In this video we look at how a mortgage works and why do you need one as a
first-time homebuyer. That's starting right now
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So today I'm joined by Mujtaba Syed,
Mortgage Specialist for the Bank of Montreal, and today we're
gonna talk about actually how do mortgages work.
So can you tell me a
little bit more about how mortgages actually work?
so what a mortgage is, it's a specific type of loan that you're using to
purchase a home or security like a real estate security. So it could be
residential or it could be commercial. But mortgage technically is used
as a loan to purchase a home.
Very few people have enough money to buy a house in cash
so what you do is that you come up with a certain amount of money which
is your initial down payment which is gonna be your contribution towards the
mortgage, and then you will go to a bank and they will come up with the remainder.
So they will lend you that amount depending on how much you qualify for so
you can go ahead and buy that home.
They will now put a lien on that property
till you have paid off. Now your term could be five years and your
amortization which is the life of the loan -- so clients always ask me what is an amortization?
amortization means the life of the loan, so obviously 25
years would be a life of a loan which means your payment's are kind of spread
out over 25 years because it'd be very difficult for you and be very hard if
you had to pay off sooner.
So they would actually go over a certain life of the
mortgage which is 25 years. Rates are actually based on terms.
So terms are anywhere between 6 months all the way up to 10 years most Canadians will go with
a 5-year term because they feel like 5 years is a longest time that they want
to commit to a certain home or to a certain lender and rates are pretty decent
So let's say your rates are based on a 5-year term or, 5 year
increments that you decided to stay with this Bank for at a certain rate that
you're gonna willing to pay them back based on what they've lent to you
over an amortization or life of loan over 25 years.
So a mortgage in a nutshell is a loan that you get to buy a home, that a lender would provide to you.
Does it have to actually be a mortgage? Like can I just go to the bank say "hey I
need to borrow $150,000" and they ask you why and you're like "well it doesn't
matter because I just need to borrow $150,000"
It definitely matters.
Every time you go into a bank and you ask for borrowing or you have some
borrowing needs, they're gonna ask you what you need those funds for
every process with the bank when you're borrowing something has different needs
So it will be looking at you using it for different purposes and then we
might have different collateral needs for that, we might have different
qualifying needs for that, different income requirements, so bank will walk
you through that so it definitely does matter if you're going to borrow for a mortgage,
the bank will tell you it's for a mortgage and then you have to actually
provide to them what they need to get it approved.
So when you mentioned a lien,
what does that mean?
So a lien just means that this thing is not free and clear
let's use a home for example: let's say you put a title of a home, a title is
like a deed of ownership, and you see there's a lien on it for like three
hundred and fifty thousand with let's say Bank A.
That means that of this home,
$350,000 belongs to bank A till you pay that $350,000 off
or till they release the lien.
If you want to be able to buy
that home -- you're a buyer and the seller provides you a title with $350,000
you want to make sure that this lien is off this property
before you can buy it. Anyone that holds the lien on that
property can actually claim ownership of that property if they refuses to pay so
it's a very very important thing. This is how banks protect
their funds, their investment into a home, into a car, into any other assets they're
lending on to. It's to say "we lend X amount of dollars, we own X amount of this
property until it gets paid off"
And that's kind of what it means when
someone forecloses on a mortgage, they can't afford to pay the mortgage
anymore which means they probably have to leave the house
Yeah so usually if you can't afford to pay a home, the bank will absolutely try
to work with you in the beginning to see what they can do.
But unfortunately let's say
you can't pay it back, there's a lien on the home with bank A,
bank A will definitely take that home home and it will try to
recuperate any funds that they have lent by putting it up for sale, putting
it up for auction, whatever it is so they can recuperate some of that cost.
So that is what goes into a foreclosure process.
So let's say
you buy a house for $350k right and you only pay a 5% down payment and
you borrow the rest.
What happens when you sell that home and buy a new home?
Does your mortgage transfer over or do you have to get a brand new mortgage?
A lot of mortgages have listed terms and conditions.
Terms and conditions are very very important. Most mortgages have a term built in
which is called portability, where you can actually port your mortgage from one
property to another as long as you qualify to do so. You still have to go to
the qualification process. A lot my clients ask me and say "I qualified
five years ago. Why do I need to go qualify again if I'm just moving a mortgage over?"
It's because every time we do that, we need to see if the situation has changed.
It does go through the approval process like a brand new mortgage.
We will have appraise the property again or do our due diligence
on the property again to make sure it fits our criteria again. But what it does
it saves you from any penalties, so let's say you want a term of five years
you decide to sell before that five year term is up there's going to be you've
signed a contract with the bank to be there for five years there's going to be
some penalties incurred but you can't port your mortgage on to a new property
some banks will give you 30, 60, 90, days maybe 120 days to do that depending on
the lender so that's by the time you saw you have certain amount of time to find
a new property you can save yourself those penalties so you're not locked into
a home for two too long but every mortgage should have a portability
option built into it.
And how about if the home that
you're buying is significantly more or significantly less than what your previous home is?
Does that portability still take into account the
price of the home that you're buying?
Yeah absolutely, so let's say scenario 1 is you're
buying a home that is more than you what you previously had. So you bought a home
for $400,000, the mortgage amount is $350,000 but now you're looking to borrow
$650,000 right there's a $$300,000 difference.
Let's say you have interest
rate of 3% on the $350k, and you needed to borrow another $300,000 and
today's rates were at 3.5% for example.
What the bank would do
is it will make it into one mortgage of $650,000 then they would do a
blend of the rates, so they'll blend 3% with 3.5% so you fall right into the middle and
you will have one mortgage based on that. You still get to save your penalty,
you still get to save any other cost that might be associated with paying it out sooner and
you get that one mortgage.
Scenario B let's say you're buying something that
which is considerably less than what you originally had.
For example, $200,000 is your mortgage, and you're buying something for
$100,000, right so you sell your home you borrow $100,000
you will pay a pay penalty on the amount that you're not borrowing
which is going to be the hundred thousand, which is still going to be
significantly less penalty than the whole amount, but you will pay a penalty on the
amount that you're not borrowing, and you just take a decreased amount at whatever
the interest rate that you had at $200,000. There won't be any
blending at that time because there's no greater value to be added to the mortgage.
It's actually just decreasing the mortgage by that amount.
Do you also pay a penalty for a home that's more expensive as well?
You won't pay a penalty if you don't break your term. If you keep
your term on the mortgage amount -- let's say it's $350,000, they
said that $350,000, there's no changes to that, there's no
penalty incurred.
We could do a blend and an extend if you're buying a property worth more
but there will be no penalties incurred to do that unless you
decide you want to break that original agreement of $350k and then the penalty
will be based on a scenario ie. if you're taking less, if you're not taking any of it...
The penalty will be based on that.
Perfect. Do you have anything else to add?
Definitely, so penalties, they're a touchy subject.
Working with the clients and with the banks, it's something that a lot of clients don't
understand because there's two ways to calculate penalty;
one is called Three Months Interest. So depending on what kind of mortgage you have you
can be charged three months interest
or something called IRD which is called
Interest Rate Differential... I'm not going to go into a little bit too much because
it's a very complicated process. So the best thing to do is that if you're
looking at selling your home,
or you're finding a bank you want to go through their
terms and agreements, find out with them to see how they
calculate penalties. That could be a very big thing because you might not
want to be in the home as long as you might think, so you want to do this
due diligence upfront to find out "if I do leave sooner,
what kind of penalties am I looking at?" and let the lender come up to you and say
"listen these are the numbers that we're talking about. It could be in this range
in this range if you're comfortable with that, great. If not maybe re-assess your
situation maybe even re-assess if you want to be in that house longer and
maybe take a shorter term. Instead of going for a five-year term, you know you
want to leave in two, maybe go for a two-year term.
Maybe go for a one-year term. So those are conversations you want to
have in the beginning. No one enjoys paying a penalty. I certainly don't.
Perfect. Well thank you very much for watching so if you want to know more
about the mortgage approval process we've got a great video series here as
well as other home financing videos that you can see here.
Don't forget to subscribe to keep hearing from the experts,
and we'll catch you in our next video.