Different Types of Mortgages: Which is Right for You?

By Mirjana (Mira) Markovic

One of the most significant acquisitions that an individual will make during their lifetime is a purchase of a home, which is both incredibly exciting and nerve-racking as various decisions are required to be made in a short period. One such decision is the type of financing or mortgage that the purchaser will choose to fit their specific circumstances and needs. Until you are in the thralls of purchasing a home, you may not be aware of the myriad options available to you. Like purchasers, mortgages come in all shapes and sizes.

It can be overwhelming at first, however, I believe that once you educate yourself about how each one works and how it is designed, you will be able to choose the one that best suits your circumstances. Below is a list of some of the more common mortgages available to potential buyers however, please keep in mind that the list is not an exhaustive one.

Common Mortgages

Open:

An open mortgage provides more flexibility in exchange for a slightly higher interest rate than a closed mortgage. It further allows an individual to increase their regular payments or make extra lump-sum payments without penalty. This is an excellent option for individuals looking to pay off their mortgage early and who may not see their property as a long-term investment.

Closed:

On the opposite side of the spectrum is the closed mortgage. This mortgage offers very little flexibility however, it offers a lower interest rate than an open mortgage. A pre-determined interest rate over a pre-determined period is set when the mortgage contract is executed. There is some flexibility in how a borrower wishes to pay (i.e., bi-weekly rather than monthly) but any significant changes often require significant penalties. With this mortgage, if interest rates fall, the borrower does not benefit however, if the interest rates rise, the borrower benefits from the lower rate that they already secured. This is a viable option for purchasers who see their home as a long-term investment.

Convertible:

This type of mortgage allows an individual to switch from an open mortgage to a closed mortgage or vice versa during the mortgage term. The interest rate for such a mortgage is lower than it would be for an open mortgage. This is an excellent option for individuals who may initially start with either a closed or open mortgage but wish to change it at some point during the term.

Hybrid:

A hybrid mortgage is also known as a “combination mortgage”. It is made up of part fixed and part variable. One benefit of this type of mortgage is that keeping a portion of the mortgage at a fixed rate prevents fluctuating interest rates and unpredictably high monthly payments. A hybrid mortgage allows a borrower to enjoy the stability of a fixed rate while taking advantage of potential rate savings on the variable portion. The said mortgage is a decent option for individuals who are looking for a way to lower their interest rate without the risk of a higher mortgage payment for the subsequent year.

Reverse:

This type of mortgage is available to individuals who are 55+. Individuals receive a cash loan based on the equity they have in the property. The maximum reverse mortgage allowed is 55% of a home’s appraised value. The interest rates on such a mortgage are much higher than a regular mortgage and the penalties are significant. Individuals may choose to pay off the interest on a regular basis however, neither the interest nor the principal is required to be paid back until they move from the property, sell it, default on the loan, or pass away.

Portable:

The said mortgage allows individuals who already own a home, have an existing mortgage, and are content with the interest rate and terms of same, to take the existing mortgage (including the terms and interest rate) from the current home they own and secure it against a new home they purchase. This is an ideal option for borrowers who are satisfied with the terms of their mortgage and are looking to avoid potential early repayment fees if they remortgaged with a different lender.

Assumable:

This type of mortgage allows a buyer to purchase a home by taking over the seller's existing mortgage. This arrangement may be appealing to buyers as they can take advantage of financing with a lower interest rate if rates have risen since the seller originally purchased the home. However, please keep in mind that not all lenders will offer such an option and will further need to approve a buyer to assume such a mortgage. A fixed-rate mortgage may be assumed, while a variable-rate mortgage and home equity line of credit cannot.

Variable:

With such a mortgage, the variable will fluctuate as the prime rate changes throughout the mortgage term. While the regular payment will remain constant, the interest rate may change based on market conditions. This impacts the amount of principal paid each month. When rates on variable interest rate mortgages decrease, more of the regular payment is applied to the principal. Furthermore, if rates increase, more of the payment will go toward the interest. This is an excellent option for individuals looking for more flexible terms.

Capped Rate:

The said mortgage has an interest rate on a loan that has a maximum limit on the rate built into the loan. Such a rate limits the borrower's risk of rising interest rates and allows the lender to earn a higher return when rates are low. Interest rate caps are commonly used in variable-rate mortgages.

Fixed:

With such a mortgage, the interest rate is agreed upon with the lender at the outset of the mortgage contract and it remains the same for the entirety of the loan term. For example, if a five-year fixed-rate mortgage is signed at 4%, the interest rate will remain at 4% until the end of that five-year term. This is an ideal option for individuals who do not wish and/or cannot afford for their mortgage payments to fluctuate. However, such mortgagees have a high-interest rate and the penalties are significant.

Shared Equity Mortgage:

Under this type of arrangement, the lender and borrower share the ownership of the property. The lender co-invests in the property. The borrower must occupy the property for this mortgage to be available to a borrower. When the property sells, the allocation of equity goes to each party in accordance with their equity contributions. This is a viable option for individuals who have a lower income or first-time home buyers.

I hope that this article has provided you with some helpful information. If you have any questions, please do not hesitate to contact me at mira@sorbaralaw.com.