I get it, the mortgage industry has its own language at times, and a lot of times, we don’t break it down for people in a way that’s clear and makes sense. So that’s why I’m taking things back to basics with this blog post. You’ll hear terms like contract rate, qualifying rate (stress test), variable rate, fixed rate, amortization, term, pre-payment privileges, pre-payment penalties, refinances, porting, owner-occupied, insured mortgage, uninsured mortgage, and the list goes on and on. If you don’t understand even half of them, you’re not alone!
We don’t learn this stuff in school growing up, we should, but we don’t. Should you understand the complexities of mortgages, no, that’s why there are people like me, who are professionals in the mortgage world, but should you understand the basics, absolutely! When you are done going through the mortgage process, you should have a grasp on the terms that matter most to you and your situation, if you don’t, then your mortgage broker hasn’t done their job correctly. Of course some people don’t care to learn or want to learn, and that’s fine too.
For today though, let’s start with those basics!
Term – the length of time your mortgage contract is in effect. At the end of each term, technically your whole outstanding balance is due, now most people can’t pay off the whole thing after one term, so they renew for another term, and another, and another until the balance is paid off. The length of your term is really up to you but most Canadians (66%) have a 5 year term.
Amortization – the length of time it will take to fully pay off your mortgage. In Canada, if your mortgage is insured (I’ll get to that one), the maximum you can amortization your mortgage over is 25 years. If it is uninsured, you can amortization it beyond 25 years with most lenders offering a 30 year term.
Rate – the rate of interest you are paying on the funds you borrow for your mortgage. Rates can be variable or fixed.
I’ll stop quickly here to explain what that would sound like if you’re talking to someone: My mortgage has a 5 year term, amortized over 25 years with a variable rate of Prime minus 1%. So now you know that they mean your contract is locked in for 5 years, you will pay off the mortgage completely in 25 years, and your interest rate is prime minus 1%. So far so good!
Variable Rate – a variable rate is a rate that changes as a banks prime rate changes. They are quoted to you as prime minus a certain percentage, in our example above, prime minus 1% would give you an interest rate of 2.45% (prime) minus 1% or 1.45%. Variable rates have more risk as they can change throughout the course of your term which is why they are lower than fixed rates.
Fixed Rate -is a rate that doesn’t change over the course of your term. It will be quoted to you as whatever it is, so for example, if you’re offered a fixed rate of 2.34%, your rate is 2.34%. Once your rate is locked in, it doesn’t matter what happens to rates during your term, yours will always stay the same.
Contract Rate – is simply the rate that is offered to you and what your payments will be based off. It is the rate that you will see on your mortgage commitment document.
Qualifying Rate (stress test) – lots of people have heard of a stress test but don’t know what it is. Essentially, when you ask to borrow money for a mortgage, we have to make sure you can still afford your payment if rates rise. So we have to make sure that you can afford a higher payment, so instead of using the rate and payment you’ll actually be making, we use a higher rate and a higher payment. Right now the stress test is set at your contract rate plus 2% or 5.25% whichever is higher.
That’s about as far as I want to go today with terms. We’ll cover much much more in the weeks to come! Hopefully you found a use for this and if there is anything you want explained further, feel free to text or call me at 250-307-5243 or email at brent@battenmortgages.ca or feel free to explore my site at www.battenmortgages.ca.
Some other resources to look at that will help you get a grasp at the basics is CMHC for consumers, which can be found here: https://www.cmhc-schl.gc.ca/en/consumers