Millennials & Mortgages: Part 2

Mar 2, 2022

To read part one, please click here. Millennials in Canada are facing a vastly different homebuying environment than their parents. Soaring real estate prices, high levels of student debt and precarious employment are making it difficult for young people to get into the housing market.

Home ownership is a retirement issue, seen through the lens of long-term retirement planning. A home is, almost always, the most important financial asset most people acquire. That is why it makes sense to place its initial purchase firmly within the context of sound financial thinking. Still, getting started is problematic for most people setting out in life and millennials in particular recognize the difficulties.

At Everything Retirement, we are also acutely aware that parents and grandparents – many of whom have millenials for children and grandchildren – entertain a strong conviction that (when their resources allow) they are in a position to help their offspring manage some of the entry level costs of home ownership.

Despite these challenges, a recent survey found that 80% of Canadian millennials want to own a home. What’s more, 27% already do. If purchasing a home is a goal for you, here are some tips to guide you through the process. But since a mortgage – they come in a wide range of structures and applications – is a complex financial instrument, we suggest you get professional guidance. Now, on to part two – the final instalment in this series.

Explore Your Mortgage Options

In part one of this blog series, we reviewed the elementary financial logistics of first home ownership and made some suggestions about the availability of some government funded programs and other financial options that can make such an acquisition more financially palatable.

In part two, we want to get down to the nitty-gritty. And that means searching out a mortgage. When shopping for a mortgage, there’s more to consider than the rate. There are a myriad of mortgage options out there and relating your mortgage needs to your personal financial situation can get tricky.

We all have different needs when it comes to buying a home. As a result, mortgages come in lots of different shapes and sizes: closed, open, variable, fixed, 3-year, 5-year, 10-year…you get the picture.

One of the most important decisions you’ll need to make when applying for a mortgage is whether you want an open vs. closed mortgage. They are designed with different borrowers in mind and can result in significant savings (or costs) if you choose the wrong one.

Retirees and experienced homeowners: this is a post we hope you’ll share with your adult children and grandkids, as much of this information will be helpful to them!

Mortgage Basics

  • Principal is the amount of money you borrow to buy your home. With every mortgage payment, some of the money will go to paying down the principal and some will go to interest.
  • Fixed interest rates will not change during the term and your payments will stay the same.
  • Variable interest rates are usually lower than fixed rates but are subject to fluctuations.
  • Mortgage term is the length of time you’re committed to your lender, the rate and any conditions – five-year terms are most common, but you can choose anywhere between one and 10 years.
  • Open term mortgages allow you to pay back what you borrow at any time, without penalty. Because of this flexibility, interest rates are generally higher.
  • Closed term mortgages do not allow you to pay back the entire balance without penalty, but many offer some prepayment options to help you pay down your mortgage sooner.
  • Amortization period is the length of time before you pay off your mortgage. The longer the amortization, the lower your mortgage payment, but you will pay more interest over the life of your mortgage.

Open vs Closed Mortgages Explained

An open mortgage is one with flexible options to increase your mortgage repayments, either by increasing your regular payments or via a lump sum. A closed mortgage, on the other hand, will penalize you for paying off all or part of your mortgage early. While prepayment penalties can be significant, closed mortgages also come with much lower interest rates than open mortgages.

In Canada, closed mortgages are more common because they offer lower interest rates, and most people don’t need the extra flexibility of an open mortgage. Open mortgages are generally used when you soon expect to receive additional cash to pay off your mortgage. This might be an inheritance, proceeds from the sale of a home, or a significant increase to your income.

Mortgage Pre-Approval

Many first-time home buyers find out just how large a mortgage they are eligible for in advance of looking for a property. It’s a good idea. So before applying for a mortgage pre-approval, it’s a good idea to review your credit rating and report any errors. You can request a copy of your credit report once a year for free from Equifax Canada or TransUnion Canada.

With a mortgage pre-approval, your lender will let you know how much it is willing to loan and the estimated size of your payments. The current interest rate will also be locked in, so you’re protected in case rates increase before you purchase your home.

Conclusion

If we could say one thing to the millennials in our family, it’s this. There are lots of decisions you need to make when shopping around for a mortgage, and the decision you make can mean a difference of thousands of dollars, either in interest or prepayment penalties.

If you need help deciding which mortgage is best for you, you should consider speaking to a mortgage broker, who can give you expert advice, at no cost to you. It also helps to speak to a financial advisor at Coastal Community Private Wealth Group, Coastal Community Credit Union or Interior Savings.

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