Ajax Pickering Real Estate Blog

James Pasternak, Financial Post

It is a legal document that stretches about 30 pages and runs about 10,000 words. Its execution takes no more than a couple minutes and when the ink dries on the signature lines, more times than not it is never read and gets slipped into a file folder, largely forgotten.

But despite its casual handling, the residential mortgage agreement governs the largest debt of over 5 million Canadians and within its fine print are the provisions that can make or break a household’s financial future. There’s a lot at stake. At the beginning of 2004, Canadians held $517.7-billion in mortgages.

“I think most of the major bank representatives do a good job of explaining these provisions to their clients but I think most people zone out and don’t really listen. All they think about is getting a mortgage at 3.8% and ‘I want to get this done’,” says Len Rodness, Partner, of Toronto-based law firm Torkin Manes (www.torkinmanes.com)

But beyond the interest rate there are a wide range of options and clauses in the mortgage agreement that deserve scrutiny. In a competitive lending environment, shopping for the right mortgage can bring significant savings and peace of mind through the amortization period.

Take the case of Hamilton, Ont., couple Kathy Funke and Dan Perryman. When they were shopping for a home in 2003, the interest rate was the top priority. They also wanted flexible prepayment options and accelerated weekly mortgage payments. To leverage the competitive interest rate they received, they went with a variable rate mortgage. They paid off a $230,000 mortgage in 5 ½ years.

“The power in these things comes from people who know how to manage [the] various privileges. It has a huge [savings] effect on amortization….The ideal thing is to understand what your privileges are and then combine them to your advantage — to what you can afford to do; to fit your lifestyle and ability to pay,” says Jeff Atlin of Thornhill, Ont. based Abacus Mortgages Inc.

And privileges there are. You just have to shop for them.

Accelerated Payment Options: Getting the loan paid earlier

It just seemed like yesteryear when everyone was paying their mortgage on the 1st of every month. Now, in addition to the first of the month option, some of the more common options are accelerated weekly and biweekly or semi-monthly options.

These frequency options result in long term savings. For example if one selects the accelerated biweekly option one is making 26 payments in a year, the equivalent of two prepayments per year over the monthly option. When a $150,000 mortgage amortized over 25 years is paid under an accelerated bi-weekly option, the debt is retired in 21 years and the interest savings are around $18,000.

Toronto resident and electrician Karl Klos, 26, selected “weekly rapid” payments on a mortgage amortized over 35 years. The mortgage payments are made each week but he added the “rapid” option by increasing the amount paid. Mr. Klos says that the payment frequency will pay off his mortgage in 25 years instead of 35 years.

“I can’t understand why anybody would do monthly payments anymore now that the banks offer the ability to have weekly payments. It may be a cash flow situation. If you do a weekly mortgage payment it could save you a significant amount of money,” says real estate lawyer Len Rodness.

Restating mortgage agreement vows

It doesn’t take long after one signs a mortgage agreement to hear from a neighbour or friend that they received a better rate. So when you dig out the mortgage agreement see if there’s a clause that allows borrowers to renegotiate their agreement before the end of the term. The bank might use a model called “blend and extend.” For example, if one has a $100,000 mortgage at 6% mortgage with two years to go they might blend it with the current five year rate of 3.79%. So according to mortgage broker Atlin when they average out 2/5 of the mortgage at 6% and 3/5 are at 3.79%, the customer will get a new reduced rate of about 4.6%. But the borrower is tied to the bank for another 5 years.

Putting spare cash against the mortgage with no penalty

Almost all mortgage agreements have options for mortgage prepayment without penalty. Klos’s mortgage agreement allows prepayments of up to 15% of the annual balance. Most financial institutions provide prepayment options in the 10-20% range. Some lenders allow borrowers to make the prepayment any time during the year while other agreements restrict the prepayment to the anniversary date.

Also, some financial institutions allow customers to make multiple smaller prepayments during the year as long as they don’t exceed the annual limit. Funke and Perryman were able to retire their $230,000 mortgage in 5 ½ years primarily because of the prepayment provisions in their mortgage.

Coming up with more money for each payment

Some lenders will allow borrowers to increase the payments without penalty. Depending on the wording of the mortgage agreement the increased payments can range from around 15% to 100% of the current payment. So if one is paying $1,000 per month under the 15% rule, a borrower can raise it to $1,150 per month. Klos’s weekly rapid payment plan was based on him raising the weekly payments by 5%.

“Payment and amortization are a function of each other. Any time you raise the payments you shorten the amortization; any time you shorten the amortization you raise the payment,” says Mr. Atlin.

The mortgage prenuptial: Penalties for getting out of your mortgage

“A mortgage is a contract first and foremost. It is a contract between a borrower and the lender,” Atlin says. And if someone hasn’t felt that cold business approach during the course of their mortgage, they certainly will if they try to leave early. Most borrowers pay out their mortgages when they sell their house, win a lottery or are offered a better interest rate by another company. Until recent years, the standard penalty for breaking a mortgage agreement was three months of interest. Paying out a $200,000 mortgage could amount to a $2,500 penalty.

In many current mortgage agreements, the penalty for an early exit (and not extending) is either three months of interest or an interest differential, whichever is greatest.

The mortgage differential penalty can be quite expensive. If a mortgage is at 5% interest rate and you have three years left in your term, the bank will use the difference between the agreement rate and the current market rate to calculate the penalty. Using the 5% case above, let’s say the current 3-year mortgage is available at 3.5%. The bank will charge the difference between 5% and 3.5% for the balance of your term.

Bank customers who have an open mortgage with a variable rate can usually pay them out with little or no penalty. Some mortgages are closed for the first few years and then revert to an open option. The penalties, if there are any, would be much lower once the mortgage converts to an open one. If one can, it would be best to wait until the mortgage kicks into open status.

When paying out the mortgage try to have some of it calculated as your annual no-penalty prepayment option. Therefore, if you are paying out a $200,000 mortgage and you also have a 20% per annum prepayment option you might be able to save penalties on $40,000. If the mortgage prepayments can only be done on the anniversary date, make sure that is the day you select to pay out the mortgage.

Mortgage Lifelines

Mortgages are often signed and sealed with the borrower having every intention to pay. However, the world is paved with best intentions and recessions are everyone else’s problem until the boss comes into your office with the bad news.

“That is something that nobody turns their attention to at the time. The original document is done. The legal issues are in that original document. For a practical point of view given the state of the economy these [clauses] might be something beneficial,” said Len Rodness of Torkin Manes.

Some mortgages include a Rainy Day option. This option allows the borrower to skip one principal and interest payment each mortgage year. The interest portion of the skipped payment or payments will be added to the outstanding principal balance.

Changing amortizations

Although financial institutions can change the amortization with the click of a mouse, they are reluctant to do so. In fact, some say outright that they don’t allow it and this is written into the mortgage agreement. If there are any requested changes it’s much easier to go from a higher number (lets say 25 years) to a lower number (lets say 15 years), than the other way around. But the inside scoop is not to take no for an answer. If you are looking to increase the amortization, keep going up the chain of command until the CEO says no.

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Contact the Jeffrey Team for more information  -  416-388-1960

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Canada doesn’t have the mounting oversupply of homes that characterized the pre-meltdown building U.S. bubble

Boyd Erman – Globe and Mail

People, a housing bubble’s not the problem.

Do we have a real estate bubble in Canada? The answer’s not certain, but by most measures, it’s no. Yet the subject dominates headlines and discourse about the economy right now.

What is certain is we should stop spending so much time focusing on the dreaded bubble. Given what’s just transpired in the U.S., a little paranoia is warranted, but obsession is not.

That’s because the constant bubble debate is distracting Canadians, and the federal government, from the real risk that is most definitely building in this nation, and that is increasingly stressed consumer balance sheets.

So let’s stop for a second and consider something: Isn’t it possible that, just maybe, experts at places like the Bank of Canada and the International Monetary Fund are right and prices aren’t all that out of whack in Canada, and that the real issue is not what we’re paying for houses but how we’re paying for them?

There’s not much concrete research behind the viewpoint that there is a bubble. The argument comes down to the fact that house prices are at record highs, and have risen pretty fast by some measures, most notably the average resale home price calculated by the Canadian Real Estate Association.

Of course, by other measures, such as the new home price index, home prices haven’t risen nearly as quickly.

What’s more, there’s little sign of speculative flipping. How many of your neighbours own two or three houses, and are just waiting until prices rise to unload them? Not many, one suspects.

In the U.S., that was a prevalent practise. In Canada, residential investment properties are usually geared to long-term income from renters, rather than short-term gains from flipping. National vacancy rates indicate about 97% of those income properties are full.

For those reasons, Canada doesn’t have the mounting oversupply of homes that characterized the pre-meltdown building U.S. bubble. Housing starts have generally tracked the rate of growth in households seeking homes.

A study released in October by an IMF researcher concluded that, even using the CREA numbers, prices in this country were “close to equilibrium,” where supply and demand are balanced.

In other words, it’s not clear whether a reasonable person should be seriously concerned about a bubble. Watchful, sure. Terrified? No.

On the other hand, any reasonable person looking at the growth in Canadian household debt should definitely worry.

Debt to household income is approaching 150% and the pace of growth is picking up. The trend line shows nary a pause for almost a decade, not even for this recent recession.

Canada is now where the United States was in about 2004 on this key measure, and while the U.S. consumer is now paying down debt, Canadians continue to pile it on, mostly via mortgages. Even with interest rates remaining low, debt payments are eating up more Canadians’ income as a result of the sheer volume of money they owe.

This is what seems to have Bank of Canada Governor Mark Carney concerned.

Yet there is opposition in many quarters to serious change that would force Canadians to borrow less when they buy a home to slow the growth of household indebtedness.

Many in the mortgage industry argue that the call from big bank chief executives for higher down payment requirements and shorter amortizations is misguided. The opponents of higher down payments or tougher borrowing requirements say Canadians can handle the debt payments for now, so why not let them take it on? After all, there’s been no crisis yet.

Jim Flaherty, the Finance Minister, is another one of those who seems reluctant to push for serious change that would restrain the pace of consumer borrowing, instead focusing on small changes such as marginally tightening the rules around stress-testing Canadians’ ability to make their payments at higher mortgage rates.

Mr. Flaherty doesn’t want to slow the economy too much by restricting borrowing, say those party to the behind-the-scenes debates. In other words, he wants Canadians to keep borrowing and spending just like the federal government is doing.

And besides, he’s focused on the straw man of the bubble. No bubble, he says, so no need to act.

But maybe we don’t need to increase required down payments to 10% to cool the housing market. Maybe we need to do it because Canadians need to have less debt.

Maybe the right rationale for policy makers looking at cutting allowed amortizations from 35 years to 30 years shouldn’t be to fight a bubble that may or may not exist, but to force some borrowing prudence down the throats of Canadians.

If we have a bubble, it’s a symptom of our unwillingness as a nation to reign in our borrowing, not a cause. Nobody’s forcing us to run up our personal debt by taking on a 35-year mortgage with only 5% down to get into the housing market or to trade up to a swankier address.

But Mr. Flaherty could force us to stop.

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Contact the Jeffrey Team for more information  -  416-388-1960

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Finding it hard to reach your financial goals? Not sure what to do? Sometimes all you need is a little help and a good plan.

Investor Education Fund

http://www.investored.ca/

Most people think interest is interest. In fact, you could have two loans that charge the same interest rate, and yet charge two different amounts of interest. Two factors affect the cost of borrowing:

1. The annual percentage rate (APR)

* Includes all loan service costs and interest.
* May therefore be higher than the interest rate you see in the loan contract.

A lender must tell you the APR before you sign a loan agreement. Sometimes the lender for a car or other type of loan will advertise a low APR to win your business. It’s a way of saying you can really trust the deal they are offering, and that you don’t have to worry about hidden costs.

To understand the APR of a loan, make sure you ask:

* How much total interest will I pay?
* Are there any fees or extra charges?
* Are there any other costs, including loan insurance?

2. How the lender calculates the interest

The method they use can really change the cost of borrowing. For example, interest on a mortgage is calculated in a different way than interest on a credit card.

How does interest work on mortgages and other loans?

Most mortgages and some loans use the remaining balance method. The lender just multiplies the interest rate by the principal balance at the start of each term. You don’t pay interest on any principal you have repaid.

How does interest work on credit cards?

In some cases, you have to pay off all of your charges each month. If you don’t, you’ll pay interest on the full balance that you owe.

Most cards ask only for a minimum payment each month – often 5% of the current balance or $10, whichever is more. You pay interest on the unpaid balance.

Some cards give you a grace period when you borrow. If you pay back everything within that time, you wont have to pay any interest that month.

Other cards charge interest from the day you made each purchase, until you pay in full. In some cases, you pay interest on your daily balance, or your average daily balance. With other cards, you pay interest on your highest monthly balance.

Remember: The interest rate you see in the ads doesn’t tell the full story

To understand the total cost of borrowing, you need to know the APR and any extra charges. You also need to understand how interest is being charged.

Learn more: Financial Consumer Agency of Canada website ()

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Contact the Jeffrey Team for more information  -  416-388-1960

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