Thursday, 23 April 2015

FAQ: What is the difference between a conventional and a collateral mortgage?

For many first time buyers, the process can be time consuming and overwhelming. Trying to get your finances in order, get a mortgage, plan for the future, not to mention the rest of your life doesn't stop just because you are buying a home.

If you don't have experience buying a home (or even if you do have experience) it can be a lot of information to take in. One very important part of the process that can be very complicated and confusing is getting a mortgage, more importantly knowing what kind of mortgage get.

It is important to understand the term, rate, payment frequency, etc. registered against your property but it is also important to be clear about the type of mortgage you are getting. You never want to be out of the loop or surprised by documents you receive from the bank regarding your mortgage.

An Options purchaser recently reached out due to her surprise that her bank had registered a mortgage worth double the principle loan amount against her property. This type of mortgage is called a Collateral Mortgage. We want to make sure you are equipped with the info to avoid any surprises of your own.

Many banks, including TD, one of the banks that is familiar with the Options model, are now only offering collateral mortgages. Collateral Mortgages differ from Conventional Mortgages in the following ways:

Conventional Mortgage
When a conventional mortgage is registered you will know:
  • What your payments will be 
  • Your rate of interest 
  • Amortization period 
  • When your mortgage will be paid in full 
Unless you refinance to take out equity on your home the balance on a conventional mortgage should only go down.

This type of mortgage can be "transferred" or "switched" to another lender at no cost to you. You can also be approved for a second mortgage (i.e. Home Equity Line of Credit) from another lender. The second mortgage can be registered behind the first mortgage.

Collateral Mortgage

This type of mortgage has become much more common in recent years. In fact, many banks now exclusively register collateral mortgages. A collateral mortgage is basically a loan agreement secured by the collateral security of a mortgage against your home.

Many lenders offer the ability to have a mortgage registered for up to 125 per cent of the value of your home (meaning the balance on your home after your down payment might be worth $200,000 but the mortgage registered against your property could be as much as $450,000.)

One of the benefits of collateral mortgages is that you can go to the same lender and borrow more money (up to the registered limit) without having to register a second mortgage.

Below are a number of drawbacks associated with - and reasons why banks like - collateral mortgages:
  • Lenders will not "transfer" or "switch" a collateral mortgage. If you want to transfer your mortgage to another bank you will have to discharge your mortgage and pay the fees to have an entirely new mortgage registered. 
  • If you have equity in your home and you have defaulted on another loan or credit card the lender can increase your collateral mortgage and pay out any other unpaid debt without your permission. 
  • If you want to refinance your mortgage to consolidate debt, renovate your home, etc. and your primary lender declines you cannot approach any other lenders. 

These pieces by Ellen Roseman in the Toronto Star outline some of the pros and cons of collateral mortgages and why you may want to stay away from them:

A collateral mortgage can trap you-
TD pays mortgage discharge cost for client-

It is important when shopping around for a mortgage to know if you are being offered a conventional or collateral mortgage. It is also a good idea to have your lawyer review the paperwork before you sign for any mortgage.

Since many banks now only register collateral mortgages you may not have a choice but to register for one but the more you know about your mortgage the better off you'll be.

Options staff are not mortgage specialists so please do your research! Talk to the experts and never sign a document without knowing what you are agreeing to!

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