When put simply, the amortization period is essentially the length of your mortgage. To go into a little more detail, it is the period of payments made to pay off the entirety of the value of the mortgage loan taken out. This will vary depending on a few things, and the length of your amortization period is limited somewhat by the down payment you make at the start of the lending period.
There is a minimum down payment of 5% of the purchase value of the property. If your down payment is less than 20%, then you will be limited to an amortization period of 25 years. However, if you can afford to put down more than 20% for a down payment, you will be able to increase your amortization period to 30 years with most lenders. On top of this, if you were able to put more down than 20%, you also do not need to get CMHC insurance to insure your mortgage against default.
The key benefit of a longer amortization period is that the monthly payments will be lower. However, there are pros and cons to both a long and short amortization. A “short” amortization is generally defined as anything up to 25 years, and then anything beyond 25 years (25-35) years it deemed to be long.
Pros & Cons of a Short Amortization (25 years or less)
- Option to put a small down payment (as little as 5%)
- Quicker mortgage repayment
- You will pay less interest over the amortization period, as it will be paid off quicker, therefore less risk to the lender.
- Your monthly payments will be higher than a comparative long amortization mortgage.
Pros & Cons of a Long Amortization (26-35 years)
- Your monthly payments will be lower than a comparative short amortization mortgage. This means better cash flow which can be invested into other areas.
- You will require a minimum of 20% down payment. This could negate the financial benefit of lower monthly payments.
- Your mortgage will take longer to pay off. This is key for those wishing to own their property for the entire period of the mortgage.
- You will pay more interest throughout the amortization period due to the longer life.
How Do I choose?
When you look at Canadians as a whole, generally, the most popular period to go for is anything up to 25 years. This is likely because it is the most accessible due to the lower down payment requirement and the attraction of paying off the mortgage quicker.
The split of homeowners in Canada can be broken down as follows:
- Up to 25 years: 79%
- 26-30 years: 21%
- 31-35 years: 6%
- 36-40 years: 1%
As you can see, it is a rarity for homeowners to opt for a mortgage over 30 years. This is also because, in July 2012, there was a reduced maximum amortization period for any CMHC insured mortgages. In short, this means unless you could put down more than 20% on the property, then you couldn’t get access to longer amortization mortgages. This had the aim of reducing the amount of household debt that Canadians were taking on.
A common positive for the longer amortization mortgage is that you will save a notable amount of money each month. For example, when comparing a 25-year mortgage to a 30-year on a $300,000 mortgage, you would save around $155 per month (3.49% interest). If you were to invest that $155 per month into an ETF that averaged 8% returns, you would have around $210,000 at the end of your amortization period. However, the extra interest you pay on the 30-year mortgage is only $33,000 more. Therefore, it seems obvious that a longer period is better. But the factor of the 20%+ down payment always needs to be remembered, and not many people will have access to such a large sum of money to spend in one go.
The only person who can answer the question of which type of amortization period to go for is you. You will know your personal circumstances, as well as your current and future financial prospects, better than anyone else. Talking to a financial expert may help determine exactly which mortgage period type would suit you best.