This is a great article from the Toronto Star that outlines the costs and benefits of the new 30 and 35 year mortgages. If you are considering lengthening your mortgage beyond the now normal 25 year period you should definitely read this article.
Big mortgage isn’t always good
Oct. 17, 2006. 07:22 AM
JAMES DAW
The 30-year, 35-year and 100 per cent mortgage could get more Canadian families into their own homes sooner.
And we hope, for their sakes and for other home buyers, that it works out for the best.
Home ownership has many virtues, quite apart from the value of real estate as an investment. But, like all of life’s major decisions, a home purchase is best approached with a clear head and tight grip on the facts.
Around cities such as Toronto, Vancouver, Calgary and Edmonton, where average home prices have moved out of reach of many young families, the 35-year mortgage has enjoyed considerable early acceptance.
If John and Mary Homebuyer were to find a $250,000 home, and put down a 5 per cent deposit, they could reduce their monthly payments from about $1,447 to $1,259 by stretching payments over 35 years instead of the usual 25 years. (This assumes negotiating a discounted, five-year rate of 5.2 per cent.)
To qualify for the $237,500 mortgage, their gross family income would need to be about $60,000 a year instead of $66,000, according to a nifty calculator supplied by Richmond Hill mortgage broker Byron Dailey of MortgageTech Corp.
Peter Vukanovich, president of Genworth Financial Canada, says mortgages with a 35-year payment schedule already account for nearly 20 per cent of new mortgage business his company now insures. Ideal candidates, he suggests, are those who expect their incomes to rise over time and who will have the discipline to increase their payments in order to retire their debt much sooner than 2041.
Clearly, those who take his advice are on to a good thing. These new mortgage payment options will not, on their own, save buyers money. The only way an early home purchase and a long payment schedule make pure financial sense is if home prices rise.
That is, in fact, what we have come to expect in recent years. Without a certain increase in home prices, however, the buyer will pay more in interest and principal than the home will be worth 35 years from now. The homeowner will have had the use of a home he or she might prefer, but will not have made a good investment.
Even in the short term, if prices were to fall or rise only very slowly, it would make more sense to wait and save a larger down payment than it would to jump into the market now.
Prices would not have to keep rising as quickly as they have in the past few years, however, to bring a long-amortization mortgage on to the right side of sensible. But, in the example of John and Mary, prices would have to go up a certain amount.
For example, long-amortization mortgages would not work well in an environment where prices rose only as quickly as they did in Winnipeg, Saskatoon, Edmonton or various other urban centres between 1981 and 1995.
Economist Craig Alexander of TD Bank Financial Group wrote in a report last month that prices in Edmonton fell relative to other consumer prices during that period. In Winnipeg and Saskatoon, prices beat the consumer price index, but by only 0.2 per cent a year.
Translate that sort of increase into current times, and see what you get. These days, inflation is expected to average about 2 per cent a year. If home prices were to rise only 2.2 per cent a year, and if interest rates remained the same, John and Mary would not do well.
Their $1,259.20 in monthly payments would total nearly $529,000 over 35 years, and their house would be worth only $535,435. The two would not have lost any money, but they would not have much to boast about at parties.
The couple would make out much better in the short term, and the long term, if prices were to rise an average of 4 per cent a year. That, in fact, is what Alexander has forecast will be about the national average for house-price increases over the next quarter century.
At that rate, a $250,000 house would rise in price to $304,000 within five years. John and Mary would then face having to raise about $61,000 for a down payment to avoid any increase in monthly payments.
By getting in today, the $64,000 price gain would increase their equity in the home to $76,500. That expectation, argues mortgage broker Dailey, is why many prospective buyers would be wise to at least consider a long-amortization loan.
Financial planner Ted Rechtshaffen of TriDelta Financial Partners agrees the strategy could work well for certain buyers, such as young professionals starting out in a career. But he urges buyers to seek advice first.
In Ontario, the urgency to buy may be somewhat less. Alexander and his colleagues predict price increases of only 2.9 per cent next year and 2.5 per cent in 2008, although prices around Toronto could rise faster.
