Looking for the best terms for your mortgage? One thing to consider is the desired repayment period. Should you opt for a 30-year mortgage?
This is not a decision to be taken lightly, as it will have a significant impact on your loan and the total amount of interest that will accrue. Here are some points to consider to help you make a decision.
What is mortgage amortization?
Amortization refers to the time required to repay the balance of your mortgage fully. Repayment occurs throughout this period through regular payments.
Amortization can vary depending on the repayment terms chosen by the borrower. Higher monthly payments, for example, may shorten the required duration to pay off the entire mortgage balance, while smaller payments tend to lengthen the necessary amortization period.
What is the duration of a mortgage in Canada?
The most common amortization period for a mortgage in Canada is 25 years. However, extending or shortening the repayment period is possible according to your needs and certain eligibility criteria.
The maximum allowable amortization period varies depending on whether the mortgage is insured or not.
It should be noted that if you offer less than 20% of the property value as a down payment, you will be required to obtain mortgage insurance. Conversely, if your loan-to-value ratio is less than 80% of the purchase price, you will not need to insure your loan. This is referred to as a low-ratio mortgage.
Insured loans by CMHC
The typical amortization period for insured mortgages is 25 years. This is also the maximum term, except in exceptional cases.
It is generally the Canada Mortgage and Housing Corporation (CMHC) that provides the mortgage loan insurance required by banks for this type of loan.
It is interesting to note that there used to be insured mortgages with amortization periods of up to 40 years. However, the federal government removed this possibility in 2008 and reduced the maximum amortization to 35 years. In 2011, it was reduced again to 30 years, then to 25 years in 2012.
New regulation for first-time buyers and new properties
In hopes of making it easier to transact property in the real estate market, the Canadian government has announced measures to reduce the mortgage amortization to 30 years and expand access to it.
As of December 15, 2024, all first-time buyers will be able to spread their mortgage over 30 years, whether they are buying a new home or a home already on the market. This is true even if their down payment is less than 20% and their loan is insured by CMHC (Canada Mortgage and Housing Corporation).
In addition, buyers who have already purchased a property will also be able to spread their loan over 30 years when purchasing a new home.
These measures follow a previous announcement, effective August 1, 2024, which already expanded access to 30-year mortgages to buyers of a new home only.
Uninsured loans
There is no defined maximum amortization for uninsured mortgages. Borrowers can opt for 30 years if it suits them. Some less traditional lenders also offer loans with longer terms.
Advantages of a 30-year mortgage
A mortgage spread over a longer period may seem appealing. However, it is important to carefully weigh the pros and cons before opting for a 30-year mortgage, as it has direct impacts on your finances.
Let's start with some advantages of this option.
Reduced mortgage payments
By spreading your mortgage over more years, your periodic payments, whether monthly, weekly, or bi-weekly, are reduced.
In the short term, this reduces your financial burden. A smaller portion of your salary goes towards your mortgage, leaving you with additional funds in your pockets each month. You can use the saved money to save, invest, or pursue other projects.
Increased purchasing power
By amortizing your mortgage over 30 years, your borrowing capacity increases, meaning you can buy a more expensive property.
Indeed, by spreading your payments over an additional 5 years compared to a standard 25-year amortization, the calculation of your debt ratios will be affected. Your monthly payments will be reduced, allowing you to increase your purchasing power and qualify for a higher mortgage.
Debt ratios are among the main factors evaluated by financial institutions when granting you a loan.
Ability to reduce the amortization period
Even if you opt for a 30-year mortgage at the time of signing your contract, you can repay your loan faster if you wish.
As mentioned earlier, by reducing your monthly payments, you keep more money in your pockets. You could then use this extra cash to take advantage of prepayment privileges granted by your lender.
By making lump sum payments, within the limit allowed by your financial institution, you can pay off your mortgage faster and without penalty. You also reduce the total amount of accumulated interest.
Disadvantages of a 30-year amortized loan
Before opting for a 30-year mortgage, you must ensure that the disadvantages do not outweigh the benefits. Here are the important points to watch out for.
Higher interest rate
In general, mortgages with a longer amortization period also have a higher interest rate. There may even be a significant difference between the rate offered for a 25-year mortgage and that offered for a 30-year loan.
This difference is even more pronounced as 30-year mortgages currently only apply to uninsured mortgages. Insured loans generally come with a lower rate than uninsured ones, as the presence of insurance protects the financial institution in case of default. With reduced risk, lower interest rates are offered.
Conversely, an uninsured mortgage represents more risk for the lender, who then compensates by increasing the loan rate.
More accumulated interest
Although a 30-year mortgage reduces your periodic payments, it also means that interest continues to accumulate for several additional years. As a result, once your loan is fully repaid, the total proportion of interest you will have paid will be greater than if you had paid off your mortgage more quickly.
More specific eligibility criteria
The eligibility criteria for a 30-year mortgage are more restricted than for a standard 25-year loan.
For example, the down payment for an uninsured 30-year mortgage requires providing a down payment of at least 20% of the property value, which can be a considerable sum.
As for insured 30-year loans, which, let's remember, will soon be allowed due to the new regulations announced by the Government of Canada, you must meet certain specific criteria:
- Being a first-time homebuyer;
- Opting for a new construction.
Not all buyers can qualify for this mortgage amortization period.
Longer time to build net worth
As you repay your mortgage, you accumulate equity in your property. This equity can then be reused and reinvested to help you achieve other life projects.
By taking more time to pay off your mortgage, you also take more time to build this net worth. A lack of equity could then compromise the realization of some of your projects.
Should you opt for a 25 or 30-year mortgage?
The choice of the amortization period of your mortgage depends on your goals and financial situation. Before making a decision, evaluate these few points in particular.
- Financial goals: if you want to free yourself from debt quickly, a shorter amortization may be more appropriate. On the contrary, if you prefer lower payments in the short term, a longer amortization may be advantageous.
- Financial capacity: calculate your financial ability to pay higher or lower monthly payments. You will be able to better determine the mortgage payments that fit your budget.
- Interest rate: compare the interest rates offered for 25 and 30-year amortizations. Evaluate the potential impacts of each of these options on your finances in the short, medium, and long term.
- Market conditions: real estate market trends can favour one option over another. For example, it may be easier to qualify for a longer mortgage when prices are high.
In short, the choice of your amortization period depends on your financial situation and the conditions offered to you for each of your options. To advise you, do not hesitate to contact a mortgage broker. This expert will help you determine the mortgage terms to prioritize for your needs.
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