortgage loan insurance lets you buy a home with a minimum down payment of 5% on purchase prices of less than $1,000,000. If you make less than a 20% down payment, you have a high-ratio mortgage, of which most Canadian Lending Institutions will need mortgage loan insurance. The Insurance protects the Lender if the borrower defaults or fails to pay on the mortgage, and the lender is paid back by the insurer. The Premium is paid by you for the mortgage loan insurance. Your lender will add the mortgage loan insurance premium to your monthly payments, or ask you to pay it in full upon closing.
E) MORTGAGE BROKER’S FEE: If you decided to use a mortgage broker, whose job is to find you a lender with the terms and rates that will best suit you, the mortgage broker will charge an applicable fee, which payable by you.
F) HOME INSPECTION FEE: It is recommended by Mister Real Estate Lawyer and CMHC, that you make a home inspection a condition of your Offer to Purchase (although market conditions may alter your ability). Home Inspections are done by a qualified home inspector to provide you with as much accurate information on the condition of the home. It can typically cost about $500, but will vary depending on the age, size and complexity of the house and the condition that it is in.
G) SURVEY OR CERTIFICATE OF LOCATION COSTS: The mortgage lender may ask for an up-to-date survey or certificate of location. Ask the seller if it has a survey, but it is more than five years old, it will probably need to be updated. You should ask the seller for any updated survey if it appears that there are any new additions, deck or fences that have been built near the property line. If the seller does not have one, or does not agree to get one, you may have to pay for it yourself but will only be able to do so with the permission of the property owner before obtaining the survey, which can be coordinated through your realtor. A survey or certificate of location can cost $1,000 to $2,000.
H) TITLE INSURANCE: Your lender, lawyer, or notary may suggest that you get title insurance. This will cover loss caused by defects of title to the property.
I) LAND REGISTRATION FEES: Land Registration fees are sometimes called Land Transfer Tax, Deed Registration Fee, Tariff or Property Purchases Tax. In some provinces and territories, you may have to pay this provincial or municipal charge when you close the sale. The cost is a percentage of the property’s purchase price. Check on the internet or with your lawyer (or notary) or other team member to find out about the current rates. These fees can cost a few thousand dollars.
J) WATER TESTS: If the home has a well, you will want to have the quality of the water tested to ensure that the water supply is adequate and the water is drinkable. You can negotiate these costs with the vendor and list them in your Offer to Purchase.
K) SEPTIC TANK: If the house has a septic tank, it should be professionally checked to make sure it is in good working order. You may negotiate the cost with the vendor and list it in your Offer to Purchase.
L) CONDO STATUS CERTIFICATE OR ESTOPPEL CERTIFICATE: This applies if you are buying a condominium, or strata unit, and could cost up to $100. Also called a Status Certificate it outlines the standing of the Condominium owner and a condominium corporation’s financial and legal state. NOTE: This does not apply in Quebec.
M) PREPAID PROPERTY TAXES AND/OR UTILITY BILLS: Property taxes are charged by the municipality where the home is located. They are based on the value of the home. The seller may have already paid property tax or other expenses that apply to the time after the house passes into your hands. You need to pay back the seller for taxes and other costs (including items like filling the oil tank).
N) PROPERTY INSURANCE: The mortgage lender requires you to have property insurance because your home is security for the mortgage. Property insurance covers the cost of replacing your home and its contents in case of loss. Property insurance must be in place on closing day.
O) LEGAL FEES: Legal fees and related costs must be paid on closing day. The minimum cost is $500 (plus GST/HST). In addition, your lawyer will charge you direct costs to check on the legal status of the property.
STEP 11: OTHER COSTS
Depending on your situation, you may have some other initial expenses to consider:
- Moving expenses
Whether you’ll be hiring a moving company, or renting a truck and asking friends for help, there are likely to be moving expenses. - Renovations or repairs
Can renovations, or repairs, be delayed, or are some necessary to do immediately? - Condominium Fees
Do you have to make the initial payment for these monthly fees? - Service connection fees
Telephone, gas, electricity, cable TV, satellite TV, Internet, and so on, may charge service connection fees. Some utilities may ask you to pay a deposit. - Appliances
Does your new home come with appliances? Do you already have your own? - Gardening equipment
Will you need to buy gardening equipment, the first summer in your new home? - Snow-clearing equipment
Will you need to buy snow-clearing equipment, the first winter in your new home? - Window treatments
Do blinds, or curtains come with the house? - Decorating materials
Do you want to re-paint or apply wallpaper? Do the floors need to be refinished or re-carpeted? Do you have all the tools you need for redecorating? - Hand tools
Do you have the basic hand tools you’ll need for your new home? - Dehumidifier
Will you need a dehumidifier to control moisture levels?
Use the Home Purchase Cost Estimate form to help figure out your estimated up-front costs.
Source: CMHC