When you buy a home, you’ll save money if you can afford to make a 20% down payment. However, for some Canadians, that much of a down payment is out of the question. Thankfully, there are options if you don’t have 20% to put down. If you are willing to pay extra for your mortgage, CMHC insurance will help lenders feel better about approving you for a loan with less than 20% down.
The Canada Mortgage Housing Corporation provides mortgage default insurance to lenders for home buyers with a down payment of at least 5%, but less than 20%. This enables financial institutions to lend at a higher loan to value ratio because CMHC is absorbing much of the risk. And it’s not just a win/ win for the homebuyer and their bank. CMHC insurance helps to increase homeownership across Canada, which is a mandate of the federal government.
Who Else Offers Mortgage Default Insurance?
As the primary provider in Canada, CMHC has become synonymous with mortgage default insurance. And in this article, we’ll focus solely on the CMHC product. That said, it’s important to note that there are two other companies that provide mortgage default insurance: Genworth Financial and Canada Guaranty. While CMHC covers the vast majority of insured mortgages in Canada, your bank has the option to use any one of the three.
Who Does CMHC Protect?
A common misconception is that CMHC insurance is in place to protect the buyer, which is not the case. It’s actually used to protect the lender. The fact that the home buyer is the one paying the premium for this insurance coverage may be partly to blame for the confusion. What CMHC insurance does is guarantee the bank or credit union that it will not lose money on this high ratio mortgage, if the borrower happened to default. When the home buyer has more “skin in the game,” ie 20%+ downpayment, he or she is considered less of a risk.
A larger payment usually represents a large commitment to the home, and in those cases, a lender can feel reasonably sure that a borrower will do absolutely everything in their power to avoid defaulting on the mortgage loan. When you pay less than 20% down, the lender worries that in a time of financial hardship, the borrower may be less inclined to remain committed to the mortgage, as they have less to lose. With the borrower paying for the CMHC insurance, the lender has even less to worry about.
How Does CMHC Insurance Work?
CMHC mortgage insurance compensates the lender in the event that you default on your loan. Since it is the lender that is putting up the capital for your home purchase, the lender takes on most of the risk if you don’t follow through.
Insurance helps offset this. You may feel as though you are the one buying the home, but the reality is that the lender has fronted the majority of capital for this purchase. For example, if you are purchasing a $200,000 home with a 5% down payment, your share of the upfront cost is $10,000, while the lender covers $190,000. That’s a lot of money for the lender to lose if you default and don’t follow through with repaying the mortgage.
When Do I Pay the CMHC Premium?
It is the lender that technically pays the mortgage insurance premium to CMHC, but the cost is passed to you. While you have the option of paying the premium upfront, from your own resources, in the vast majority of cases, the CMHC premium is added to the mortgage and financed over the life of the loan. While this will increase your mortgage interest costs over the long run, it can be helpful, as many people don’t have the funds required to cover the cost of CMHC insurance upfront.
CMHC Fees Explained
Now that you know why CMHC insurance exists, you’re probably wondering how much it will cost you. CMHC insurance premiums are expressed as a percentage of the overall mortgage amount and are tiered, based on the amount of downpayment that is being provided by the home buyer.
- Down Payment of 5% to 9.99% = 4.00%
- Down Payment of 10% to 14.99% = 3.10%
- Down Payment of 15% to 19.99% = 2.80%
As you can see, as your down payment grows, the cost of the CMHC insurance decreases. To illustrate how a CMHC fee is calculated, let’s use a home purchase price of $350,000, with a 5% down payment. Your mortgage amount, including CMHC premium, would be calculated as follows:
Step 1: $350,000 X 5% = $17,500 (down payment)
Step 2: $350,000 – $17,500 = $332,500
Step 3: $332,500 X 4.0% CMHC fee = $13,300
Step 4: $332,500 + $13,300 = $345,800 Final mortgage amount
As you can see, the final mortgage amount on a $350,000 home purchase with 5% down would be $345,800. There are, however, some other costs that must be factored in. For example, CMHC rules require that home buyers set aside 1.5% of the purchase price to cover closing costs ie. lawyer fees. So, in reality, you would need to have 6.5% of the purchase price upfront in the example above.
PST on CMHC Insurance
In four Canadian provinces, Provincial Sales Tax is charged on CMHC premiums. If you live in Manitoba, Quebec, Ontario, or Saskatchewan, this is something you’ll need to keep in mind. The PST cannot be financed with the mortgage either, instead, it would be collected by the lawyer at the time of closing. The PST rate varies from province to province.
CMHC Insurance – Quick Facts
- Required for mortgages with less than 20% down
- Premiums are tiered and included in the mortgage amount
- Maximum amortization on a CMHC mortgage is 25 years
- PST is charged on CMHC premium in 4 provinces
- CMHC requires that borrowers have 1.5% towards closing costs
- Down payment can come in the form of a gift from a family member
- Qualifying homes must be available for full-time, year-round occupancy
- CMHC insurance required for purchase of a mobile home
- One borrower on the mortgage must have a credit score of 600 or higher
- Homes purchased for over $1MM do not qualify for CMHC insurance
CMHC Energy Efficient Premium Refund
If you want to reduce your borrowing costs, the CMHC has a program that provides a refund of up to 25% of your premiums if you purchase an energy-efficient home, or if you renovate your home to make it more energy-efficient. If you are environmentally conscious, this can be a great way to save a little money, as well as the earth. It makes sense if you have the ability to take advantage of these programs.
Is CMHC Insurance Right for Me?
While anyone would benefit from having a 20% down payment, in both interest and premiums saved, CMHC mortgage loan insurance serves a purpose by allowing people to buy a house with a smaller down payment. Being insured against loss, the bank is less concerned about default risk, allowing more buyers to stop renting and start building equity in a home of their own. If you are interested in purchasing a home, this is a big deal. Rising home prices mean that it takes longer to save up for a big down payment. A CMHC mortgage can cut that time in half.
Before you decide to buy a house, however, think about whether or not you can afford a bigger down payment. Is it a better idea to take extra time to save a larger down payment and pay less in the long run, or get into a home sooner, but paying a larger amount over the life of your loan. Each scenario has its benefits and drawbacks, and you will need to consider your current situation and the way your financial resources are being used. Only you can decide which scenario is likely to provide you with the best outcome.
