Strategies for Saving for a Down Payment:
How Much Should You Save?
Purchasing a home is a significant milestone, and saving for a down payment is one of the initial steps. But how much should you aim to save? You can calculate how much of a down payment you’ll need for your future home based on the purchase price.
With the expected average Canadian house price hovering around $702,200 in 2024, according to the Canadian Real Estate Association projections, this can be a daunting task. Saving for a large purchase requires time and a strategy. Government initiatives like the FHSA, RRSP, and TFSA can expedite your savings while also providing tax advantages. We’re here to assist you in understanding mortgages, available savings plans, and the registered accounts you can use to help you save, so you can look forward to your big moving day. To accumulate funds for your down payment, it’s important to build a budget, automate your savings, and set aside any extra income.
A mortgage is a loan obtained from a bank, financial institution, or private lender to finance the purchase of a home. It can also leverage equity in your existing home for other purposes, such as refinances. It’s a legal agreement between you (the borrower) and the lender, detailing your loan’s specifics, including your payments, term length, interest rate, and other important terms.
Types of Mortgages
There are several types of mortgages available, each with its own advantages and disadvantages. These include fixed-rate mortgages, variable-rate mortgages, and hybrid mortgages. Understanding the differences can help you choose the best one for your situation.
Mortgage Terms and Amortization
As the borrower, you commit to repaying the mortgage principal and any interest on the principal at an agreed-upon interest rate over a predetermined term term and amortization period. In Canada, prime mortgages can be amortized over periods of up to 30 years, meaning payments are calculated so mortgages are paid off within 30 years. It’s important to specify that insured and insurable mortgages only allow 25 year amortization, and uninsured up to 30 years. Some alternative lenders will allow even longer amortization periods. However, mortgage terms in Canada can be as short as six months, with an average loan term length of about three to five years. Borrowers often renew or refinance their mortgages at the end of each loan term rather than obtaining a mortgage that covers the full amortization period.
Minimum Down Payment in Canada
The down payment is a crucial step for anyone buying a home. It’s the upfront money you need to supplement your mortgage. The minimum down payment starts at 5% of the purchase price, depending on the amount of the purchase price.
Calculating a Minimum Down Payment
Here’s how you can calculate the minimum down payment based on the three categories:
- For homes priced $500,000 or less: Multiply your purchase price by 5% to get your down payment.
- For homes priced between $500,000 and $999,999: Add two amounts. The first is 5% of $500,000. The second amount is 10% of the remaining price of the home.
- For homes priced $1 million and above, multiply by 20%.
Impact of a Down Payment on Your Mortgage’s Total Cost
While you’re only required to make the minimum down payments outlined above, you might decide to make a larger down payment. This can help you qualify to buy a more expensive home, reduce your monthly payments, reduce the interest you pay over the life of your mortgage, and save on default insurance costs, such as CMHC.
The Importance of Budgeting
Budgeting is a crucial part of saving for a down payment. It involves understanding your income and expenses and planning how to allocate your money. A well-planned budget can help you identify unnecessary expenses and redirect those funds towards your down payment. It’s advisable to review and adjust your budget regularly to reflect any changes in your income or expenses.
Effective Ways to Save for a House
There are numerous effective strategies for saving for a home. We’ve compiled a list of what we believe are the most effective methods. These tips, while primarily aimed at saving for a home, can also be used to accumulate substantial savings for almost any purpose, a car, an RV, a vacation, paying off your debts, or saving for retirement. Your motivation level will determine how successful you are in achieving your financial goals. Here are our tips:
- Prioritize: Saving for something significant, like a home, is all about setting priorities. Do you frequently dine out, take costly vacations, purchase the latest items, and drive brand new cars? Or are you willing to tighten your belt and save for a house? The choice is yours. What’s more important?
- Pay Off Your Credit Card Debts First: You can’t truly save money if you’re paying a lot of interest to someone else. The first thing you should do is pay off all of your debts. Start with your smallest high-interest debt and pay it off. Then take the minimum payment from that debt and use it to help you pay off the next small debt with the highest interest rate. Once you have that one paid off, the two minimum payments that you used to pay for those smaller debts can help you pay off your next debt faster (again, choose a small debt with a high interest rate). You will notice a snowball effect as the minimum payments you are freeing up help you to make larger and larger payments against one debt at a time. This is one of the fastest ways to pay off debt. If you try to apply for a mortgage with too much consumer debt, you may not qualify. For most people to qualify for the house that they want, they usually have to pay down their credit card debts first.
- Set a Savings Goal and Start Saving Early: Figure out how much you’ll need for a down payment and set that as your savings goal. The sooner you start saving, the better. Even if you can only put away a small amount each month, it will add up over time. Remember, you’ll also need money for closing costs, and moving expenses, so factor these into your total savings goal.
- Automate Your Savings: Set up pre-authorized contributions after your monthly, biweekly, or weekly pay cheques. By immediately putting the money into your saving or investing accounts, you won’t be tempted to spend it. This makes saving easy and ensures you won’t forget. This strategy works on the principle of “out of sight, out of mind”, if you don’t see the money, you’re less likely to spend it. Plus, it ensures that you’re consistently saving a certain amount each month.
- Extra Income, Bonuses, Refunds and Gifts: Extra income can come from various sources such as bonuses, overtime pay, freelance work, or selling items you no longer need. Direct any expected or unexpected windfalls towards your savings. For example, if you get a tax refund, monetary gift from a family, or inheritance, you can put that towards your down payment which can significantly speed up your savings timeline.
- Open a First Home Savings Account (FHSA): The Government of Canada introduced the First Home Savings Accounts (FHSAs) in 2023. This is a registered savings account in which first-time homebuyers in Canada can contribute up to $8,000 per year, up to a lifetime maximum contribution limit of $40,000 per taxpayer. But be careful, if you remove funds from the FHSA for any reason other than for a qualifying home purchase, you will have to pay taxes.
- Use Your Registered Retirement Savings Plan (RRSP): The government lets taxpayers use a portion of RRSP savings to put towards a down payment on their first home. This plan, called the Home Buyer’s Plan, allows you to withdraw up to $35,000 from your RRSP funds to put towards your first home. This is a great way to come up with a down payment if you already have some RRSPs. If you don’t, this may be a good way to save money for your RRSP and at the same time get a tax credit to help reduce your taxes. The only catch to this program is that you have to pay the money back to your RRSP within 15 years. If you don’t repay the money, it is treated as income and you will have to pay tax on the money you withdrew as though it were income. Check with your financial planner or advisor to see if this option is right for you.
- Open a Tax-Free Savings Account (TFSA): The Tax-Free Savings Account can also be a great place to save your down payment money. The money can grow tax-free in this account. This means you won’t have to pay income tax on the money you earn as it grows in this account. Consult with your financial planner or advisor.
- Invest Your Money: Consider investing your money to help it grow faster. Just be sure you understand the risks and are comfortable with them.
- Stay Motivated: Keep your goal in mind and stay motivated. Saving for a down payment can take time, but it’s worth it in the end. Remember, everyone’s financial situation is different, so what works for someone else might not work for you. It’s important to create a savings plan that fits your needs and helps you reach your goal.
Additional Costs to Consider When Buying and Owning a Home
There are many other direct and indirect costs of buying and owning a house. They include new appliances, decorations, new furnishings, renovations, repairs, property taxes and homeowners insurance, hand tools, vent cleaning, house cleaning, and many others. Each of these costs may range anywhere from a few hundred to several thousand dollars. You shouldn’t necessarily have these saved upfront at the time of buying the houses, but they should be planed for, as part of your household budget.
What to Do When Saving for a Down Payment Feels Overwhelming
Saving for a down payment on a home is an important goal for many Canadians, but many also find it very difficult. If you feel stuck with your own saving progress, a professional credit counsellor at a non-profit credit counselling organization may be able to review your finances with you and help you make a plan to reach your goals.
Choosing the Right Home for You
Choosing the right home is about more than just the price. Consider factors like the location, size, layout, and condition of the home. Think about your lifestyle and future plans. Do you have, or plan to start a family? Do you need a home office? These factors can influence the type of home that’s right for you.
Working with Real Estate Professionals
Working with real estate professionals can make the home buying process easier. Real estate agents can help you find homes within your budget, negotiate with sellers, and navigate the closing process. Mortgage brokers can help you find the most suitable mortgage rates and terms based on you individual situation.
Getting a mortgage is a serious business, and saving for a down payment can take time. Planning ahead by assessing your finances, budgeting, and setting up a savings account with an automatic payment plan, will get you there eventually. Consider buying a home you can afford, and remember, you cannot afford to forget about closing costs!
While buying your own home might feel like a long-term goal, if you save consistently and strategically, you’ll be able to achieve your home ownership dream sooner. By understanding how mortgages work, setting a savings goal, and using effective saving strategies, you can accumulate the funds needed for a down payment. Remember to stay motivated and keep your end goal in mind.
If you need further information about down payments and mortgages, feel free to reach out to us through our website or call us at (519) 252-9665. We’re here to help guide you through the process.
Please note that this information is current as of the time of writing and is intended for general informational purposes only. It should not be relied upon as financial advice. Always consult with a mortgage professional for advice tailored to your specific circumstances.
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