A cash back mortgage operates on a straightforward principle: upon closing the purchase of your home, your lender provides you with an additional sum of money known as ‘cash back.’ This financial boost is particularly beneficial for new homeowners, as it can be used to settle various last-minute expenses tied to home buying, including moving costs, renovations, furniture purchases, legal fees, and closing expenses.
However, it’s important to remember that all mortgage incentives come with associated costs. If you’re contemplating whether a cash back mortgage suits your needs, continue reading to understand its functionality, along with its benefits and drawbacks.
Understanding Cash Back Mortgages
When opting for a cash back mortgage, you’re essentially securing a loan that exceeds the price of the property you’re acquiring. This additional funding may be presented as a fixed amount (for instance, $5,000) or computed as a percentage of your home’s value, typically ranging from one to seven percent.
How to Obtain a Cash Back Mortgage
In Canada, numerous lenders provide cash back mortgage options. Generally, applicants should have stable employment (self-employed individuals might find it challenging to qualify), alongside a satisfactory credit history. Additionally, lenders will inquire whether you plan to reside in the property rather than rent it.
Upon completing your application for a cash back mortgage, the lender will inform you of your eligibility for receiving cash back. If approved, you’ll be granted the cash back either at the closing of your home purchase or after your initial monthly mortgage payment.
Are Cash Back Mortgages Beneficial?
Having extra funds can significantly ease the financial burden following a home purchase. Nevertheless, there are potential downsides to consider with cash back mortgages. For example, you might encounter higher interest rates on the total mortgage, and specific terms may lead to greater costs over time. The following insights will help you make an informed decision.
Pros of Cash Back Mortgages
- Immediate access to cash –Receiving a lump sum upfront can assist in managing both expected and unexpected expenditures during your first year of homeownership. For instance, if you acquire a home priced at $400,000 with a down payment of $80,000, a one percent cashback would result in an additional $3,200 available for emergencies.
- Short-term financial relief –Utilizing your cash back to pay off high-interest credit card debt could reduce monthly financial obligations by converting higher-interest debt into lower-interest repayments.
Cons of Cash Back Mortgages
- Potential qualification challenges –Individuals who are self-employed or have poor credit histories might face difficulties when applying for a cash back mortgage.
- Long-term costs driven by additional terms –Obtaining a cash back mortgage commonly entails agreeing to extra terms that can vary by lender. Be vigilant about conditions regarding repayment and flexibility.
- Higher interest rates –Typically in Canada, cash back mortgages carry a higher interest rate—generally about 1.75 percent more than standard fixed or variable rate mortgages lacking a cashback feature.
- Early refinancing penalties –If you choose to refinance or terminate your mortgage agreement prematurely, such as by relocating, you may be required to return a portion, or possibly the entirety, of the cash back amount, often with penalties or repayment premiums added.
What to Consider When Choosing a Cash Back Mortgage
Should you determine that a cash back mortgage aligns with your financial strategy, keep in mind that a myriad of options exists among lenders. Strive for one that offers the most competitive rate along with optimal flexibility.
Alternatives to Cash Back Mortgages
If you find yourself needing to boost your cash reserves and reduce monthly payments, yet after weighing the pros and cons you decide against a cash back mortgage, consider these alternatives that can provide you with cash during the essential early stages of homeownership.
Utilizing RRSPs or Investments
While cashing in on retirement savings or investments may not always be advisable due to potential tax implications, the Home Buyers Plan allows first-time buyers to withdraw up to $35,000 from an RRSP to assist with down payments and other closing costs.
Line of Credit
Lines of credit generally feature lower interest rates than personal loans and offer greater flexibility. You have access to a predetermined borrowing limit and are not required to dedicate funds for specific needs.
Additionally, lines of credit provide flexibility, as you only incur interest on the borrowed amount. For instance, from a $100,000 line of credit, if you only require $25,000, you would pay interest solely on that sum. Repayment can also occur anytime, such as when receiving an end-of-year bonus, though an administration fee may apply when establishing the line of credit.
Personal Loan
If your credit score is strong, obtaining a personal loan with a favorable interest rate is typically quite straightforward.
Credit Cards
A low-interest or no-annual-fee credit card may also help manage short-term expenses or facilitate gradual repayment. However, it’s important to note that even cards with lower rates usually carry higher interest than most other financial options.
Cash Back via Mortgage Brokers
Certain mortgage brokers may offer cash back as part of their service, sharing their commission with you as an incentive.