When you shop around for your mortgage, what comes to mind in the preferred features most Canadians desire? Best interest rates, flexible repayment terms, and low payments are at the top of the pile. However the mortgage market has changed dramatically over the last few years with the introduction of the banks using the collateral charge mortgage. First a quick definition:
A collateral charge mortgage has as its primary security a promissory note or loan agreement and as a back up, a collateral security in a mortgage against your property.
This is in stark contrast to the traditional standard charge mortgage we have known over the last 30 years. The main difference is in what happens after you have signed the dotted line and the mortgage closes. Here are the differences and the downside you need to be aware of when shopping:
Option to Switch Banks
With a standard charge mortgage, there is little to no cost to the consumer when switching your mortgage from one financial institution to another when a better deal is to be found. Whereas a collateral charge mortgage is not generally accepted in transfer and requires the mortgage holder to pay discharge fees and additional fees to register a new mortgage with their new bank.
Another surprising factor is that all of your unsecured debt that you have with your bank has become interconnected with your mortgage under the collateral charge. This has far reaching implications and what most of us would coin as an abuse of power if you were victim of its circumstance. Your line of credit and your credit cards are now tied to your mortgage. For one reason or another you end up defaulting on your line of credit and the next thing you know, equity from your home has been taken to pay off the account and it is closed. This is well within the banks power under Canadian law with a collateral charge mortgage. Equally disturbing is under the same circumstances, in most cases the bank could start mortgage default proceedings. This means you could end up losing your house.
Under the standard charge mortgage, your other debts are kept separate and your mortgage is unaffected by life’s bumps along the way.
Control of Equity – A Collateral Mortgage Case Study in Barrie
A great question every Canadian should ponder is…Who owns the equity in my home? Me or the bank. The answer to this question comes into sharp focus under the collateral charge mortgage. Let me illustrate:
Lilly and Fong in Barrie were doing well for themselves in that they had prospered in their careers and the kids had just moved out of the house. They were considering purchasing a cottage from a friend and had approached their bank to see if they could extend their mortgage to access their equity making the transaction smooth. Their home was worth 650K and they only had a mortgage owing of 200K. Under their collateral charge mortgage, they also had access to 168K in a line of credit. Lilly and Fong needed 235K to purchase the cottage with their equity or an additional 67K. The bank declined their request.
Next they came to me as their Barrie mortgage agent and in assessing the situation I was disappointed to inform them that they had become another victim of the collateral charge. What I told Lilly and Fong was that the total amount they were looking to borrow of 435K was only 67% of their home’s value and under their existing mortgage contract, the bank was able to extend to them up to and including 75% of the value of their home so there was no reason they were unable outside of who has control of this family’s equity. Unfortunately, they would be forced to break their existing mortgage in order to secure new financing.
The bright side was that I as their Barrie mortgage agent was able to secure them more favourable financing than if the bank had even approved access to their equity. I secured a standard charge mortgage that saved them $350 per month or approximately 21K over the next 5 years.
Rising Interest Rates
Another major difference to note is that in a standard charge mortgage your interest rate cannot be increased during the term, even if you default or fall into arrears with your payments.
Sadly, with a collateral mortgage, if you go into arrears or default, the bank has the right to raise your interest rate by up to 10 percentage points. On a debt as large as your mortgage, this is not a small detail that should be overlooked.
Dig deeper past the generally asked questions of interest rate and the cost of the payment of your mortgage. Boldly ask your banker if this is a collateral charge mortgage and what the implications are down the road. You will find that after you sign the dotted line that your option to switch easily is gone, your loans have become interconnected with implications, you no longer have the final say on accessing your equity, and in a crisis situation, the bank can jack your interest rate.
As part of working with your Barrie Mortgage Brokerage, I love to do the homework on the tough questions so you have all the answers in choosing the mortgage that it right for you.