Most people are aware of CMHC mortgage loan insurance.
CMHC, or the Canadian Mortgage and Housing Corporation, will allow you to take out a loan on up to 95% of your home’s purchase price. This means that instead of a 20% down payment, Canadians can buy a home with a minimum 5% down payment. If this is the route you choose to take, the CMHC will have you apply for a mortgage loan insurance with the premiums added to your regular mortgage payments.
When you sit down with your mortgage agent, you will go through the insurance application process. Based on your mortgage loan amount, your age, and your general health, you will sign up for an insurance policy to cover the balance of your loan should you die or become disabled while paying if off. This provides protection to lenders, as their mortgage loan is guaranteed by the CMHC to be paid, and allows buyers access to a greater loan at lower financing rates.
On average, mortgage insurance through the CMHC will cost homebuyers between 2.5% and 4% of the total loan amount. Let’s say that you are buying a home for the purchase price of $400,000 with a 5% down payment and a 25 year amortization period. Your down payment would be $20,000 and your mortgage insurance would cost somewhere in the realm of $15,500. Premiums for this would be added directly to your mortgage payments.
If you are going to a bank to secure a mortgage and you have more than a 20% down payment, your mortgage agent will likely still offer you mortgage insurance. It may seem like an obvious choice to sign the paperwork and have your investment protected, but is it the right decision?
Consider this: your purchase price is $400,000 and you have a 20% down payment. Your mortgage amount will be $320,000, plus the mortgage rate for which you sign. Your mortgage insurance premium for a 20 year mortgage might be 3.5% – $11,200. This means you are adding approximately $47/month to your mortgage payment.
If you’ve agreed to a five-year term for your mortgage, when you renew your mortgage you must also renew your mortgage insurance. However at this point, you are five years older and your health may have declined. As such, your premiums may increase. If you switch lenders, you will have to start the mortgage insurance application process over again, also resulting in possible premium increases. However, your payout amount remains the same.
If you were to die one year into your 20-year mortgage, your remaining mortgage balance would be around $316,000. At this point you would have paid approximately $560 in insurance premiums. Your insurance would pay out directly to your lender and this amount would be covered. If, however, you were to die 19 years into your 20-year mortgage, you would have paid approximately $10,700 in premiums and your insurance would pay your lender your remaining mortgage, which would be around $16,600. This does not take into account any changes in your mortgage rates, any increases in your premiums, or any other inevitable modifications.
Let’s say that instead of adding mortgage insurance, you purchase traditional life insurance. If you are relatively young and healthy, you could purchase insurance coverage the same as your initial mortgage amount ($320,000) for between $20 and $25 per month. If you were to die one year into your mortgage term, you would have paid approximately $270 in premiums and your beneficiary would receive $320,000. If you were to die 19 years into your mortgage term, you would have paid approximately $5,500 (accounting for premium increases as you age) and your beneficiary would receive the exact same $320,000. Also note that your beneficiary would receive this payment, not your lender.
While declining mortgage insurance when you have less than a 20% down payment is not an option, a larger down payment offers you more decision-making power. Take into account the larger premiums and the decreasing payout that comes along with mortgage insurance, and weigh it against the premiums offered with traditional life insurance and the guaranteed payout. Consider also that a life insurance policy will pay to the beneficiary of your choosing, to use as they see fit. Perhaps your spouse would prefer to keep up with your monthly mortgage payments, and use the insurance money to pay for your children’s education expenses or to pay off higher-interest debts.
Ultimately the choice to purchase or decline mortgage insurance is left to personal preference, but it is wise to discuss your options with your financial planner before making any final decisions.