Getting a mortgage to buy a home is a significant decision. Five things you should know about mortgages include lending terms, security for the mortgage, open vs. closed mortgages, and defaulting on the mortgage.
AUTHOR’S NOTE Some of the following content is adapted from CPLEA’s Nested course. Nested is CPLEA’s free on-line course on the basics of homebuying and ownership in Alberta. Nested was created to help you decide if buying a home is the right choice, and to empower you to think about the possibility of owning your own home. You can access Nested at learn.cplea.ca.
Buying a home, especially for the first time, can be exciting. It is one of the most significant purchases people make in their lifetimes and most people will need to finance that purchase through a mortgage. If you are taking on a mortgage, here is what you need to know:
1. Mortgages are a loan and contract
The word mortgage itself comes from an old French term meaning “death contract”. But do not let that scare you off! A mortgage is a home loan secured by real property (known as real estate). A mortgage is a special loan that allows you to buy a property. It is also a contract between the lender (also known as mortgagee, the financial institution or person providing the loan) and borrower (also known as the mortgagor).
2. A mortgage’s contractual terms covers the loan and more
Lenders usually have standard form mortgages. A typical standard form mortgage from an institutional lender can easily exceed 20 pages, containing many contractual terms including:
- loan amount and term
- interest rate (could be fixed or variable)
- when you have to make payments
- how much you have to pay
- prepayment privileges and fees
- what happens when you do not make payments (default)
- other responsibilities such as insurance, property taxes, and property repair and replacement
- further terms for condominiums and rental properties
That is why it is important to review mortgage documents with the help of a real estate lawyer. They can help you understand your rights and obligations when executing (signing) the mortgage.
3. Mortgages are secured by property
All mortgages are secured, or guaranteed, by the property you are buying. Depending on the terms of your mortgage, this security extends to even fixtures or things within the property such as:
- windows or door screens, including blinds, shutters and awnings
- lighting equipment
- floor coverings
- built-in appliances
4. Open and closed mortgages are not the same
When shopping around for a mortgage, you may focus on getting the best interest rate deal possible. But one thing to seriously consider is whether the mortgage is open or closed rate and how that may affect your flexibility in making payments. Whether a mortgage is open or closed affects your rights when it comes to prepayment privileges and charges.
An open mortgage gives you freedom to pay off the remaining balance whenever you want. There are no restrictions preventing you from making lump sum payments at any time, to help reduce the principal amount. Most lenders charge higher interest rates for these privileges.
Closed mortgages limit how much you can pay towards the principal before the lender charges you extra penalties. Usually, there is a cap on lump sum payments that you cannot go over. This cap is typically a percentage of the original loan amount in a calendar year. Interest rates are usually lower with closed mortgages.
5. If you do not make mortgage payments when they are due, the mortgage goes into default
If something goes wrong and you cannot make payments, then the mortgage goes into default. It does not matter if not being able to make payments is outside your control. You are responsible for making mortgage payments when they are due.
Not paying taxes, condominium contributions and homeowner association fees, or meeting any other obligations to the lender, can also be acts of default under a mortgage. Upon default, the lender can start the foreclosure process. Learn more about mortgage defaults and foreclosure in CPLEA’s foreclosure booklet.
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DISCLAIMER The information in this article was correct at time of publishing. The law may have changed since then. The views expressed in this article are those of the author and do not necessarily reflect the views of LawNow or the Centre for Public Legal Education Alberta.