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If you are buying a home with a down payment lower than 20% you must have mortgage insurance. About half of Canadian homebuyers fall into this category.
Mortgage insurance before 2007
Until April 2007 mortgage insurance had to be taken out if your down payment was less than 25% of the value of the house you were buying. There was also a duopoly in Canada, with only two companies offering mortgage insurance - the government owned Canada Mortgage and Housing Corporation (also known as CMHC) which controlled about two thirds of the market and Genworth Financial Canada which was owned by General Electric. Many Canadians were even under the impression that there were no other eligible mortgage providers other than CMHC.
Changes to the Mortgage Insurance market
The lack of competition, the compulsory nature of the deal and the fact that mortgage insurance was spread throughout the life of the mortgage policy meant that fees were predictably high - costing Canadians thousands of dollars. Since 2006 there have been new entrants to the market, one of which - the now infamous AIG (trading as AIG United Guaranty Canada) - insured mortgages with no down payment, making 100% mortgages possible in Canada for the first time.
One myth about mortgage insurance is that it protects the borrower when he or she defaults. It does not. In fact the only party it protects is the mortgage lender if the borrower were to default.
How Mortgage Insurance is calculated
Mortgage insurance premium are linked to the size of the down payment, with lower down payments attracting higher premiums. Although it is possible to pay mortgage insurance premium up front in cash, homeowners with low down payments can rarely do this. Most homeowners opt to pay the insurance premium with their mortgage, which adds interest costs to the mortgage insurance. However the fact that it is rarely charged in one lump sum means that many people see it as a monthly expense of tens of dollars, rather than the actual expense of thousands of dollars.
Mortgage Insurance on larger down payments
Mortgage lenders, particularly in the aftermath of the credit crunch, often will require mortgage insurance from a borrower with a down payment that is higher than 20%, particularly if the loan is considered to be high for other reasons, such as the nature of the borrower’s work, past credit history or the income multiple on which the borrower is buying their house.
Mortgage Insurance providers
Until the market opened up mortgage insurance was very profitable with the Canada Mortgage and Housing Corporation paying out around 45% of its premiums as claims in the 1990s. This compared to payout rates around 75% in profitable sectors such as auto, life and health insurance, making home insurance the most profitable sector of the insurance market.
This is currently far less profitable as this was during a time of stable and rising house prices. Thus borrowers could usually sell their house and cover the mortgage if they got into serious difficulties. Recently the payout rates have risen as house prices have fallen. The rise in unemployment has also added to claims.
How Mortgage Insurance started
Mortgage insurance started south of the border during the Great Depression as an attempt by the U.S. government’s Federal Housing Administration attempted to boost home ownership, eventually the bodies that dealt with this became the financial giants Freddie Mae and Fannie Mac. This meant that many people who could not usually afford a house now could buy as the perceived risk of the bank losing money on them now sharply diminished.
Canada copied this in 1954, setting up a monopoly crown corporation that would later become the Canada Mortgage and Housing Corporation. In the 1970s and 1980s a number of private firms tried to enter the business and failed until in 1995 General Electric entered under the “Genworth” brand.
As well as mortgage insurance, the Canada Mortgage and Housing Corporation also issues mortgage-backed securities. It has a number of non-commercial roles - partly funded by the Federal government - such as improving access to affordable housing, collecting and publicizing information on regional housing markets and encouraging builders to make new homes more energy efficient.