The Role of Mortgage Insurance in Homebuying

Congratulations! You’ve decided to take the exciting leap into homeownership. However, the process might seem intimidating because of the down payment requirements, pre-approval procedures, and legalities involved. One phrase you may come across is mortgage insurance. Canadian homebuyers, do not be alarmed! 

Everything you need to know about mortgage insurance will be covered in this article, along with how it may help you realize your goal of becoming a homeowner.

What is Mortgage Insurance?

Mortgage insurance, often known as mortgage default insurance, is a kind of insurance that shields lenders from loss in the event that a borrower stops making mortgage payments. For those who acquire a home in Canada and have a down payment of less than 20% of the total cost, it is normally necessary. The type of property determines whether or not mortgage insurance is required. The best practice is to discuss with your mortgage broker regarding whether it’s needed.

Mortgage insurance safeguards the lender rather than the borrower. Instead of the customary 20% down payment, let’s assume you’re putting down 5% or 10%. This indicates that the lender owns a larger portion of the property. As a safety net, mortgage insurance reimburses the lender for a percentage of the loan amount if you go into arrears on your mortgage—meaning you are unable to make your payments—and the lender is unable to sell the home. In Canada, there are two primary categories of mortgage insurance. Please note that you do not have to be a first-time buyer to qualify for mortgage insurance. There are other stricter guidelines to qualify for mortgage insurance.

When it comes to paying for mortgage insurance, clients have two main options. They can either pay the full insurance premium upfront on closing day or choose to amortize the premium over the same period as the mortgage. It’s important for clients in Ontario to be aware that the Provincial Sales Tax (PST) on the insurance premium is collected on closing day. This means there will be an additional cost at closing that needs to be considered. Being informed about these payment options and associated costs ensures that clients can plan their finances more effectively and avoid any surprises during the mortgage closing process.

Here’s a description of each type of mortgage insurance available in Canada, highlighting their unique aspects without promoting any specific company:

1. Canada Mortgage and Housing Corporation (CMHC) Insurance

CMHC insurance is designed to protect lenders from defaults on mortgages with down payments that are less than 20% of the home purchase price. This is a government-backed provider, often known for setting the standard for mortgage insurance policies in Canada.

2. Sagen (formerly Genworth Canada)

Sagen provides similar protection to lenders, covering part of the losses in the event of a mortgage default. While it offers comparable products to CMHC, Sagen operates privately and may provide different underwriting standards or premium rates.

3. Canada Guaranty (CG)

Canada Guaranty also insures mortgages to protect lenders, similar to CMHC and Sagen. As another private option, Canada Guaranty may offer distinct advantages in terms of service or conditions that differentiate it from CMHC and Sagen.

Regardless of the provider—whether it’s CMHC, Sagen, or Canada Guaranty—the mortgage insurance premium is typically added to the mortgage loan amount and amortized over the same period as the mortgage. This means that the borrower does not have to pay the entire insurance premium upfront but spreads the cost over the life of the mortgage, making it more manageable financially.

The Pros and Cons of Mortgage Insurance

Pros:

• Makes homeownership more accessible: With a smaller down payment, mortgage insurance allows you to enter the housing market sooner.
• Reduces risk for lenders: This encourages them to offer mortgages with lower down payments.
• Peace of mind for lenders: Knowing they’re somewhat protected in case of default can make them more open to approving your mortgage.
• Potentially lower interest rates: In some cases, having mortgage insurance can qualify you for a slightly lower mortgage interest rate, especially with a smaller down payment.
• Faster equity building: By entering the market sooner, you can start building equity in your home faster. As your home value appreciates, the equity you own increases, strengthening your financial position.
• Optimal interest rates on renewals: The benefits of mortgage insurance extend to securing the best possible interest rates for the client. When it’s time to renew your mortgage, you can potentially switch to a new lender who offers a lower interest rate and benefits from lower fees to switch from one lender to another. It’s important to be aware of which company is insuring your mortgage and to know your insurance number. For more details, refer to our previous blogs and videos about Mortgage Switches and their benefits.

Cons:

• Additional cost: Mortgage insurance adds to your monthly mortgage payment.
• Limited coverage: Mortgage insurance doesn’t protect you, the borrower, from foreclosure or power of sale if you can’t make your payments.
• May not be required, depending on your down payment: If you have a 20% down payment or more, you likely won’t need mortgage insurance.
• Limited impact on future borrowing: While mortgage insurance can help you qualify for a mortgage sooner, it typically won’t significantly impact your eligibility for other loans or lines of credit.

Is Mortgage Insurance Right for You?

There isn’t a universal solution. It is dependent on your objectives and financial status. Here are some things to think about asking:

• How much of a down payment can you comfortably afford? The size of your down payment can significantly influence whether you’ll need to pay for private mortgage insurance. Typically, a down payment of less than 20% of the home’s purchase price requires insurance.
• Are you comfortable with the additional cost of your mortgage insurance? It adds to your monthly mortgage payment, so it’s essential to assess if the extra cost fits comfortably within your budget without straining your financial resources.

If you’re unsure if mortgage insurance is the best option for you, a knowledgeable mortgage broker or lender can evaluate your circumstances. They can assist you in locating the best rate and may also explain other mortgage possibilities.