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Term vs. Amortization

It can be confusing for mortgage shoppers when they get a 25 year mortgage and a 5 year term at the same time. It can seem counterintuitive to have a loan last five times as long as the term, but it’s actually very simple.

Mortgage Term

A term is an agreed upon length of time that you promise to repay your mortgage according to the interest rate and conditions set out by the lender. A term can last anywhere from 6 months to 10 years, but the most popular term is for 5 years. This is also the length of term that the Bank of Canada uses as their benchmark rate for mortgage qualification.

The mortgage term is not how long it takes to repay your mortgage in full. At the end of your mortgage term, if there is any remaining balance on your mortgage, you’ll have to get another term.

Mortgage Amortization

Mortgage amortization is the amount of time it will take to pay back your mortgage entirely. Currently in Canada, the maximum amortization period is 35 years. However, that only applies to mortgages without CMHC (mortgage default) insurance. In other words, it’s only possible to get a 35 year amortization if you purchase a home with a down payment of 20% or more. For CMHC insured mortgages, or purchases made with a down payment of less than 20%, the maximum amortization period is 25 years.

By taking advantage of prepayment options, the real amortization time can be shortened. You can also choose to shorten the amortization when it’s time to renew your mortgage term.




Term

Amortization

What is it?

A length of time that you agree to a set interest rate with one lender

How long it will take you to repay your mortgage in full

How long does it last?

6 months – 10 years

Up to 25 years if CMHC insured, up to 35 if not

What does that mean?

After the term is ended, you will have to renew your term with your current lender, or shop around for a better rate with other lenders

Your monthly payments are determined by how long you set your amortization for. Longer amortizations mean smaller monthly payments, but higher interest costs

 

 

Case Study: Amortization in Practice

If you’re curious to see exactly how amortization affects how much you pay, let’s do a case study using our monthly payment calculator.

Imagine buying a home with a purchase price of $300,000.


In Canada, you must have a down payment of at least 5% - but the higher the better. Higher down payments mean smaller mortgages, translating into lower costs: in CMHC premiums, interest rates, and total cost of interest. We’ll say we have a 10% down payment.

In one scenario, we’ll set the amortization for 20 years. In another, we’ll set it for 25 years to see how they’re different.



As you can see, everything except the amortization is the same. Because the length of amortization doesn’t affect the initial cost of a mortgage, the total mortgage required for both scenarios is the same.

In the first scenario, with a shorter amortization, the monthly payments are $224 higher – an annual increase of $2688. But the monthly payments don’t tell the whole story.


For a 20 year amortization, you’ll make a total of 300 payments of $1319. In total, you’ll have paid $117,214 in interest, for a total mortgage cost of $395,584 after 20 years.


For a 25 year amortization, you’ll make 360 payments of $1172. In total, you’ll have paid $143,593 in interest, for a total mortgage cost of $421,963 after 25 years. A difference of $26,379! 

 




20 years

25 years

Difference

Initial mortgage cost

$278,370

$278,370

$0

Interest rate

2.99%

2.99%

-

Monthly payment

$1316

$1540

$224

Total interest paid

$117,214

$143,593

$26,379

Total mortgage cost

$395,584

$421,963

$26,379

 

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