The Reality of Extended Amortizations

For any reader who is unfamiliar with the term, the amortization period of a mortgage is the time over which the mortgage is to be completely repaid, assuming equal payments. This means that when looking, for example, at a mortgage with a 25-year amortization period, it would take 25 years to reduce the balance to zero, if all regular payments were made on time and the terms (payment, interest rate) remained the same.

As anybody who has ever had a mortgage knows, the interest component of a mortgage is often much greater than the principle component at the outset of payments. By extending your amortization, for example, from 25 years which is a standard amortization to say a maximum amortization of 35 years, several things will happen. This will decrease the amount of monthly payment you actually have to pay, which is why people extend the amortization for affordability reasons. However, it also greatly increases the interest component versus principle reduction of the mortgage.

Let’s take a look at what point in the duration of a mortgage you actually begin paying off more principle than interest.


Assuming a $100,000 mortgage at 4.30%

As you can see by this chart, even with a typical 25 year amortization it still takes 8.8 years to before you begin paying off a greater proportion of principle than interest.

Note of course that this assumes a standard monthly payment. By undertaking strategies like making lump sum payments, increasing the payment amount or adopting payment frequencies such as accelerate bi-weekly payments, you will achieve principle reduction much sooner.

If you have any questions on amortizations or how to pay off your mortgage faster please contact me.




John Shearer BA (Hons)
Mortgage Agent FSCO Lic# M09000725
C: 905-320-33474
B: 289-337-9718
E: John.Shearer@verico.ca

Mortgages For The Self-Employed

Mortgage products are not one-size-fits-all. As a Mortgage Planner I strive to think outside the box in order to find my clients the best products to suit their needs. Unlike the banks who require the borrower to fit into their own narrow lending guidelines, I determine what my client’s goals are and fit those into the best product for my client.

One area where this is often the case is with self-employed borrowers. Today, approximately 1 in 5 Canadians are self-employed, and with the current economy the numbers are increasing. In June alone the number of self employed workers rose by 37,000.

To address this growing market, mortgage lenders are offering more products for the self-employed borrower. Traditionally the biggest problem with qualifying for a bank mortgage is that income is more difficult to prove for someone who is self-employed.

With self-employed borrowers, there are generally two different product stems that are available; proven income and stated income.

Proven income products utilize the individual’s income that was reported to Revenue Canada. The most common method of determining income is for the lender to determine the average of line 150 from the borrower’s three most recent years’ tax returns.

Here is one example of what this would look like.

First, the income is calculated by adding up the previous 3 years NOA’s (Notice Of Assessment) and averaging them.

2006 Income $50,000
2007 Income $75,000
+2008 Income $100,000

Total $225,000 divided by 3 = $75,000 average income used to qualify.

That is the basic income qualification for self employed programs, although there are exceptions. If applicants can demonstrate income increases year after year for four years then they may accept the most recent year’s income amount.

With proven income mortgages many lenders will perform what is called an “income gross up”, whereas they will add 15% to the average income to account for deductible expenses of the borrower.

This means that if $75,000 is used as the amount of income earned it is then multiplied by 15% to increase the actual amount to $86,250.

It is important to note that not all lenders will allow the “income gross up” or “add backs” with their products and it is highly dependent on the borrower’s net worth and credit score. For those who can utilize this however, it is a great benefit.

The other option for self-employed borrowers is the stated income mortgage. Basically, the stated income programs allow a borrower to qualify for the loan on the income they say they make, rather than what their tax return says. This product is ideal for borrowers who may not qualify based on the averaging method of the proven income method or just for those who do not want to provide income verification.

With this product most lenders will require at least two years of self-employment and strong credit ratings.

As the percentage of self-employed borrowers applying for mortgages increases so will the need for mortgage products to service these needs. A mortgage planner is able to ascertain which self-employed product, with which lender, will best meet your goals and needs. If you have any questions about mortgages for the self-employed or any other mortgage concerns feel free to contact me.

John Shearer BA (Hons)
Mortgage Agent FSCO Lic# M09000725
Cell: (905) 320-2247
Fax: (866) 442-6710
Bus: (289) 337-9718
Email: John.Shearer@verico.ca

Tax Deductible Mortgages

I recently had someone ask me what the deal was with tax deductible mortgages. Unlike with the Americans, in Canada it isn't easy for us to deduct mortgage interest from our income taxes.

In Canada the most known method of making a mortgage tax deductible is by utilizing the Smith Maneuver, popularized by its namesake Fraser Smith. The Smith Maneuver looks like this:

1. Acquire readvancable mortgage (these mortgages have LOC's attached to them so that you can reborrow the amount of principle you have paid off on each mortgage payment as a LOC)
2. Sell your non-registered assets (stocks held outside an RRSP)
3. Use the proceeds as a down payment on your mortgage
4. Make your mortgage payments
5. As you make payments, re-borrow the principle through your LOC component
6. Invest this re-borrowed money at a higher Rate of Return than the LOC interest
7. Deduct your LOC (investment loan) interest and use the tax savings to prepay your mortgage
8. Repeat steps 3-7 until you are mortgage Free!

That is a brief summation of how the Smith Maneuver works.

Recently Jonathon Chevreau of the Financial Post write this article on the Tax Deductible Mortgage Plan, which has become one of Canada's fastest growing companies.

A tax deductible mortgage is a great way to pay your mortgage off faster and as the article illustrates is becoming a tool that many Canadians are now using.

Great Mortage Rates stimulate Real Estate Market

Check out this article from CTV.ca

Near record sales in June for Toronto. It speaks volumes for what affordable interest rates can do in hard times.

Mortgage Term Review

Here is a great source for anyone curious about the different mortgage term options. It was created by the people over at Canadianmortgagetrends.com

Mortgage Term Review
Updated July 6, 2009
Picking a mortgage is like buying a diamond. It’s an expensive purchase; you don’t want to screw it up; and getting started is sometimes bewildering.
The first thing that most folks choose is their term. Here’s a bite-sized review of several different terms to give you a running start.

Popular Fixed Terms…
1-year fixed: Today’s 2.25% prime rate has many people craving a variable mortgage. Fight the craving. A 1-year fixed gives you the same low rate, or better. Plus, it doesn’t trap you for 3-5 years in today’s abnormally-high variable-rate premiums.

2-year fixed: Another solid alternative to a 5-year variable. You get an extra year of rate security for just ~0.20% more than a good one-year fixed. If the BoC hikes rates 1/2% every six months (starting June 2010 or sooner), a good 2-year will probably save you money over a 1-year.

3-year fixed: A solution for people who can’t choose between fixed or variable… You’ll save big interest over the first three years compared to a 5-year fixed. The tradeoff is more risk in years 4 and 5. If fixed rates go up 2% in the next few years, you’ll likely do better with a 5-year term.

4-year fixed: More people are considering 4-years since they’re still under 4% and are 1/4% to 1/2% cheaper than a 5-year fixed. If fixed rates go up less than 2% in four years, a 4-year may be more economical than a 5-year. If you’re risk adverse and prone to breaking your mortgage in four years, get a 4-year fixed to avoid the penalty.

5-year fixed: Still the most popular term. 5-years are just 3/4% above their all-time low. With most “experts” calling for rate hikes in 12 months, you’ll be sleeping easiest in a 5-year.



Longer Fixed Terms…

7-year fixed: 7-year mortgages cost 1% more than 5-year terms, for just two more years of rate assurance. As a result, they don’t sell very well. If you’re that concerned about risk, take a 10-year for the same price.

10-year fixed: The decade mortgage is still available under 5.35%. That’s not much above the recent record low. What’s more, you can get out after five years with a reasonable penalty (no dreaded IRD). The problem is, you may pay thousands more in interest than a 5-year.


Variable Terms…

5-year closed variable: They say prime isn’t going any lower. So why gamble with prime+ variables? If you want to float your rate, get a convertible 1- or 2-year fixed and wait for “prime-minus” to return.

5-year capped variable: You’ll get 3.25% today and never pay over 5.85%. Sounds okay, but if you’re that worried, why not pay a little more for a fixed rate now?

5-year open variable: Closed variables are portable and have just 3-month interest penalties. Unless you’re going to terminate early, save ~0.40% and go closed.
Other Terms and Features…

5-year $0 Down: Hate em. Lenders pillage borrowers with no-money-down products. If you can’t put down 5%, rent and bank a down payment.

5-year no-frills: If there’s any chance you’ll need over 5% pre-payment privileges, you’ll be sorry for choosing one. If not, you’ll save a smidgen (0.10% or so). As recently as May, discounts on no-frills made them worth considering. At the moment, don’t bother.
Readvanceables: Love’em. They’re the “must have” mortgage if you’ve got 20%+ equity. They make you liquid, and you can’t put a price on liquidity. More…

Open HELOC: : The All-in-One is our favourite at prime + 0.85%. It has interest offsetting and automatic everything. We just wish the LOC was at prime again, like last December.

Hybrids: A hybrid mortgage is part fixed rate and part variable rate (and/or part long term and part short term). Hybrids offer a nice amount of rate diversification. If you can’t decide between fixed and variable, check them out.

Becoming a Strong Borrower

Lets face it, having bad credit WILL affect your credit score and reduce your ability to obtain credit cards, car loans, personal loans and mortgages. There are some easy ways to ensure that you are a strong borrower when you go to apply for any of these and these methods don’t require you to have a lot of money either.

Your credit history is recorded along with millions of others by at least one of the two major credit reporting agencies in Canada; TransUnion and Equifax.

Your Credit Report contains personal information including your name, date of birth, current and previous addresses, Social Insurance Number and current and previous employers.

It also contains your credit history which includes information about all your credit cards and loans as well as any bank accounts you have.

In addition, you will find that any bad debts – items which were referred to a collection agency – along with bankruptcies also show up on the report.

The credit report will show inquiries made on the credit report. So if you have applied for 5 credit cards and 2 lines of credit in the past year then those inquiries will appear.

Your Credit Score is like a snapshot of your financial health. It is an indication of the risk you pose to a lender who is deciding whether or not to lend you money. TransUnion and Equifax use a point scale of 300 to 900 to report your score and the higher your score on this scale the lower your risk to the lender.

As it applies to mortgages, your Credit Score will play a determining role in what interest rates you qualify for and the general ease at which you can obtain a mortgage.



Here is a list from the Financial Consumer Agency of Canada (FCAC) on improving your credit score:

Always pay your bills on time. Although the payment of your utility bills, such as phone, cable and electricity, is not recorded in your credit report, some cell phone companies may report late payments to the credit-reporting agencies, which could affect your score.

Try to pay your bills in full by the due date. If you aren't able to do this, pay at least the required minimum amount shown on your monthly credit card statement.

Try to pay your debts as quickly as possible.
Don't go over the credit limit on your credit card. Try to keep your balance well below the limit.

The higher your balance, the more impact it has on your credit score.

Reduce the number of credit applications you make. If too many potential lenders ask about your credit in a short period of time, this may have a negative effect on your score. However, your score does not change when you ask for information about your own credit report.

Make sure you have a credit history. You may have a low score because you do not have a record of owing money and paying it back. You can build a credit history by using a credit card. See the next section to find out how.

You can go onto either of the Credit Bureaus Websites and actually download your credit report. This is something you should do periodically to ensure that everything is being reported accurately and to pick up on any inaccuracies that may be evidence of identity theft.

If your credit rating is hindering you from obtaining loans then feel free to contact me to discuss available options.

Ontarios Upcoming Tax Harmonization

Anyone who will be buying a new home after July 2010 MUST make sure they are aware of the impending harmonization of GST and PST when it comes to new home purchases.

Below is a copy of Schulich Professor James McKellar's article in the Financial Post about the HST Tax.


Home is where the tax is

Ontario's impending tax harmonization scheme spells disaster for those building, buying or selling homes

James McKellar, Financial Post
Reuters
The recently announced harmonization of the GST and PST in Ontario is about to wreak havoc on the housing industry, one of the pillars of that province's economy. It is a textbook case of poor government policy that will distort the province's housing market over the long term, with a particularly devastating impact on the building industry.

Consider the following: When tax harmonization in Ontario takes effect in July, 2010, someone buying a new condo in Toronto costing $500,000 -- the current median price in that city -- will pay approximately $40,000 in additional taxes. If the same buyer considers moving up to a $600,000 purchase, the tax goes up another $17,000, for a total additional tax burden of close to $60,000. Total sales taxes on a new home purchase will exceed the 13% tax on an imported luxury car and the 15% sin tax levied on a glass of wine or pint of beer purchased at the local watering hole. But will new home purchasers be willing to pay these sky-high sales tax increases and, if not, what are the consequences?

The unintended short-term consequence is the likely delay or even cancellation of some "shovel-ready" housing projects that are in the pre-sale stage. This does not bode well for labour markets and particularly a construction industry that, according to Statistics Canada, is already suffering among the highest job losses of any industry in the country. Why is government intent on spending taxpayer money to create infrastructure jobs and bail out the auto industry, all in the name of job creation, and at the same time charting a course to bring much of the housing industry to its knees?

Hardest hit will be people living in the Greater Toronto Area (GTA). The provincial government indicates that 75% of new home purchases in Ontario fall below the $400,000 threshold. But in the GTA, 54% of new home purchases last year were predominately high-rise condominiums, and in Toronto, where the majority of new condominiums are being built, the average asking price is currently just over $500,000.

For the consumer, there is one way to dodge the tax: Buy on the resale market where PST and GST do not apply. For a $600,000 resale purchase, the tax savings would total $78,000. But the sheer magnitude of the difference in sales tax between new and resale product will distort housing markets in the long run.

How will builders respond to the new tax regime? They will pursue one or more of the following options: Get as much product below $400,000 as possible; use cheaper building materials and finishes; eliminate upgrades and even some standard finishes; eliminate sustainability and "green" features if they cost more; strip down landscaping, exterior finishes and features; and keep units small.

Ontario cities can all but forget the drive for new inner city family housing after July 1, 2010. And the province can forget its sustainability and "green" initiatives as well as its intensification targets when it comes to new higher-density housing. Builders will gravitate to projects that fall below the $400,000 threshold or jump to the luxury end where the sales tax bite will not be a disincentive to would-be buyers.

Ontario's home builders have delivered quality product at a cost that has ranked for decades among the lowest in the Western world. But if the government refuses to move from its current position, the long-term unintended consequences on the performance and efficiency of our housing markets will be significant and long-lasting.

When it comes to home owners, the real losers in the harmonization scheme are the middle-income households that are upwardly mobile; those contemplating an expanding family; and the elderly who are considering downsizing. For the ageing couple who might consider a new $600,000 condo in lieu of the family home they have occupied for the past 30 years, why pay $94,950 in sales taxes? They will probably opt to stay put. For the household contemplating children and needing an extra bedroom, a resale unit will be a far cheaper option than a new unit.

Bottom line: the harmonized tax regime will curtail new housing supply in key sectors of the new homes market and will redirect demand to the resale market. In the long run, this will put upward pressure on house prices.
Tax harmonization is being sold on the grounds that it will benefit the Ontario economy at large. In the case of housing, it will do the exact opposite. The crippling new tax regime, announced in the midst of what may be the largest economic contraction since the Great Depression, will undermine one of the essential foundations of a strong economy -- housing choices at affordable prices.

jmckellar@schulich.yorku.ca - James McKellar is professor of real estate and infrastructure at the Schulich School of Business, York University.