The theme for 2012 mortgage rules was pretty obvious: crack down on homebuyers who were looking to purchase a home with little money down. Changes barring cash-back mortgages by the Canada Mortgage and Housing Corp. made it clear that regulators wanted to dissuade cash-poor consumers from taking on more debt. Yet, even despite these changes, first time homebuyers can still manage to enter the real estate market with as little as 5 percent down.
Is this the best way to take your first step onto the real estate ladder? Not necessarily. However, if you’re well-qualified, (aside from the down payment), and have enough potential resources to withstand a loss of income along with the ever present threat of falling real estate prices, you might be better off borrowing to buy instead of throwing your money away on rent.
What Can You Do When You’re Cash-Poor?
Saving a sizeable down payment isn’t easy. According to recent statistics, the average Canadian home costs roughly $356,000. What’s more, according to the Canadian Association of Accredited Mortgage Professionals, more than one-fifth of all renters in Canada have less than $5,000 put away for a down payment on a home. And yet, there’s no shortage of first time home buyers on the market.
So, how are cash-strapped house hunters managing?
For many, the answer is to seek out alternative down payment sources.
Alternative Option #1 – Borrowing Your Down Payment
It’s important to note that Ottawa prohibits house hunters from borrowing the minimum 5 percent down payment from a mortgage lender if that lender is a bank or federal trust company.
With that being said, first time homebuyers can still leverage other credit sources. Popular options include lines of credit, personal loans, and even credit cards. (A word of warning, slapping your down payment on your VISA is not a good idea). Borrowing your down payment might seem like an easy solution, but it’s also an extremely expensive one. It’s not uncommon for the interest rate on your borrowed down payment sum to be much higher than the rate you’re paying on your mortgage as a whole.
Alternative Option #2 – The Cash-back Option
While federally regulated institutions are prohibited from offering cash-back options, non-regulated lenders, like credit unions, can still offer these options without fear of penalty. Of course, the interest rates on these products are extremely high. The homebuyer will also be required to come up with money for closing costs in order to cover things like the land transfer tax, legal and inspection fees.
Note: there’s debate as to whether or not credit unions will be able to continue offering cash-back mortgages for much longer. New provincial and mortgage insurer regulations are expected to eliminate this option entirely.
Alternative Option #3 – RRSP Home Buyers Plan
The government’s Home Buyers Plan is a quick and easy way for first time homebuyers to free up cash for a down payment on a home. As part of the plan, new homebuyers can draw up to $25,000 from their RRSPs in order to beef up their down payment. But, before you drain your account, consider the following: emptying your retirement savings in your 20s and 30s means you’ll risk losing years of tax-deferred investment gains. What’s more, if you forget to make an instalment payment on time, it will be taxed as income on that year’s income tax return.
Alternative Option #4 – A Gifted Down Payment
Generous relatives can certainly come in handy when it comes time to buy a house. Having your parents or grandparents “gift” you a down payment is perfectly legal, provided you can get everyone to sign the proper paperwork. It’s also important to note that a “gift” is not a personal loan. With a gift, there is no expectation to pay your relative back. If you’re borrowing the money from a relative, it’s considered an additional liability and the bank will see that as an increase to your debt obligation.
Don’t assume that an alternative form of funding is the best way to secure you down payment. Speak with an accredited mortgage broker before you make your final financing decision.