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Becoming a homeowner is no easy feat. Besides going on house-hunting trips, searching for the ideal lender, and doing endless paperwork, one of the greatest challenges is getting a mortgage. Getting approved for a mortgage requires a sizable financial commitment, which means you’ll have to create and implement a detailed savings plan to accumulate the funds needed.
Gaining an understanding of how much money you need to save for a mortgage is crucial. You want to be sure that purchasing a home will enrich your life and not cause you financial and emotional hardship.
So what is a good place to start when assessing how large of a mortgage you can afford? A go-to rule of thumb is to avoid spending more than 25% of your take-home pay on your mortgage. Because your mortgage will likely be your largest expense, it’s prudent to familiarize yourself with your spending habits; you want to be certain you can comfortably pay all your bills without running into cash flow difficulties.
When budgeting for a mortgage, you’ll also need to consider the following factors.
Another financial metric to keep in mind is your debt-to-income ratio, which is your monthly debt payments divided by your gross income. Ideally, this ratio should be 30% or lower. If you already have considerable debt obligations, adding a sizable mortgage on top of that could prove to be burdensome. Also, lenders use this ratio to gauge your ability to make consistent mortgage payments. An abnormally high percentage could be a red flag that you’re more likely to default on your mortgage. As a result, you’ll face more difficulty trying to secure a mortgage with a low-interest rate.
Check out what is debt service ratio and how it can affect your ability to borrow.
By law, the minimum down payment you’re required to put down in Canada is 5% of the purchase price. This amount applies to the first $500,000. If the home you’re purchasing is more than $500,000 but less than a million, you’ll need to put down ten percent on every dollar above $500,000.
Find out if you can get a no down payment mortgage.
Though you may opt to contribute only the minimum amount, aim for a down between 10% and 20%. A larger down payment is advantageous for several reasons: you’ll increase your ability to bid on the price of the home, you’ll be better protected from property price declines, and you’ll be liable for less mortgage insurance (you may even be able to avoid it altogether).
If you’ve made a down payment of less than 20%, you’re required to pay mortgage insurance. The Canada Mortgage Housing Corporation (CMHC) provides most of the mortgage insurance in Canada.
The amount of mortgage insurance you’ll have to pay will depend on your home’s purchase price and the size of your down payment. A more expensive home will result in higher insurance. Conversely, a higher down payment will translate into lower insurance. You can avoid paying mortgage insurance altogether by making a down payment of 20% or more.
The insurance premium is typically added to your mortgage and paid off over time in your scheduled mortgage payments. You also have the option of paying it with a one-time lump sum payment.
Your mortgage lender may require that an appraisal be done on the home you intend to purchase; they want to be certain it’s worth its purchase price and can cover any losses should you default on your mortgage. You will also want to have a professional inspect the property and report on its condition to ensure there aren’t any unwanted surprises. Expect to pay several hundred dollars each for an appraisal and inspection.
Closing Costs
Closing costs are one-time expenses associated with a home purchase. They may include legal fees, title insurance, land transfer taxes, moving expenses, land survey fees, and prepaid utility bills. You should budget for a cash outlay of between 2% and 5% of the home’s selling price.
While creating a budget is critical, you also need to create a time frame for accumulating the funds necessary for your mortgage. You should know how much you need to save and how long it will take you to save.
For example, if you’ve determined that you’ll need $50,000 in 4 years’ time, you can calculate the amount required to save each month. Assuming you start with nothing and invest in a financial asset that generates a 4% annual return (interest compounded monthly), you’ll need to save approximately $963 each month to reach your goal.
There is a multitude of ways you can save for a mortgage. Some are easy to implement, while others will require some creativity and sacrifice.
Make your money work for you by investing strategically to generate returns in safe investments. Some great places to invest your money include:
If you need to collect some extra cash to help obtain your mortgage, scrutinizing your spending habits is a no-brainer.
Check out the 50/20/30 rule for better budgeting.
Use Budgeting Apps
Instead of typing endless lines of data into a spreadsheet, consider using a budgeting app. These apps track your spending and alert you to instances where you’re deviating from your budget. Some also help optimize your debt repayment plans and automatically invest your spare change into a savings or investment account.
There are numerous ways to make your mortgage more affordable, so be sure to acquaint yourself with the available tools and strategies. Some ways to keep the cost of a mortgage down include:
A mortgage will likely be the most significant liability you’ll be responsible for – and for a very long time. As you prepare to take the necessary steps toward acquiring a mortgage, keep the following in mind:
If you’re in the market to purchase a home and aren’t sure about your mortgage options, Loans Canada can help match you with a lender in your area.
Note: Loans Canada does not arrange, underwrite or broker mortgages. We are a simple referral service.
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Loans Canada is pleased to announce it placed No. 131 on the 2022 Report on Business ranking of Canada’s Top Growing Companies.
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