Refinancing your mortgage can be an excellent source of financing to consolidate debt, complete a home renovation or to send your children to post-secondary education. In Canada, you can refinance your mortgage up to a loan-to-value ratio of 90%. Loan-to-value ratio is the total mortgage amount divided by the home value.
Current mortgage: $150,000
Home value: $200,000
Current loan-to-value: 75%
Maximum mortgage: $200,000 * 90% = $180,000
Additional mortgage: $180,000 – $150,000 = $30,000
Though refinancing may be cost-effective it’s important to consider and understand all of the costs involved. To determine if refinancing is the most financially viable option, you must consider the interest rate and other costs involved and compare this to other financing options such as a line of credit.
Mortgage breakage penalty
When you terminate a mortgage contract before the end of the term you will come across a mortgage penalty. This is normally calculated using interest rate differential (IRD) or three months interest. Speak with your current provider to understand and calculate your penalty.
If you choose to refinance your mortgage with your current lender you may be able to avoid a breakage penalty. Your current provider may give you the option to leave your existing mortgage at the current rate you are paying and add the additional mortgage amount at a new rate. It is very important to ensure the mortgage rate they are offering you is competitive. If it is higher than current mortgage rates, you will want to ensure it is worth saving the mortgage breakage penalty (above).
Mortgage default (CMHC) insurance
If you refinance your mortgage at a loan-to-value ratio of 80-90% you will have to pay mortgage default insurance. How much you pay depends on your specific loan-to-value ratio as well as any insurance you had on your original mortgage.
Original mortgage with CMHC insurance
If your original mortgage had CMHC insurance you will only pay the insurance premium on the incremental amount as follows:
Loan-to-value 80%: 2.70%
Loan-to-value 80-85%: 3.50%
Loan-to-value 85-90%: 4.25%
If we use our above example and assume the original $150,000 mortgage had CMHC insurance than taking on an additional $30,000 would move the loan-to-value ratio up to 90%. This would mean that CMHC insurance would be required on the additional mortgage amount of $30,000. This would cost the homeowner $30,000 * 4.25% = $1,275.
Original mortgage without CMHC insurance
If your original mortgage did not have CMHC insurance you will pay the insurance premium on the new total mortgage amount as follows:
Loan-to-value 80%: 1.00%
Loan-to-value 80-85%: 1.75%
Loan-to-value 85-90% 2.00%
If we use our above example and assume the original mortgage did NOT have CMHC insurance than taking on an additional $30,000 would move the loan-to-value ratio up to 90%. This would mean that CMHC insurance would be required on the entire mortgage amount of $180,000. This would cost the homeowner $180,000 * 2.00% = $3,600.