When it’s time to take out a mortgage to finance a home purchase, you’ll be inundated with all sorts of options and might wonder which one is right for you. Two types of mortgages that you may hear of include a “collateral mortgage” and a “conventional mortgage.”
The question is, what are these types of home loans and how do they compare against each other?
Key Points
- A collateral mortgage allows you to borrow more funds as the value of your home increases without having to refinance.
- A conventional mortgage requires a minimum down payment of 20% of the purchase price of the property.
- While a conventional mortgage is registered with the local land title office, a collateral mortgage is registered with the lender.
What Is A Collateral Mortgage?
A collateral mortgage is a type of mortgage product that is “re-advanceable.” That means the lender can loan you more funds as the value of your home increases without the need to refinance your home loan. In this case, your lender would register your property with a collateral charge, typically up to 125% of the property’s value.
Once your property is registered with a collateral charge, you’re then allowed to borrow money from your home any time you want without having to refinance. This arrangement is similar to a Home Equity Line of Credit (HELOC), which allows you to borrow against your home’s equity any time you want, as long as you stay within your limit.
A collateral mortgage is registered with the lender, who has secondary security and places a lien against the property for the entire amount registered. This amount can be as much as 125% of the value of the home.
A collateral mortgage lets borrowers to put more money towards the principal or to reissue principal that’s already been repaid.
How To Calculate Your Collateral Mortgage?
Depending on your lender, they may be able to register your mortgage for up to 125% of your home’s value, as mentioned. Let’s look at how to calculate your collateral mortgage amount and the equity you have available.
Step 1 – What Is The Registered Home Value?
To calculate the registered home value of the collateral charge mortgage, you’ll have to take the home value and multiply it by the max loan-to-home value. For instance, let’s say your home is worth $500,000 and your lender registers your mortgage for 125% of its value:
$500,000 (Home Value) x 125% (Max Loan-To-Value Ratio) = $625,000 (Max Registered Home Value)
Step 2 – How Much Equity Do You Have?
Let’s say you can borrow up to 70% of your max registered home value and you have $200,000 left on your mortgage. To calculate how much money you can borrow, follow this formula:
$625,000 (Max Registered Home Value) x 70% (Max Loan-To-Value Ratio) = $437,500
$437,500 – $200,000 (Amount Owed On Mortgage) = $237,500 (Equity Available)
Pros Of A Collateral Mortgage
There are a couple of notable perks of a collateral mortgage:
- Easy To Borrow Money – The main advantage of a collateral mortgage is that it will likely be easier and more affordable to borrow money in the future from your current lender.
- Avoid Fees – Since you don’t have to refinance the mortgage, you won’t have to pay any fees associated with paying a real estate lawyer that would otherwise be required.
Cons Of A Collateral Mortgage
While a collateral mortgage may have its benefits, there are a couple of drawbacks to consider:
- More Difficulty Switching Lenders – Collateral mortgages are more difficult to transfer to another lender without first being discharged.
- Pay Fees To Switch Lenders – If you decide to switch lenders, you’ll need to pay legal fees, even if you’ve reached your mortgage renewal period. That said, the new lender will often cover these fees.
What Is A Conventional Mortgage?
A conventional mortgage places a mortgage charge on your home and is registered with the land title office in your jurisdiction.
This type of home loan does not exceed 80% of the property’s appraised value or purchase price. To qualify for a conventional mortgage, you must make a down payment of at least 20% of the purchase price. If you’re unable to put at least 20% down, you’ll need to opt for a high-ratio mortgage.
If you need to borrow more than 80% of the appraised value of the home, then your mortgage is considered to be a high-ratio mortgage. This refers to the percentage of the borrowed funds compared to the home’s value. These home loans can be approved with down payment as low as 5%.
Pros Of A Conventional Mortgage
Some of the benefits of a conventional mortgage include the following:
- No mortgage default insurance. One of the prime benefits of taking out a conventional mortgage is that you won’t have to pay the extra premium for CMHC insurance. Also known as “mortgage default insurance,” this policy protects lenders when a mortgage of more than 80% of the home value is required.
- More equity. With a bigger down payment, you won’t have to borrow as much. In turn, you can benefit from more equity in your home from the get-go, as well as lower monthly payments. If you ever need to use the equity in your home for a large purchase, you may be eligible to do so through a home equity line of credit (HELOC).
Cons Of A Conventional Mortgage
Along with the perks of a conventional mortgage come a couple of drawbacks:
- Higher down payment required. You must make a down payment of at least 20% of the home’s purchase price to qualify for a conventional mortgage.
- Higher interest rates. Conventional mortgages generally have higher rates than high-ratio mortgages because they’re insured, which protects the lender if the borrower defaults.
A Word About CMHC Insurance
CMHC insurance comes with an added fee for high-ratio mortgages. The actual amount paid will depend on the size of the down payment. The following table summarizes the percentage paid against the purchase price of the home, depending on the down payment amount:
| Down Payment | CMHC Insurance |
| 5% – 9.99% | 4.00% |
| 10% – 14.99% | 3.10% |
| 15% – 19.99% | 2.80% |
| 20% or more | 0.00% |
With a conventional mortgage, you would be free from this added fee. Any down payment of 20% or more excludes you from being bound to mortgage default insurance.
For instance, if you come up with a 5% down payment on a $500,000 home purchase ($25,000), you would need a loan amount of $475,000. Based on your down payment, you would have to pay 4.00% of your loan amount toward your CMHC insurance premium, which would come to $19,000. In some provinces, you’ll also need to add PST to this total, including in Saskatchewan, Ontario, and Quebec.
How Do Conventional And Collateral Mortgages Compare?
There are key differences between conventional and collateral mortgages:
How Each Is Registered
A conventional mortgage is registered with the local land title office, while a collateral mortgage is registered with the lender.
Flexibility With Switching Lenders
If you want to renew a conventional mortgage, you can switch lenders with little issue and low costs. You may still have to undergo the stress test when switching. If you want to switch lenders with a collateral mortgage, you first discharge the mortgage from your lender and then register it with your new lender. This is more of a hassle and comes with additional legal costs.
Cost Of Additional Financing
With a collateral mortgage, your lender can increase your loan without you having to pay additional fees, though you’ll need to re-qualify to get approved. With a conventional mortgage, you submit a new loan application and pay legal fees to get additional financing.
Want to know what a “Cash Back” Mortgage is? Look here.
Final Thoughts
If you want the flexibility to borrow money from your home whenever you need to without having to refinance, then a collateral mortgage may be worth considering. But if you want the flexibility to switch lenders when it comes time to renew for a better interest rate, consider a conventional mortgage. Regardless, seek independent advice, especially if you are not entirely sure about how the terms and conditions of mortgages work.
