Understanding the basics of a mortgage will help prepare you for what’s to come in the months and days leading up to getting the keys to your new home. 

Key Takeaways 

• A mortgage is a loan that can be used when purchasing or refinancing a property, which is used to secure the loan. 
• The process for obtaining a mortgage includes finding a lender, submitting supporting documentation, getting approved, and finally signing to close the deal. 
• Qualifying for a mortgage requires having at least 5% to put down, good credit, and an acceptable debt servicing ratio.

Define Mortgage Loans

By definition, a mortgage loan is an agreement between two parties; you and a lender, that outlines the terms and conditions of the loan. 

It is secured by real estate (owned by you) that grants the lender (banks, credit unions, etc.) a lien (mortgage) against the title of the property (collateral). A lien (mortgage) will remain against the property until it is fully paid off.

Overview of the Mortgage Loan Process

If you’re at the stage where you need to understand the mortgage loan process, congratulations! This means you likely have an accepted offer to purchase a property and are ready to finalize this stage of the home-buying journey. 

1. The first step of the mortgage loan process is to find a lender. At this stage, it’s important to shop around and find the lender that not only offers the best rates – but that offers the best overall features, benefits, and restrictions. 

2. The next stage of the mortgage loan process starts with submitting several documents for final approval. These documents will include employment verification through T4s, recent paystubs, letters of employment, your notice of assessment (NOA), and any other proof of income (freelance, rental income, investments, etc.). 

3. You will also need proof of down payment from sources such as your savings accounts, RRSPs, gifts, or proceeds from selling another property. It’s important to note that if the funds are coming from your RRSP or are gifted from abroad – the amount must remain in your account for 90 days before purchase. 

4. In addition to employment and source of funds verification, your lender will also request documentation related to the property. This includes items such as the real estate (MLS) listing, complete address, amount of property taxes (confirmed on the MLS listing or via the property tax statement) and condo fees (if applicable), estimated heating costs, official purchase agreement that includes the purchase price and closing date, home appraisal or inspection and land survey (if conducted), and the contact information for your lawyer. 

5. The final stage of the mortgage loan process depends on completing and verifying the documents provided. Once the lender has provided you with approval, your lawyer will finalize and prepare the documents you must sign. You will then provide the down payment and any closing costs associated with the purchase and receive the keys to your new home.  

The Basics of Mortgage Loans

When you obtain a mortgage, it is essentially a promise to repay the borrowed amount according to the terms and conditions set out in the loan. It’s safe to say that many looking to purchase a property don’t have much cash, making mortgage loans necessary for those looking to buy. 

While the lender will lend you the money to purchase – the lender will not attain ownership of the  property. A mortgage loan acts as a lien against the property – meaning you are entirely free and clear to do whatever you wish with the property, including reselling. The lender retains the right to sell the property if you cannot repay the loan.

Types of Mortgages Available

When it comes time to decide which mortgage type you prefer, the first choice you will need to make is whether to go fixed or variable. The next choice will be choosing the term length (with the 5-year term being the most popular) and whether you want an open or closed mortgage. 

A fixed-rate mortgage means your rate and payments will remain unchanged over the mortgage term. So regardless of whether rates increase or decrease, there is peace of mind knowing that everything will remain unchanged throughout the term. 

A variable-rate mortgage means your rate could change over the mortgage term – either increasing or decreasing based on the lender’s prime rate. With variable-rate mortgages, you can choose to have fixed or adjustable payments. With fixed payments, if the rate increases, more of your payment will go toward the interest portion of your mortgage, and if rates decrease, more of your payment will go toward the principal. However, suppose you have a variable mortgage with adjustable payments. In that case, the interest portion of your payment will increase or decrease along with the lender’s prime rate, while the principal portion will remain the same. 

When selecting the length of the term, you will want to consider a few things, such as the duration of time you plan to keep the property and how you believe rates will behave in the future. It’s important to remember that should you need to break a mortgage term early, it can come with some extremely high penalties. Mortgage terms can range from 6 months to 10 years, with the most popular term in Canada being the 5-year term. 

Open mortgages allow you to pre-pay any amount toward your mortgage at any time without pre-payment penalties. Open mortgages typically have a higher interest rate as a trade-off for their flexibility. Closed mortgages limit how much you can pre-pay (usually up to 15%, but it varies by lender). If you pay more, you will face a pre-payment penalty. Closed mortgages typically come with lower interest rates as a trade-off for not being as flexible as an open mortgage.

Qualifying for a Mortgage

When it comes time to qualify for a mortgage, lenders will look at what you have as a downpayment (you need to have at least 5% of the purchase price), your credit score, as well as something called a debt service ratio to determine your ability to repay a mortgage loan. The debt service ratio comprises two ratios: gross debt service (GDS) and total debt service (TDS). 

The lender uses TDS and GDS ratios and your credit score to assess risk and better understand if you can repay the mortgage. The lower your debt servicing ratios, the easier to obtain a mortgage. A standard rule of thumb is to keep GDS at or below 32% (for uninsured mortgages) and 39% (for insured mortgages) and TDS at or below 40% (for uninsured mortgages) and 44% (for insured mortgages).

How Much Can You Borrow, and What Are the Current Interest Rates?

How much you can borrow will depend on a few factors. The most important is your income. This is where the debt-to-income ratio comes in when determining how much you can afford. Having a TDS and GDS at or below the acceptable ranges indicates to lenders that you can manage debt and can pay back the amount you are asking to borrow. 

The next thing to consider is what you have saved for a downpayment and closing costs. These are significant upfront costs you cannot roll into the mortgage itself – meaning you will need to have these available as savings or cash at the time of your closing. You need at least 5% of the purchase price toward the down payment, and closing costs are usually estimated at around 3%-5% (or 1.5%-2.5% for first-time homebuyers) of the purchase price. 

Credit scores are the next thing you’ll need to consider, as your score will impact your ability to qualify for a mortgage. In general, to obtain a mortgage from traditional lenders in Canada, you must have a score of 650 or higher. 

Currently, interest rates range between 4% to 6% depending on the lender you choose and the type of mortgage solution.

The Importance of Credit Scores

Your credit score is an essential factor in the mortgage process, as your credit score is an indication of how well you have handled and managed debt so far. The better your score, the more favourable you are to lenders because this tells them you can effectively manage your debts and make timely payments. 

Having a credit score that is too low (under 650) means you will have a more challenging time finding a prime lender where you will qualify for a mortgage. In most cases, you must work to increase your credit score before you can revisit qualifying with traditional lenders. 

A higher credit score of 680 or better will help you get a better mortgage rate than a lender offers since higher scores typically equal better rates. The best mortgage rates a lender has available are usually only reserved for those with credit scores of 740+.

Closing a Mortgage Loan

Closing day is a happy and sometimes stressful occasion. This is where you will sign all the documents and be handed the keys to your new home – finally taking legal possession of the property. 

What happens during closing

During closing, this is where you will take the time to review and sign the final package of documents that your lawyer prepares. Important: don’t forget your ID! You must bring 2 pieces of ID (driver’s license, passport, etc.) with you to verify your identity. 

You will then provide the final amount of funds (usually as a bank draft or certified cheque) required to close out the deal – this includes everything, such as down payment and closing costs. These costs are confirmed between your lawyer and the lender.  

Next, your lender will transfer the mortgage funds to your lawyer’s trust account. Once it’s confirmed that funds have been received, your lawyer will register you on title with the Land Registry Office, making it official that you are the property’s new owner. Now you’re ready to pick up your keys to your new home.  

Understanding the mortgage documents

There will be a lot of documents that will be presented to you to review and sign for closing day. In addition to the accepted agreement of purchase and sale, you will also need to review a list of other documents that may include the following: 

• Title transfer – this document shows who the property title is being transferred from and to, 
• Title insurance – this document is the homeowner’s insurance policy binder, 
• trust ledger – this document outlines the transaction between you and your real estate lawyer,
• Statement of account and affidavit – this is an overview of the transaction between the buyer and seller  (this may also be known as the statement of adjustments), 
• Mortgage contract – this outlines the terms and conditions of your mortgage and how the charge is registered against your property’s title.

Preparing for Loan Payments

Preparing to make your mortgage payments before closing will help eliminate some of the stress of being a homeowner. It’s important first to understand the payment frequency that you have selected (ex., monthly, bi-weekly, accelerated bi-weekly, etc.). From there, planning a budget to ensure you have the amount available on the mortgage payment date and building and maintaining a buffer in your account to cover a few cycles of payments is one of the best ways to ensure you never miss a payment. 

Frequently Asked Questions

Final Thoughts

The mortgage process may initially seem intimidating and complicated, but it doesn’t need to be. Being equipped with the knowledge of what is involved in the mortgage process, from shopping around to finding the best lender, gathering your supporting documents, getting approved, and finally, budgeting for mortgage payments, will help to alleviate some of the stress that comes with the mortgage loan process.