Saving up for a down payment on your new home is not always easy. The good news is you can buy the home of your dreams even if you put less than 20% down. Mortgage default insurance makes that possible for you.
In this article, you will find out what mortgage default insurance is, who offers it in Canada, and how it can work for you.
What is mortgage default insurance?
Mortgage default insurance is mandatory in Canada when you make a down payment between 5% and 20% on your home. Mortgage default insurance protects the lender in case you stop making payments (default) on your mortgage. It is also known as (Canada Mortgage and Housing Corporation) CMHC insurance.
When you purchase a home with a down payment of 20% or more, it is considered low risk for the lender. Mortgage insurance is not required in this case, though you may consider buying other types of insurance for your home.
Mortgage default insurance is more expensive than private mortgage insurance. However, by lowering the risk to the lender, it allows you to qualify for a loan you otherwise would not.
Technically, the lender pays for mortgage insurance, but that doesn’t mean it’s a free lunch. The cost of the mortgage insurance premium gets passed on to you. You can choose to roll it into the monthly mortgage payments or pay it along with the closing costs.
How much money do you need for a down payment?
The minimum down payment for a house depends on the home's purchase price.
|Purchase price||Minimum down payment|
|Up to $500,000||5%|
|$500,000 - $999,999||5% of the first $500,000 and then 10% of the remaining purchasing price|
|$1 million or above||20%|
The higher the home down payment, the lower the cost of mortgage insurance will be.
You need mortgage default insurance in Canada if you put less than 20% down toward a home. It allows lenders to pass their risk to the mortgage insurer. As a result, they are able to offer lower mortgage rates to homebuyers who make smaller down payments.
Companies that offer mortgage default insurance
In Canada, there are only three mortgage default insurance providers. They are:
- Canada Guaranty
- Genworth Financial
- Canada Mortgage and Housing Corporation (CMHC)
Canada Guaranty and Genworth Financial are private insurance companies, whereas CMHC is a Crown corporation. The sliding scale of each, however, is the same.
You don’t get to pick a mortgage insurer if you put less than 20% down. Instead, your lender will pick one for you. Each of the above mortgage insurers evaluates borrowers and properties differently. It may happen that your lender gives you the nod, but the insurer doesn’t. You will fail to get a mortgage in that case, unless your lender tries another insurer. Since there are only three mortgage default insurance providers in Canada, three rejections and you’re out.
Requirements for mortgage default insurance
Not every homebuyer qualifies for mortgage default insurance. You need to meet these requirements to be eligible.
- The mortgage amortization period cannot be more than 25 years. The mortgage amortization period is the time period it takes to pay the mortgage amount back in full
- Your minimum down payment is dependent of the buying price of a home below $1 million
Properties with a purchasing price of more than $1 million do not qualify. That’s because they require at least a 20% down payment. That said, there are a few exceptions. For instance, if your annual income fluctuates, you may need it.
To qualify for CMHC insurance, you must meet the following criteria:
- The Total Debt Service ratio should be less than 42
- Gross Debt Service ratio should be less than 35
- Your credit score should be 680 or above
Your insurance advisor or mortgage advisor can see if you meet these criteria.
CMHC insurance sample rates
CMHC calculates your mortgage insurance premium based on the size of your down payment or loan-to-value ratio. The more you pay upfront, the lower your cost of mortgage insurance will be. Generally speaking, mortgage rates are in the range of 0.6-4.5%.
The following chart outlines the approximate premiums for different scenarios:
|Size of the home down payment||Premium rate|
How do you calculate your cost of mortgage default insurance?
Calculating the cost of mortgage insurance is pretty easy. First, determine these three things.
- How large is your down payment?
- How large of a mortgage will you require? (You can calculate this by deducting your down payment mortgage amount from the buying price.)
- Your mortgage default insurance premium rate (Check the above table).
Here’s an example scenario:
|Down payment (10%)||$40,000|
|Mortgage default insurance cost||$12,960 ($360,000*3%)|
How is mortgage default insurance paid for?
Your mortgage default insurance premium is generally added to the principal mortgage amount of the mortgage loan. You can pay it back through monthly payments over the life of your mortgage loan. If you want, you can also make a lump sum payment at the time you purchase the house.
There are some exceptions, however.
- It won't qualify if it is an investment property. Consequently, you’ll have to make a down payment that’s at least 20% of the purchase price.
- There is a limit on the mortgage amortization period. The mortgage amortization period cannot be longer than 25 years.
- Homes with a buying price of over $1 million don’t qualify.
- In certain situations, your lender may ask you to buy mortgage insurance even if you put down more than 20%. For example, if you buy an energy-efficient home using CMHC-insured financing, you may require CMHC mortgage insurance even when your down payment amounts to 20% of the buying price or more.
How to reduce the cost?
Your mortgage default insurance cost is tied to the down payment on your home. The greater the down payment, the more affordable the insurance will be.
If you want to avoid paying mortgage insurance altogether, you must make a down payment that’s 20% of the purchase price. You can choose to postpone buying a new home until you have saved enough. Else, you may consider a home that’s a little cheaper.
Should I get mortgage default insurance?
If you can’t make 20% down payment, you will need mortgage default insurance. It allows you to purchase the desired home, which otherwise may not have been possible. If you are able to put down more than 20%, this could be a good way to save money by not paying for it.