Just this month, the Canadian Real Estate Association reported the MLS Home Price Index was up 23.4% year-over-year. That’s an awfully big jump in home prices for one year. For those hoping to get into the market, those stats are somewhat discouraging, as home prices go up, so does the amount you need for a down payment.
One of the biggest challenges to buying real estate, especially for young buyers looking to make their first purchase, is saving for that dreaded down payment. But there is a way to buy a home without having to save a big down payment. Here’s what you should know about no down payment mortgages (or zero down mortgages), how they work, and if this is the right route for you to reach your real estate goal.
The first thing you should know, though, is that the term no down payment is confusing. You still have to put a down payment on a home, but with a zero down mortgage, you’re able to borrow that payment. So while it is possible, it can be more difficult depending on your financial situation.
How Does a Down Payment Work in Canada?
Before we get into no down payment mortgages and the ways you can sidestep saving for a down payment, it’s important to have some foundational knowledge of how a down payment works. According to the Canada Mortgage and Housing Corporation (CMHC), you must have a down payment of at least 5% of the purchase price for homes selling for less than $500,000 and 10% for homes selling above that.
Here’s an example: the average price of a condo in the Greater Toronto area is around $688,137 according to RE/MAX. You would need a minimum down payment of 10% ($68,813) since it exceeds the $500,000 threshold. According to the same report, an average condo in Calgary is $263,480, which means you would only need a 5% cash down payment of $13,174.
Another wrinkle to this system is the CMHC’s requirement for mortgage default insurance for any mortgages with a down payment of less than 20%. This will add to your overall costs, as mortgage insurance rates can be as high as 4% with a 5% down payment. The actual amount can be determined with a mortgage insurance calculator. One way to avoid the insurance is to borrow a 20% down payment.
Do Mortgages with No Down Payment even Exist?
In Canada, it’s difficult to buy real estate without a down payment, but it is possible to do so without saving for one. You can borrow the money for a down payment from a financial institution. Borrowing money from a lender means you are sidestepping the often-challenging process of saving for the down payment.
It also means, however, that you are taking on debt on top of debt. In other words, you will need to repay the down payment while you are paying off a mortgage. It’s a route only those with a solid financial footing should consider taking. Also, those with bad credit would have a really difficult time getting approved for this option.
How Does a Zero Down Mortgage Work?
A zero-down mortgage is when you borrow money for your down payment, meaning you don’t need any cash at closing. Of course, it is very important to understand closing costs, which are the fees and services you must pay to finalize the deal. This includes legal fees, land transfer taxes, home inspection services, and more. These fees are not included in a down payment. You will need to secure separate funding to cover these costs.
You will also need a deposit ready when making an offer to the seller, typically a percentage of your down payment. No matter where you live in Canada, this is an option if you’re approved.
Mortgage Down Payment Loan Options
If you need money to cover the down payment on a home, there are various forms of credit available:
Credit card: Borrowing for a down payment with a cash advance is highly inadvisable. You will be expected to repay it within 30 days or face a punishing interest rate of around 20%. Plus, cash advances tend to get charged an even higher interest rate. Avoid this method at all costs.
Line of credit: You can usually obtain a more favourable interest rate through a line of credit. But keep in mind that you cannot use the same lending institution, such as a bank, for both the mortgage and the line of credit to pay the down payment.
Personal loans: Probably the most advisable option when going the no-down-payment mortgage route. With a personal loan, you can work with a financial lender on a repayment plan that makes the most sense for your financial situation.
Bank of Mom and Dad: CIBC bank reported that 30% of Canadian homebuyers in 2020 received financial help from their families. This increasingly common option should be explored if possible. Your family probably won’t charge interest or even expect repayment in the near term.
How to Get Approved for a Down Payment Loan
If you’re preparing to borrow money for a down payment, it’s a good idea to understand what the lender will be considering when reviewing your application. Here are two key factors:
- Employment: As we mentioned earlier, you will need to be in a solid financial position with a steady income. Your employment should be stable and your income suitable enough that you can make payments on both a loan and a mortgage without obvious distress.
- Credit score: You don’t need an amazing credit score to successfully obtain a down payment loan, but it can’t be in the toilet either. A history of reliable repayments will certainly help your cause.
What Credit Score Do You Need to Buy a House with No Down Payment?
Credit scores in Canada range from 300 to 900, and most lenders will want a score in the 600 range or higher to approve a down payment loan. Keep in mind you need two loans – one to cover your down payment and another for a mortgage.
So you will need to borrow from two different financial lenders. Are you able to repay two loans at the same time – along with other expenses in your life? Lenders will want to consider whether you’re able to take on the financial burden and not go under.
And don’t forget about those closing costs you will need to cover – legal fees to finalize documentation, inspection services (not required but recommended), and land transfer taxes, which vary depending on your province. Expect these costs to add up to thousands of dollars. One to four percent of the purchase price is considered average for closing costs alone.
Can You Purchase a Home with a Partial Down Payment?
In short, yes, you can. You can take out a loan for the remaining down payment, use an existing Line of Credit, or contact the Home Assistance Network.
They’re a private financing company that helps those with partial down payments by offering a loan to cover the remaining expenses associated with purchasing a home. The reason so many Canadians use them is that they have a 92% approval rating and consider applicants with all credit scores.
Is it a Good Idea to Get a Mortgage with No Down Payment?
Buying your first home is one of the biggest decisions you’ll make in your lifetime. And doing it with a down payment loan adds complexity to an already complex process. Here are some pros and cons to moving forward with a no down payment mortgage plan:
Pros
- You will build equity through real estate by paying a mortgage versus paying rent every month. With a mortgage, each payment goes toward paying off your debt and getting closer to owning your home outright.
- Putting together a 20% down payment on the purchase price can be extremely challenging. However, if you borrow at least a 20% down payment, you will avoid the CMHC default insurance, which will save you thousands of dollars and reduce your monthly mortgage payments.
Cons
- The single biggest downside is that you will have to service two loans rather than just one mortgage loan. If you have commitments like car loans, credit card payments, or building maintenance fees, you could easily be overstretching yourself.
- You are also at the mercy of rising and falling interest rates. If the benchmark interest rate goes up when it comes time to renew your mortgage after five years, you will be on the hook for higher mortgage payments. You need to make sure your long-term financial outlook is stable.
How to Save for a Down Payment on a House
Even if you’re planning to buy a home with a no down payment mortgage, you will still need to at least come up with funds to cover the closing costs. Here are some simple steps to get you saving for a down payment and/or closing costs.
- Eliminate some lifestyle spending, such as pricey food delivery services. Those door-delivered restaurant meals can really take a bite out of your finances.
- Consider the cost of your transportation. If you drive, ask yourself whether you really need a vehicle and all the associated costs.
- Follow a budget and stay disciplined. Treating yourself occasionally is fine, but make sure you stay on a monthly spending plan.
- Book your ticket on a staycation for the foreseeable future. Travel is fun and memorable, but airline tickets and hotels will empty your bank account.
- Automate your savings so that you are putting aside money for your new home every month without even thinking about it.
- Monitor your credit score (it’s free) and learn what behaviours improve it. The better your credit score, the better your chances of securing lower interest rates, potentially saving you thousands of dollars.
Government Programs that Help Canadian Homebuyers
It’s generally agreed upon that home buying is good for the economy (and good for the banks), so various levels of government tend to create incentives for first-time homebuyers.
Here’s a brief overview of what’s available:
| First-time Home Buyer Incentive | A national program where the federal government finances a portion of your home purchase through shared equity.Learn more |
| Home Buyers Tax Credit | A tax credit for first-time home buyers valued at $750.Learn more |
| RRSP Home Buyer’s Plan | You can withdraw up to $35,000 from your RRSP without penalty to fund your first home purchase.Learn more. |
| GST/HST Rebate on New Housing | Canadians can qualify for a GST rebate on newly built home purchases.Learn more. |
| Provincial Land Transfer Rebate | Some provinces offer a partial rebate on the land transfer tax to first-time home buyers. This tax must be paid as part of closing costs. Available in BC, PEI, and Ontario. |
| Down Payment Assistance Programs | Typically, an interest-free loan towards a down payment. Applicants must be first-time homebuyers and meet other criteria. Currently available in Manitoba, Nova Scotia, and PEI. |
The Mortgage Stress Test
The mortgage stress test is a test that the banks use to determine if you’re able to comfortably make your mortgage payments. There are two rates that they’re going to run this test with. These are 5.25% or your contract rate plus 2%. The one that is used depends on which rate is higher.
This test must be done when you’re purchasing a home, refinancing or taking out a Home Equity Line of Credit. The only exceptions to this test are renewing your mortgage with your existing lender or switching lenders while keeping the same loan amount and amortization period.
When you’re in the market for a mortgage, it’s important to note that if you pass the mortgage stress test with one lender, you’ll likely pass it with others. To avoid a high-ratio mortgage, you can use a mortgage broker to do a mortgage rate comparison and figure out what you can afford using a mortgage affordability calculator. They can even help you with a second mortgage, but there may be some small mortgage broker fees.
Using an FHSA for a Down Payment
An FHSA account, also known as a First Home Savings Account, is designed to save money tax-free for the purchase of your first home. You can save up to $8,000 per year with a lifetime limit of $40,000, and the account can be open for up to 15 Years. The funds can then be withdrawn at any time, tax-free, as long as they’re being used to purchase your first home.
If you’re unable to use the funds before the account has to be closed, you have two options for what to do with the funds. You can either take the funds out and pay taxes on the money, or you can transfer the funds to an RRSP. If you choose to buy a house later on and the funds are in an RRSP, you can use the Home Buyers Plan (Home Buyers Savings Plan) for your down payment without penalty.
How Gifted Down Payments Work in Canada
While you can use gifted down payments in Canada, the down payment must be non-repayable funds received from an immediate family member. For the funds to be accepted, there must also be a down payment gift letter. You also have to provide proof of transfer.
The Differences Between Insured and Uninsured Mortgages
When you’re getting a mortgage pre-approval through a private mortgage lender or a bank, you can get either an insured mortgage or an uninsured mortgage.
Insured Mortgage: In Canada, you get an insured mortgage if your down payment is less than 20%. This insurance is there to protect the lender if you’re unable to make your payments. While you do pay for the cost of the insurance (known as a default insurance premium), you also get lower interest rates. Your mortgage amortization period is also limited to 25 years.
Uninsured Mortgage: Uninsured mortgages in Canada are also known as conventional mortgages. There is no mortgage insurance since you have more equity in the home. To get this type of mortgage, you do have to pass a mortgage stress test at the predetermined rate or your mortgage qualifying rate plus 2%.
Newcomers and Zero-Down Mortgages
As a newcomer, you’ll have access to a newcomer mortgage program through many different banks. While you need at least a 5% down payment, this can still come from a loan. That said, getting a self-employed mortgage may be more difficult, so you may have to consider alternative options. One of these options could be a cosigner mortgage.
As a newcomer, it’s a good idea to use one of these programs so you don’t have to worry about a minimum credit score for a mortgage. Other factors will come into play, including your out-of-country credit score, your debt-to-income ratio, and your total monthly income.
Is Rent-to-Own a Zero-Down Payment Option?
While rent-to-own homes are a great option for those looking to enter the housing market, they are not considered a zero-down-payment option. Usually, to finalize the contract, there is a 2%-5% fee, and the rent is slightly higher to help you build your equity.
The thing with an agreement to own is that you’re essentially setting up a home equity down payment. The equity you’ve already put into the home can be used for low-down payment options to secure a mortgage prequalification. If you have more money, you can always use a TFSA down payment, or another form, to get an uninsurable mortgage.
To enter the housing market sooner, many aspiring homeowners will choose this route. That said, to get the mortgage, you’ll still need a down payment, a good credit score, a good credit history and payment history, and a stable income. However, not needing a traditional down payment and making monthly payments works better for some.
How a Cosigner Affects Mortgage Approval
When looking to get pre-approved and dive into the world of home-ownership, you need to have a strong application, especially if you’re looking to borrow your down payment. That said, even if you get a family gift down payment from an immediate family member, you might still not meet the requirements to get approved for a tradtioanl mortgage, even if you check with multiple lenders.
One way to still get a mortgage is with a cosigner. This will then become a joint mortgage application,, so the cosigner must understand the risks of a co-signed mortgage. From there,e the process will be the same. You’ll both be tested by the affordability stress test rate, and the size of your down payment will determine whether you need mortgage default insurance.
Debt-to-Income Ratios That Lenders Look For
While having strong credit can help qualifying buyers access down payment loan options and secure borrowed funds, you need to carefully consider your monthly debt payments. This is because it will impact your debt-to-income ratio, which can affect your mortgage approval.
Whether you’re looking to get a bank mortgage, a credit union mortgage or go with an alternative mortgage lender, how much you owe doesn’t always matter. In fact, lenders typically prefer a DTI of 35% or less, but will approve DTIs between 36% and 44%. When you get a down payment loan, these payments are then counted as part of your DTI.
For first-time buyers, your total debt load is limited because the lack of pre-existing equity constrains your financial options. The home’s purchase price relative to your loan payments and other debt is arguably one of the most important factors lenders consider.
Self-Employed Buyers and Zero-Down Mortgages
While getting a zero-down mortgage is more difficult when you’re self-employed, it’s still very possible. Since there are no actual zero-down payment options in Canada, you can come up with a zero-down payment by:
- Using a provincial program that offers co-ownership programs or a shared equity mortgage (shared appreciation mortgage)
- Getting a gifted home or condo down payment
- Saving money in an RRSP and using the Home Buyers’ Program for a down payment
- Taking on additional debt for a down payment, with loan repayments that will build credit
- Take on a rent-to-own contract terms; you can earn money and meet the payment requirement using your monthly payments
Keep in mind that all of these options allow you to use an alternative down payment to get into the housing market, and a credit check is still required. Instead of waiting years, you can still purchase a home with a lender’s offer and keep the process relatively stress-free.
Thinking of Buying a Home?
If you need some help getting that first home, Spring Financial is here to discuss ways you can reach your goals. You can apply directly on our website, and one of our licensed agents will contact you to help you with your mortgage options. We also offer home equity loans and lines of credit, as well as personal loans, if you need a little extra cash to help make your new house a home.
