If you’re looking for a new mortgage, chances are you’ve heard the terms “conventional mortgage” and “collateral mortgage” thrown around. But what do they mean?
In short, a conventional mortgage is closer to what you’d expect – it requires a 20% downpayment and only secures the actual value of your home.
A collateral mortgage, on the other hand, can be valued for up to 125% of your home, giving you more room to borrow money down the road.
Let’s take a closer look at the differences.
What is a conventional mortgage?
A conventional mortgage secures only the mortgage loan and contains details about the amount, term, and interest rate on the loan.
One of the most important features of a conventional mortgage to keep in mind is that it requires a down payment of 20% or more of the purchase price used to secure the mortgage. It can either have a fixed or variable interest rate, but often has fixed terms.
This is one of the most common types of mortgages out there. If you want an example, all Scotiabank mortgages offer conventional options:
- 3 year: 6.54%
- 5 year: 6.49%
If you’re looking to buy a house and would like to have some predictability in what your mortgage payments will be every month, then a fixed rate mortgage is probably for you. Scotiabank offers 7 closed fixed rate mortgages and a 6-month convertible mortgage. In short, you have some options with Scotiabank, although these aren’t that unusual and are available through other lenders as well.
- Range of terms
- Competitive interest rates
- Optional mortgage protection insurance
- Good mortgage calculator
- No special mortgage rates
- No real promotions or other incentives
See more mortgage reviews here.
The pros of a conventional mortgage
Conventional mortgages have more flexibility because you’re able to transfer the mortgage without the use of a real estate lawyer if you wish to switch lenders.
You’ll also avoid extra fees up front because you won’t have to pay any mortgage default insurance on the balance remaining below the 20% down payment.
Save the mortgage default insurance of a high interest mortgage
By having a 20% down payment, you’re not required to pay any additional mortgage insurance from CMHC, Sagen (formerly Genworth Canada), or AIG.
This can save you a lot of money over the long run – and is one of the reasons people often recommend aiming for at least 20% down.
Start out with more equity
Right off the bat, you’ll have more equity in your home thanks to the larger required down payment.
This protects both you and the lender if the home value decreases, and also means you’re well on your way into paying off your home.
More transferability
A conventional mortgage allows you to move your mortgage more easily without the use of a real estate lawyer, therefore lowering your fees to transfer to another mortgage lender.
Usually, any fees required to transfer the mortgage will be paid by the new lender – which means they’re less likely to take on a mortgage that will cost them more. Since conventional mortgages don’t have this extra cost, a new lender may be more likely to accept the transfer.
The cons of a conventional mortgage
Conventional mortgages save the borrower money by avoiding mortgage default insurance. But by being slightly higher risk than a high interest ratio mortgage (one with less than 20% down payment), the lender may charge the borrower a higher interest rate.
Potential for a higher interest rate
Since the property purchased with 20% down payment does not require mortgage default insurance, the lender is at higher risk if the borrower defaults on the loan.
Because of this, lenders may charge a higher interest rate for the mortgage term.
Needing a 20% down payment
A minimum 20% down payment may not seem like much, but this can be a significant chunk of change depending on the total cost of your home.
For example, a $500,000 home would need $100,000 to meet a 20% down payment. Not everyone has that much money waiting around.
You may not be able to save additional funds to meet this minimum, especially if you need to continue paying rental costs while also trying to keep up with the rising costs of homes.
Thinking about refinancing your home? Learn more about the process here.
What is a collateral mortgage?
A collateral mortgage is a type of mortgage that allows you to borrow more money as your property value increases – without having to refinance your home.
This works very similarly to a home equity line of credit, which lets you use the equity in your home as a line of credit.
And unlike a conventional mortgage, which is only ever equal to 80% of your home’s value, you can register a collateral mortgage for up to 125% of your home’s value. This gives you even more room to play with if you do decide to take out more money against it in the future.
As an example, all of Tangerine’s mortgages are collateral mortgages (and also have some of the best rates we’ve seen). You can learn more here:
- 1 year: 6.54%
- 2 year: 5.64%
- 3 year: 4.69%
- 4 year: 4.74%
- 5 year: 4.79%
- 7 year: 5.6%
- 10 year: 6%
Tangerine mortgage rates have historically been very competitive, especially before and during the pandemic. While they tend to hover close to big bank rates nowadays, you can still find a good deal with this Scotiabank-owned online bank. On top of the rates, you also get a dedicated mortgage account manager, plus can port your mortgage with no penalty if you need it.
- Tangerine fixed mortgage rates are competitive
- Lock in your Tangerine mortgage rate for 120 days
- Prepayment options available
- Annual payment increases available
- No specialized fixed rate mortgages available
- Tangerine mortgages are with an online-only bank
- Canadian resident or applied resident status
- Minimum credit score of 620 with no prior bankruptcies
- At least 3 months of full-time employment
- Get a dedicated account manager once approved
- Can move to a new home penalty free
The pros of a collateral mortgage
A collateral mortgage is useful if you think you’ll need extra funds during the term of your mortgage. It may also get you lower interest rates, since you might be considered a lower risk by the lender.
Easier to get additional credit
You can borrow money from your mortgage at any time, as long as you meet the credit requirements.
By being easier and less expensive to borrow from your current mortgage, you don’t need to find a secondary lender or refinance your mortgage.
Avoid legal fees if you need to refinance your mortgage
Since you already have additional credit at your disposal, you won’t be required to refinance your mortgage in order to obtain additional funds.
This will save costs because you won’t need a real estate lawyer that’s required when you refinance a mortgage.
Possibly lower interest rate
You may be able to get a lower interest rate with a collateral mortgage.
This rate would most likely be lower for the extra funds you withdraw from the equity in your home than if you borrowed through an unsecured line of credit or credit cards.
The cons of a collateral mortgage
Let’s take a look at some of the main cons that comes with having a collateral mortgage.
Only the lender can discharge the mortgage
The lender does not discharge the mortgage once the mortgage loan is repaid. It will only be discharged once the borrower requests it and all loans secured by the collateral mortgage have been repaid.
More difficult to secure secondary credit
Collateral mortgages carry a registered value of 100% – 125% of the actual value of the title. A conventional mortgage will not be registered for more than 80%, depending on the down payment.
This means that it appears that you have more credit outstanding than you actually do – and for more value than your home is worth.
The lender can call the loan at any time
If you are unable to meet your mortgage payments, the loan can be called to require payment in full immediately.
This can include missed payments on other products with the lender, such as overdraft on a bank account, unsecured lines of credit, credit cards, or car loans.
With a conventional mortgage, the lender can only call on the full value of the loan at the end of the term. Any missed payments will be given the opportunity to be paid before the end of the mortgage term.
Harder to transfer the mortgage
If you want to transfer a collateral mortgage, you need to get a real estate agent involved to break the agreement. As you may have guessed, that costs money and adds an obstacle between you and your new lender.
How to choose between a conventional mortgage and collateral mortgage
When deciding between a conventional and collateral mortgage, ask yourself:
- Will I need extra credit in the future by refinancing my mortgage?
- Am I going to make all of my payments on time, every time?
- How much money do I have for a down payment?
Knowing the answers to the above questions will help you better understand which mortgage type suits you better.
And to help a bit more, here’s a summary of the pros of cons of both types of mortgages:
| Type of mortgage | Pros | Cons |
|---|---|---|
| Conventional mortgage | * No default insurance required * Easier to transfer to another lender * Will usually have more equity in your home * With more equity in your home, you may qualify for a Home Equity Line of Credit (HELOC) | * Usually a higher interest rate than an insured mortgage * 20% down payment required * More difficult to secure additional credit |
| Collateral mortgage | * Easier to secure additional credit from the same lender * Might be able to get lower interest rates at the outset * Less down payment required | * Interest rates can increase with little notice * Must make all payments to the lender on time |
Example situations for choosing a conventional mortgage
So what kind of situations could you be in where a conventional mortgage is the better choice?
Here are some examples:
- Have 20% for a down payment
- Have multiple financial products at the lender
- Your financial situation may change in the future
- Want the security of a fixed term and rate
Example situations for choosing a collateral mortgage
And what about situations where a collateral mortgage might be the better decision?
- You’re going to need additional credit before the end of your mortgage term
- You do not have multiple financial products at the lender
- You’re absolutely sure that you’ll meet all your financial obligations in the future
Want to know for sure which option is best for you? Speaking with a mortgage broker may be a good idea.
What about you?
A conventional mortgage is easier to understand and limits risk. But if you need to access extra funds during your mortgage term, a collateral mortgage might make sense for you.
If you do go with the collateral mortgage option, make sure to separate your other financial debts and products to another financial institution. Always read the fine print and consult a mortgage broker on every mortgage document because each one is different.
Which mortgage do you think is best for you? Please leave a comment below.
FAQ
What is a collateral mortgage?
A collateral mortgage is a type of mortgage that can be used to take out more money down the road without having to refinance. This type of mortgage has several ups and downs, which you can learn more about here.
What is a conventional mortgage?
A conventional mortgage is a standard mortgage that requires a 20% down payment. You can learn more about this type of mortgage here.
What’s the difference between a collateral and conventional mortgage?
A conventional mortgage registers and secures only the mortgage loan. It contains all the details about the mortgage loan including the amount, term, and interest rate. In contrast, a collateral mortgage can be registered as greater than the actual loan amount, can be used to secure other debts of the borrower, and contains a separate credit agreement about the details of the mortgage loan.
What are the best mortgage rates in Canada?
If you’re looking for the lowest mortgage rates in Canada, your best bets tend to be with online mortgage lenders. You can see our rankings here.
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