Owning is expensive, especially when you add that expense to all the other expenses you have as an adult. That’s why many Canadian homeowners choose to tap into their real estate holdings in order to be approved for a loan. Let’s see what it means to use your home to get a loan.
What is the equity of a home?
As an owner repays his mortgage over the years, he begins to build the equity in his home. The more he pays his mortgage, the more he acquires equity for future use. Your net worth will also increase with the increase in the value of your property and the fluctuations of the real estate market. Many homeowners choose to use their net worth to finance a large expense. This expense could be something that adds value to your home, to pay off a car loan or send the kids to school. Whatever the cost, the capital will be used to repay the loan.
Do I have a real estate value?
If you have repaid your mortgage for several years, you probably have at least a bit of equity. As mentioned above, you build equity when you repay your mortgage. If you have decided to use the equity in your home to get a second mortgage, you will need to have your home assessed to determine how much it is worth. But, if you are just curious about how much you have in net worth and have a general idea of your value before contacting your lender, here is an easy calculation. To know how much money you own, you must know the value of your house (in this case, you can use the value of your home when you bought it, remember that the actual value will probably be different) and how much more you owe on your mortgage.
Value of the house = $ 376,000
80% of the value ($ 376,000 x 0.8) = $ 300,800
How much you still owe in mortgage = $ 232,000
80% of the value of your home – amount you owe the mortgage = $ 68,800
In this case, you can expect to receive a second mortgage for $ 68,800 or less.
Be aware that the number you will get from the equation above is just an estimate because you will not really know the current value of your home until it is evaluated.
How can I access my home equity?
In general, homeowners use three traditional methods to access the equity in their home.
Home Equity Loans
What are they and how do they work?
A home equity loan is a loan that uses your home as collateral. It works like any other type of secured loan. Your lender will allow you to borrow a specific amount of money, depending on the value of your home. You will have to pay interest and make interim payments.
How can I get one?
To obtain a home equity loan, you must own a home, which must be valued by your lender, have repaid a large portion of your mortgage and be financially secure enough to handle more debt.
How to use it?
With a home equity loan, you will be able to borrow up to 80% of the appraised value of the property, less what you have to pay on your original mortgage. You will have to repay both mortgages at the same time.
Home equity loans are also common for those who prefer to use a large amount of money to finance something in a short period of time. In fact, according to real estate financial experts, home equity loans should be repaid within 5 years due to the high interest rates associated with this type of loan. Since a lender will take a big risk by lending what could be 80% of the value of your property and will not charge it for mortgage loan insurance, the interest rate will be higher than for traditional LCDVD.
LDCVD (Home Equity Line of Credit)
What is it and how does it work?
There are some notable differences between a home equity loan and a home equity line of credit. The first difference is that a LDCVD is just a revolving line of credit, as opposed to a loan, which is a large sum of money. For this reason, you can use this line of credit to your liking and regain access to the full limit when you repay the balance.
How can I get one?
You can open a line of credit with your bank or most traditional financial institutions, as well as private mortgage lenders. However, banks usually require a high credit rating in order to qualify you. A home equity line of credit will often be a more reasonable and attractive offer for homeowners because the rate of interest involved will be lower than that of a home equity loan. Potential borrowers must first have their assets assessed to ensure they have enough equity to qualify for a HELOC. These credit lines are only granted to borrowers with at least 20% of the net worth of their property.
How to use it?
You are able to open an LDCVD up to 65% of the appraised value of your property. However, if your lender combines your line of credit with the rest of your mortgage, you will be able to increase the borrowing limit to 80% of the estimated value of the home when you close your mortgage. Once your line of credit is secured, you can borrow as much as you want, as long as you meet the minimum monthly payments.
Refinance of your mortgage
What is it and how does it work?
If you decide to refinance your home, you may have to pay a penalty for breaking your first mortgage loan. You then negotiate a new contract with your lender so that you can enjoy the equity of your home in the process. If you do not want to pay the penalty fee, you can simply wait until the end of your term. As with a home equity loan or HELOC, you will be able to borrow up to 80% of the equity in your home, with the exception of what you have to pay on your first mortgage.
How can I do this?
Again, you will need to have your property assessed. You will then need to break your original mortgage contract and renegotiate a new one with your current lender or another. Just be aware that if you decide to refinance your mortgage in order to access your capital, you may have to pay a prepayment penalty fee and have broken your mortgage contract. However, if your mortgage is ready to be renewed or if your lender’s penalty fees are not too high, refinancing may be the most reasonable option for you.
Some of the benefits of using the equity in your home
- You can use your capital to strengthen the value of your home – Since your home is an asset, you can use your capital to finance any renovation you could do, increasing the market value of your home, if and when you decide to sale.
- Interest can be deductible on your tax return – If you decide to use the extra money from your second mortgage for investments that will generate income, it is possible to use the interest for a tax deduction.
- You can use your equity for whatever you want – While some homeowners choose to use their home for renovations or to finance other properties, others will use it to pay for their education or that of their children or even To go on holiday. You can also use your equity to take care of any other higher interest debt that you may have on your back.
Some disadvantages of using the equity in your home
- You have to pay various fees before you can borrow – using the equity in your home is certainly not a free service. There are a number of costs you must pay before you can access them, such as fees for appraisal, application and legal documents.
- Variable Rates = Variable Interest Costs – for variable home equity loans and lines of credit, monthly rates will vary depending on your lender’s standards and the real estate market. You may choose to borrow at a floating rate because initially the rate may be cheaper than the fixed rate option. However, be aware that if you choose a floating rate, your interest rate may change. So, it is important to take this into consideration before deciding to use your house capital.
- Using your capital for investment purposes involves its own risks – If you decide to use your capital to make unprotected investments, not only will you have to pay taxes, but like any unprotected investment, there is a possibility that you could lose your money because of the fluctuation of the stock market.
- Inability to make payments can result in the recovery of your home. – The most important disadvantage of borrowing the equity in your home occurs when a homeowner is not responsible for the credit that has been granted. Borrowing against your house works the same as any other type of secured loan. You must make your payments. Being in default of payments can lead to seizure of your home. So before taking a second mortgage, you must be absolutely certain that you will be able to make your regular payments.
When it comes to borrowing and your home, your credit rating is important.
Mortgage Rules in Canada
In October 2016, several changes were made to Canada’s housing rules. The Liberal government is trying to get new buyers to buy only homes they can afford. In fact, mortgage rates have been falling steadily in recent years, making homes in many provinces more affordable. However, the Canadian government is worried about what will happen if interest rates rise in the coming years, which is likely to happen. Some changes have been implemented to reduce the risk for borrowers and lenders. For example:
- On October 17, 2016, the Canadian government stated that anyone interested in acquiring an insured mortgage will be subject to a “stress test” to determine the likelihood that they will be able to make their monthly payments, if and when interest rates would rise.
- In previous years, foreign buyers purchased Canadian homes, renovated and sold them, but did not pay taxes on homes as principal residences. For this reason, homeowners must now inform the Canada Revenue Agency about the sale of their principal residence during the tax season. However, Canadians who sell their principal residence will be exempt from capital gains tax.
- Until 2016, the Canadian government has assumed 100% of the risks associated with insured mortgage buyers who are in default, without risk to the lenders themselves. The government is now planning to implement a proposal that will put a certain percentage of the risk on the lender’s shoulders.
- As of November 30, 2016, a number of general requirements have been issued to prospective purchasers seeking government-backed mortgage insurance for low-ratio mortgages:
- An amortization period of 25 years or less is required for all insured mortgages.
- The house that the buyer is trying to buy must cost less than $ 1 million.
- The property must be occupied by the buyer in question.
- The buyer must have a minimum credit rating of 600
Consider all your options
Do not forget to consider all of your options before deciding to buy a mortgage, open a line of credit, or refinance your home to access your capital. Each option comes with its advantages and disadvantages. So, it is best to talk to a mortgage professional before making a serious decision about the equity in your home.