$1 million used to be enough money to set you up for life, but those days are long past. In some parts of Canada, you’re lucky if $1 million will buy you a decent home, let alone fund your retirement. This couldn’t be truer in cities like Toronto, where the average property price hovered around $800,000 in 2019.
So, if it costs $1 million to buy many homes in cities like Toronto in Vancouver, are you one of the lucky Canadians who can afford it? Let’s take a look at the factors that will determine if you can afford the average mortgage on a 1 million dollar home.
Can you afford a million-dollar home?
Here’s the short answer: To buy a million-dollar home in Canada, you’ll need a yearly income of at least $175,230, as well as a cash down payment of at least $200,000. That’s the minimum you’ll need in order to qualify for a large enough mortgage. Well, that or you’ll need $1 million in cash, to avoid taking out a mortgage altogether.
What is a million dollars today?
Remember the song “If I Had $1,000,000” by the Barenaked Ladies? When the band released the song in 1992, $1 million had some serious purchasing power. Fast forward a couple of decades and it’s a different story.
Thanks to inflation, money loses its value over time. Inflation is the yearly increase of the cost of goods and services, affecting everything from food and electronics to wages and real estate. Because of inflation, what might have cost a million dollars in 1992 will cost much more in 2012.
Here’s a table showing what $1 million is worth over time – starting from the release of the song:
Source: Smart Asset Inflation Calculator
As you can see above, inflation has a serious impact on the value of $1 million over 40 years.
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Getting a million-dollar mortgage
Most Canadians buying a $1-million home don’t have $1 million in cash just lying around. Most of them would need to save a down payment and take on a mortgage on a 1 million dollar home.
So, can you afford to get a mortgage for a $1 million home? There are two key factors that affect your mortgage affordability – your down payment, and your gross debt service ratios.
1. Your down payment
Not having a large enough down payment is what disqualifies most buyers from buying a $1 million home. Saving for a mortgage down payment is hard enough, but Canadian law states that homes with a purchase price of over $1 million require a down payment of 20% or more.
If you’re buying a home with less than a 20% down payment, your mortgage is what’s called a high-ratio mortgage, and you’re required to pay for mortgage default insurance. Mortgage default insurance protects your lender, in the event that you default on your loan. Mortgage default insurance is usually purchased by your lender from the Canada Mortgage and Housing Corporation (CMHC). However, the CMHC doesn’t provide insurance for homes valued over $1 million.
Since a high-ratio mortgage is out of the question for a million-dollar home, you’ll need a 20% down payment of at least $200,000, resulting in a typical mortgage on a million-dollar home of $800,000. But that’s not all – you’ll also need to pay closing costs. Closing costs usually amount to 1.5% to 4% of a home’s value and include expenses like a home inspection fee, legal fees, title insurance, and the land transfer tax (LTT).
The LTT is by far the most expensive closing cost, and in Toronto, you have to pay LTT twice: once to the province and once to the municipality. Use the land transfer tax calculator to determine how much you’ll owe at closing. Depending on your location, you should expect to pay between $15,000 and $40,000 in closing costs.
To be on the safe side, you should have your down payment of $200,000 plus an additional $40,000 for closing costs to buy a $1 million home. That’s why this factor is the one that disqualifies most homebuyers: Not many homebuyers have a cool quarter-million sitting around!
If you’re one of the few Canadians with a large enough down payment – congratulations! Now let’s look at whether you can afford the monthly mortgage payments on a million-dollar home. We’ll determine this by calculating your debt service ratios.
2. Debt service ratios
Your debt services ratios determine whether you can afford the payments on a million-dollar mortgage (or a mortgage of any size, for that matter). Your debt service ratios are two formulas set by the CMHC that lenders use to find the maximum mortgage you can afford. Your maximum mortgage is then added to your down payment to determine your maximum purchase price. Let’s look at the first of the two formulas: The gross debt service ratio.
Gross debt service ratio:
Your gross debt service ratio determines whether you can afford the monthly carrying costs associated with your home. Your lender will add your annual mortgage payments to the costs of owning your home, then divide this by your annual household income. To qualify for the loan, the resulting ratio must be less than 32%. This is the official formula:
Let’s calculate the gross debt service ratio on a $1 million home. If you put 20% down on a $1 million home, you’ll have an $800,000 mortgage. Using Ratehub.ca’s mortgage payment calculator and today’s best mortgage rate of 2.54%, we can determine this mortgage rate would leave you with a monthly mortgage payment of $3,600. As this mortgage is for a million dollar house, condo fees don’t factor in.
|Expenses||Monthly expenses||Yearly expenses|
Your gross debt service ratio needs to be less than 32% for you afford this home. That means your household income needs to be at more than $174,037 per year to qualify ($55,692 ÷ $174,037 = 32%).
Total debt service ratio:
Now let’s look at the next debt service ratio: your total debt service ratio. This ratio takes the factors above into account, but also adds in any debt obligations you may have. Here’s the official formula:
Let’s run our numbers again, but also factor in a $600 a month car loan, and a $600 a month student loan.
|Expenses||Monthly expenses||Yearly expenses|
In this case, your ratio cannot be more than 40%. That means you’ll need an income of at least $175,230 to afford your mortgage and your other debt obligations ($70,092 ÷ $175,230 = 40%).
To satisfy both debt service ratios, you’ll need an annual income of at least $175,230 to afford a home worth $1 million.
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Required income to afford a 2 or 3 million dollar house
The same requirements apply to buying homes that cost more than $1 million. Here’s a table showing exactly who can buy a $2 million dollar home, how much you need to buy $3 million dollar home, and a $5 million dollar home.
|Purchase Price||$1 million||$2 million||$3 million||$5 million|
|Total Cash on Hand||$240,000||$480,000||$720,000||$1,200,000|
*Required income calculated using TDS assuming $600 car loan and $600 student loan payments.
As you can see, the income to afford a $2-million home and the income needed for a $3-million home are quite high. This is because at these prices, even with a 20% down payment, your mortgage will be very large.
Be cautious about borrowing to your maximum affordability
According to these ratios, you can afford a home worth $1 million on an income of $175,230, but that doesn’t mean this is a wise financial decision. When deciding how much to spend on a home, you should consider the following variables:
Saving for retirement: The debt service ratios above don’t take into consideration saving for retirement. You should make sure there’s enough room in your budget to save for your retirement. Many experts recommend saving at least 10% of your gross salary for retirement.
Rising interest rates: While you may be able to afford a $1 million home at today’s interest rates, keep in mind that interest rates can change dramatically in the long term. Make sure you can still afford your $1 million home if you have to renew at higher rates. For example, if you had to renew your mortgage at historical interest rate norms of 3.89%, your monthly mortgage payment would rise to $4,161. Can you still afford your home? Run the numbers through our mortgage affordability calculator to be sure.
Life events: While you may have the income to afford a $1.5-million house right now, make sure that you’ll still be able to afford your home if major life events happen. Examples could include having a baby, sending a child to university, retiring, or purchasing another property. These events will change your budget, but they mustn’t change whether you can afford your home.
The Bottom Line
Buying a $1 million home isn’t an easy feat. You’ll need a large down payment, and your debt levels should be under control. You’ll need a high income and the ability to handle renewing your mortgage at higher interest rates. The good news is that if you meet those requirements, you can afford a $1 million home’s monthly payment – or maybe even a $1.5 million house dollar monthly payment. If you aren’t sure, use our mortgage affordability calculator or calculate mortgage payments for various home prices to run the numbers and find out for yourself.
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