Purchasing a home is a significant financial milestone, and for many Canadians, it’s made possible through the assistance of a mortgage. To protect lenders and enable more Canadians to access homeownership, the concept of default mortgage insurance comes into play. In this article we will help you understand what it is, how it works, and its implications for both homebuyers and lenders.
What Is Default Mortgage Insurance?
Default mortgage insurance, often referred to as mortgage default insurance also commonly known as CMHC insurance (named after the Canada Mortgage and Housing Corporation), is a type of insurance that safeguards mortgage lenders in the event that a borrower defaults on their mortgage payments. This insurance is typically required when a homebuyer makes a down payment of less than 20% of the home’s purchase price.
Breakdown of How Default Mortgage Insurance Functions in Canada:
- Mandatory for High-Ratio Mortgages: If you have a down payment of less than 20% of the home’s purchase price, you are considered to have a high-ratio mortgage. In this case, the insurance is typically mandatory. The insurance premium is added to your mortgage principal.
- Lender Protection: It acts as protection for the lender not the homeowner. It reimburses the lender for losses incurred if the borrower defaults on their mortgage, and the property is sold at a loss.
- Insurance Providers: In Canada, three main providers: CMHC, Genworth Canada, and Canada Guaranty. Homebuyers typically have the freedom to choose among these insurers, but the terms and conditions are similar.
- Premium Costs: The cost of default mortgage insurance is determined by the size of your down payment, the value of your home, and the amortization period of your mortgage. Premiums are a percentage of the mortgage amount and can vary (see chart below).
- Property Eligibility: Not all properties are eligible for default mortgage insurance. Certain restrictions may apply to properties, such as properties purchased for over $1,000,000.
Implications for Homebuyers:
- Easier Access to Homeownership: Default insurance makes it possible for homebuyers to enter the market with a lower down payment, which can be a game-changer for first-time buyers.
- Cost to the Homebuyer: The cost of default insurance is borne by the homebuyer. It is added to the mortgage amount and paid off over the life of the mortgage.
- Mortgage Approval: Lenders often require default insurance for high-ratio mortgages. Without it, it may be challenging to secure a mortgage with a low down payment.
- Higher Down Payments: If you can afford a down payment of 20% or more, you can avoid the additional cost . It’s important to weigh the financial benefits of a larger down payment against the expense of the insurance premium.
Default mortgage insurance plays a crucial role in making homeownership more accessible for Canadians. While it primarily protects lenders, it allows homebuyers to secure mortgages with smaller down payments. Understanding how default insurance works is essential for making informed decisions when navigating the Canadian real estate market. If you’re considering buying a home, consult with your us to discuss further.