Here’s what you need to know about mortgage default insurance

You have probably heard of mortgage default insurance, but what exactly is it? How does it work? This product can benefit buyers and lenders in the market, but it has its own unique advantages and drawbacks. For some people, this insurance is a lifesaver, while for others it is something to avoid if possible. Here’s what you should know about this product when entering the market!

Who needs mortgage default insurance?

First things first, why would someone need mortgage default insurance? This product is for people whose down payment is below 20 per cent on a home purchase. Down payments under this amount require the addition of default insurance. If the homeowner were to default on their mortgage, this would leave the lender in a tricky situation, which is where the insurance comes in. Mortgage default insurance exists to protect the lender in case the homeowner cannot make their mortgage payments. It ensures the lender will not suffer any major losses. This product gives lenders the freedom to finance less than 20 percent down payment mortgages with confidence, and for buyers to enter the market with smaller down payments. 

Who provides it?

In Canada, there are three providers of mortgage default insurance. The largest is the Canadian Mortgage and Housing Corporation (CMHC). This corporation is supported by the government. The other two providers are private insurers, which are Canada Guaranty and Sagen. These three providers all serve the same purpose of protecting the lender. However, they all have their own unique traits that draw in different people. Your broker will play a key role in determining which provider is best for you, depending on the lender. This insurance usually costs buyers between three and four per cent of their mortgage amount. This fee is generally added to your mortgage and built into your mortgage payments.

Is it worth it?

Some people may wonder if they should bother entering the market with a smaller down payment if it means having to purchase default insurance. While it depends on the buyer, there is a case for taking this route! As we mentioned, this insurance applies to those with down payments below 20 per cent. Down payments can take a long time to save up, so having the option to enter the market quicker is an advantage for some people. During certain market conditions, such as low interest rates or stable housing prices, you might want to jump into the market as soon as possible. Default insurance allows you to do so with a smaller down payment, which of course takes less time to save. Another way to look at it is the possibility of purchasing a more expensive home. For example, if you wanted to buy a home with a $700,000 price tag, a 20 per cent down payment would be $140,000. However, if we apply the current down payment rules, the minimum down payment you could contribute is $45,000. This is quite a difference! If entering the market sooner is a priority, default insurance can help you get there. Just make sure you are still purchasing a home within your budget. Your mortgage broker will help ensure you are buying a home you can afford. 

How can you avoid it?

There is also an argument for not getting default insurance, as it is an extra cost when owning a home. How can you avoid it? The only way to get around this is by having that 20 per cent down payment. You must save up enough money to contribute that amount upfront. This means you can either take extra time to save before entering the market, or you can buy a less expensive home. 20 per cent of a $600,000 home is much less than 20 per cent of a $900,000 home, for example. It depends on your timeline and how important it is for you to own a home. If you can wait it out, it may be worth saving up. If not, you can lower your budget to make sure you can pay 20 per cent. Both of these options will remove the extra cost of insurance. 

Mortgage default insurance is a handy tool for both buyers and lenders. It allows buyers to become homeowners sooner, while still protecting the financial interests of the lender. The decision to purchase this insurance depends on your budget and preferences. You can reach out to your broker to discuss which path is best for you. 

If you have any questions about your mortgage, get in touch!