45 – Mortgage and Debt

Wayne Kay  0:04  

Welcome to the Debt Matters podcast where we help Canadians find solutions to their debt with Licensed Insolvency Trustees from across Canada. I’m Wayne Kay. In today’s show we’re going to talk about mortgages and debt. We’re going to learn more about the different types of mortgages. We’re going to talk about mortgage insurance, the actual cost of homeownership options for third seconds mortgages, and maybe if you need to refinance. We’re going to talk about that and paper equity. 

You’re going to learn all about this today with my guest Matthew Fader from Allan Marshall and Associates Licensed Insolvency Trustee with offices in Alberta, New Brunswick, Nova Scotia and Prince Edward Island. Matthew, thanks for being here.

Matt Fader  0:48  

Thanks for having me. Wayne, good to be back.

Wayne Kay  0:50  

I think this is a perfect topic right now, with house prices soaring. I think this might be the one of the most important things to discuss right now. When it comes to mortgages, if you do this wrong, it could end up costing a lot of money.

Matt Fader  1:05  

Definitely. The market is certainly hot, which of course, couldn’t be predicted. We would think with all the pandemic and what not, that it will go the opposite way, but shows what we know. And yes, there’s a real issue with supply and demand. Lots of people looking not as much out there. And that’s really driving the prices through the roof.

Wayne Kay  1:32  

And then you have first time homebuyers trying to get into the market. A house that is $300,000 or $400,000, and you got to put another 100 grand in it. It’s unbelievable what we’re seeing with the housing market. So I’m looking forward to learning from you, regarding mortgages,

Matt Fader  1:49  

I’ll try and enlighten as best I can. 

Wayne Kay  1:53  

Well, if we can help people with just understanding some of the different terms and what they all mean, that would be the ultimate goal of this podcast. So let’s talk about some of the different terms. We’ve got a home equity line of credits, and we’ve got a conventional mortgage. Why don’t we start there?

Matt Fader  2:09  

Well, a conventional mortgage is, of course, an installment type of loan, which of course, means you pay both principal and interest. You might get a 25 year mortgage, but they’ll amortize the rate over five years, meaning you’re going to pay at this rate for five years, and at the end of that five years your mortgage comes due. And then you just re-amortize for another five at the current rate. 

But the thing is, in paying your mortgage, you’re paying the debt down. And in theory, your property is then appreciating in value. So that is really helping to build the equity up. And that’s what you want. You want to say a house is an investment. At least that’s what we’ve been taught. So conventional mortgage through a primary lender, where you’re paying a favorable interest rate, whatever the percentage amount is, it works out to be affordable. 

A lot of people tell me well, I could never rent for what I pay for my mortgage. And I say, Well, that’s true, as long as we consider there is a cost of living associated with homeownership that does not exist when it comes to renting. Property taxes and general maintenance and things of that nature. But all in all, your installment base conventional mortgage has that focus of saying you will own this home mortgage free, within a certain defined time period. 

A home equity loan or a HELOC, or whatever it is that you want to call it. That’s a revolving line of credit attached against the equity in your house. So you’ll often see people or I will, where they have a conventional mortgage where they’re making regular mortgage payments, but then they have this line of credit that’s attached to their house. Now, the line of credit isn’t an untenable thing. 

The bigger issue that we run into the line of credit, depends on how it’s structured. We’ll say Wayne, you have a $300,000 mortgage, your property’s worth 300 grand. You have a $150,000 mortgage and you go out and get this home equity loan for 100 grand. So it’s like a $100,000 line of credit. But because the two are linked together, as you would make your mortgage payment, thereby dropping the principal and supposedly building equity in your house. What it does is it opens up more room on your line of credit. 

So you know, you pay 10 grand down on your $150,000 mortgage – your mortgage, maybe $140,000. But the room on your line of credit just bumped up to $110,000 so it sort of puts people in the cycle to say that they continue to borrow against that line of credit. And since your only requirement is interest only, yes, it’s at 6%. 

So it’s really cheap to just make the interest payments. But of course, nothing happens. You know, you’re not building that equity at that point, because all you’re doing is you’re maintaining this interest only payments, and the line of credit remains basically untouched. 

You do that for 20 years.You then sell your house, yes, the line of credit gets paid out because it is secured against the house. But it’s that full amount that you borrowed against. And you know, we’ll see that sort of flip where people are paying that mortgage down. They think they’re building that equity, but because that line of credit continues to increase, and they haven’t adjusted their spending habits, they rely on that line of credit. And the spending just continues. So it can be a dangerous trap.

It’s great if you say I have got to fix the roof, and I have access to that line of credit. Use it to fix the roof, build the value in my house, really invest in this. And then you’re building value in your house, which is great. And if you’re not out of hand with a line of credit, then you say, Well, I can control the payment, or I’m making a payment that would be above an interest only payment. 

I guess that’s really the key to it – is the bank encourages you to make that minimum interest only payment. But really, you should have it factored in your budget to say, well, I want to pay this debt off, too. It is a common thing. They’re what we call retail collateral mortgages. We see them constantly. 

Wayne Kay  6:36  

Yes, I could buy a car and I could buy a snowmobile and I could buy an ATV and a motorcycle under my home equity line of credit.

Matt Fader  6:44  

Yes, and you’re buying them outright. So there’s no liens on them. So then you would have access and control of those assets. So, go on vacation, pay off debt, do whatever it is. And this is one of the areas that I think my industry is going to see a fairly substantial boom in the next three or so years. 

With the increase in the market, of course, people that are coming up for renewal refinancing during the pandemic. They’ve really seen their property values go up. So my house was worth $300,000 last year, this year it’s worth $375,000, the next year’s worth $420,000. It’s not supposed to work that way. 

But then when the mortgage comes up for renewal, and they say, Well, I owe $250,000 on it, and they go into the bank and the bank says well, your house is worth $420,000. So why don’t we rework your mortgage or put you into this HELOC, the home equity loan, and then you can pay out your debt. Which is great, don’t get me wrong, that is fantastic. It’s a great thing to say I’ve got a bunch of debt, high interest, wrapping it up into a mortgage refinancing, pulling that money out to pay high interest debt. 

It’s a fantastic plan as long as the market stays stable and what’s going to be the real issue here is that if you say, Well, I’m just barely making this mortgage payment, or it’s comfortable, but I don’t have a lot left at 3% 4%. And then further to that, if you say, Well, I just satisfied all my debt, but you’re not adjusting your spending habits, people will tend to say hey, I have no debt so let’s go on vacation or let’s eat out more often, or things like this. And their debt level starts to increase. So they’re starting to dig themselves back in if they don’t address the core spending habits that can often get people into trouble.

Wayne Kay  8:50  

So people need to realize that it is still debt and you want to get rid of that.

Matt Fader  8:55  

It’s cheaper debt, or at least it is now because if you come up for a remortgage in five years, and the interest rates doubled, at 2% and you’ve got a $400,000 mortgage, well 2% on 400k is a lot of money. You feel that hit. 

And that’s when we look and we say well, why is the industry slow right now – because my industry is fairly slow. It’s picking up but it has been fairly slow through the pandemic. We’ve had lots of stimulus, we’ve had the Government contributing all these plans to help keep people afloat, which have certainly contributed to keeping insolvencies down. I’m not supposed to say it’s great, because it’s my industry, but it’s great. I want you to come see me, of course, but you know what I mean? 

As an industry, we don’t want to see high levels of inflation, irresponsible spending, things like that. But if we don’t address those core problems and when those interest rates rise – if people can’t keep pace with their mortgage, we flip into a crash. And that’s a scary thing to say. What does that do to the value of your house if all of a sudden? Yes, all kinds of people say they can’t afford to keep their places anymore and they flood the market. Yes, you’ve gone the opposite, where there’s too much supply, not enough demand.

Wayne Kay  10:20  

We’ll have to wait and see what happens. It’s going to be interesting, because you’ve never seen houses go up this fast in all these different areas. So it’d be quite something. 

Matt Fader  10:29  

It’s bonkers. Do you remember the days when you would say, Okay, I’m gonna sell a house for $200,000. And your realtor is like, Okay, you have to be willing to accept $160,000. Yes, because that’s how things work. And now people go in, and they say, Okay, if you’re not bidding 200 or 300k, over what they’re asking, you’re probably not going to get it. And that’s insane. 

Wayne Kay  10:51  

I couldn’t do it. No possible way. By that, I can’t physically overpay for stuff. I just couldn’t do it. Thank goodness, I’m not in that situation. But I think it’s important for people to know what their options are when it comes to these mortgages and these debts. Let’s continue on. Let’s talk about mortgage insurance. Obviously, if you get a mortgage, you have to have insurance, do you not?

Matt Fader  11:15  

It’s not required. Insurance is one of those funny things that you say, well, the person that I’m insuring has to be insurable. So when I’m dealing with older people with insurance, they say, Well, I couldn’t get mortgage insurance because of my age, things of that nature. But it’s always a good idea. 

One of the things that I want to make sure that you and other people are aware of, is that when I bought my condo, of course, the bank sold me on mortgage insurance. And I was like, Oh, this is great. If I get hit by a bus, then the bank will pay out my mortgage, and then my spouse is left without having to worry about the burden of a mortgage payment. For a product, it is fantastic. 

What a very good friend of mine did when she went out and she got her mortgage – the bank made the offer to her. She said, I don’t know. So she didn’t, she wasn’t saying no, just I don’t know about mortgage insurance. What she said was, I don’t know if I want to get it through you. And I don’t think it was a slight against the bank. But I think she was just clever enough to say, I think I want to see if I can shop around and see if I can find something different. 

So for me, like you said, I got my mortgage through my bank. My bank said, Hey, you want mortgage insurance? It’s this. I was like, oh yes, great, one stop shopping and everything like that. But this good friend of mine, she told me, Well, you know, between what the bank was going to sell me and what I was able to get through this other provider, I got better coverage for me. It was cheaper. Now you say, Oh, well, it’s $10 cheaper, something like that. But you’re looking at a 25 year mortgage. So if it’s $10 cheaper a month, that really, really adds.

Wayne Kay  13:08  

You don’t think about that – 10 bucks, but you’re absolutely right. So that’s a good one. I didn’t realize you could actually go shop around, or maybe I was just too lazy to go shop around and just thought, well, it’s six bucks, or whatever it was, and I’ve got my insurance.

Matt Fader  13:23  

100%, that’s the hook, right? I’m signing the mortgage papers, I’m here at the bank. I’ve already done all this running around, I had to go and do all this other garbage work. So sure, I’ll sign this piece of paper for the mortgage and you are at the whim of your lender. Is that the best product for you – you just made 38 other decisions. Is this another one that you’re really prepared for? 

So, I really do salute her for having that peace of mind to sort of sit back and say, Wait a minute, and do my research and I’m going to see what’s better for me and better for my family. So, bravo to her. It was a lesson learned for me because I was like you and it was like gee, I never really thought about that. My car insurance is through my bank. Why? Because you guys sell insurance, so sure, give me a good rate. I’m pretty sure I could shop out a better rate, but I’m too lazy to do it.

Wayne Kay  14:21  

We all are. Okay. Now, another key point is the cost. So, we’re talking about the $10 extra and all this but when it comes to actually owning a house, it can get very expensive.

Matt Fader  14:34  

Well, again, one of the key features that comes with home ownership is the price of maintenance. You’re viewing this asset as your investment to potentially say it’s like deferred rent. What I’m paying, I’m going to get it back when I eventually sell it. You don’t get that when you’re renting, you get it when you own. 

But one of the areas that I see is – that people all have their money going into paying the mortgage and paying other debts. Then the upkeep suffers, other windows start to need to be replaced, the roof needs to be replaced, the sidings coming out, and the direct effect on that neglect is felt from the valuation of your home. 

If your deck is falling off, guess what, you’re going to lose a lot of curbside appeal and a lot of marketability when trying to sell your house. It’s sort of what I alluded to earlier. It’s not as simple as mortgage versus rent. When I rent now, if my windows are leaking, I call my landlord and say you fix it. I don’t have to.

Wayne Kay  15:41  

I’ve heard people say, sometimes it’s better for somebody to rent and put money aside and invest that for 25, 30, 40 years. And then others say, no owning a house is best for me. So that’s a really good thing that they need to keep in mind. It’s all these additional costs that come up. 

Now, let’s say you get into that situation where you have got to get the windows done or get the roof done. And for some reason, all the contractors I’ve ever talked to, they don’t know any other numbers than 5 grand or 10 grand that there’s only two numbers they know. And it doesn’t matter what it is they’re doing. So at what point can you get a second mortgage or a third mortgage? How does that work?

Matt Fader  16:28  

Well, second, and third mortgages are generally not the greatest of ideas because you’re putting another lender behind a principal mortgage holder. So they typically are high interest and usually come from higher risk lenders.

Wayne Kay  16:44  

So when you get a second mortgage, I thought the second mortgage came through the same bank. But no, that’s not the case.

Matt Fader  16:53  

Gracious me, no. Typically, it won’t come from the same bank. If you were able to do something through the same bank –  you weren’t going to look at a huge payout because there’s a penalty if you had to refinance a loss of interest, the IRD calculation or three months interest. 

So typically, no, a second mortgage comes from a secondary lender. I’ve seen stuff that would make you cry for what people would get into and second mortgage. Second mortgages for  30 or 40 grand at 28% interest. The mortgage payment, what they set them up to is just the interest plus maybe $1, towards the principal. 

So, everything serves a purpose, everything exists for a reason, if used properly, I’m sure it’s a great mechanism to say I’ve got to get access to cash that the bank won’t help me out because for whatever reason. My credit isn’t good enough to be able to get something through my bank, like a HELOC or something like that. So it’s really a warning sign to say I need access to this cash. 

I would say, Well, be careful what you’re signing into. Because once that’s in place against your home, it’s a mortgage. If you say I’m really struggling with paying the second mortgage, well, if you don’t pay it, they’re gonna go into foreclosure. So it’s really something to be cautious about to have thought about, perhaps seek legal opinion before you get it. Even talk to a Trustee like myself or anybody to say, is this a good idea? Is this the solution? $500 a month sounds really easy. It gets really, really hard sometimes.

Wayne Kay  18:44  

Just to hear those numbers, I oh my gosh, when it’s even more than your credit cards, that’s just crazy. And then credit card debt is ridiculous. So that’s just unbelievable. I’m glad you brought that up. Can you talk about paper equity in like a minute and a half?

Matt Fader  19:00  

I can. Paper equity is one of those wonderful things that has lots of paper value, but no real value. People say, Well, I have equity in my house. And I’m like, okay, that’s wonderful. But if a bank is only going to finance you up to 80% of the inherent value, that 20% of equity, quote, unquote, that you have in your house it really is useless to you. Because you can’t access it, you know, so. 

We really don’t have time to go into some of the more minutia as to where it can be. I don’t want to say damaging, but ultimately, I’ve dealt with situations where paper equity, either natural or inflated by the bank – because I’ve seen that a bank will only lend up to 80%. So I’ve seen valuations magically go up so that they value the property higher, so that this person will qualify for a mortgage. And what that does is that creates the impression of that paper equity. Basically what they’re doing is they’re saying we’re going to inflate the value of your home, so that I can give you a mortgage that based on the math you really can’t afford. And again, it’s a terrifying thing. I wish we didn’t talk so much before so we could spend a little bit more time on this.

Wayne Kay  20:30  

No, this is fantastic. I think it’s really good to give us some eye opening information when it comes to this especially with what you see regularly with people that do get in trouble with these situations. So I really appreciate you taking the time to chat with us today and to share this information regarding mortgages and debt.

Matt Fader  20:50  

Well, it’s my pleasure, most happy to be here.

Wayne Kay  20:53  

Well my guest today, Matthew Fader from Allan Marshall and Associates. You can learn more or set up a free consultation with Allan Marshall and Associates through their website at wecanhelp.ca. 

And that’s it for today’s Debt Matters podcast. Now make sure you subscribe wherever you get your favorite podcasts from. And of course for more information you can always check out debtmatters.ca. Thanks for listening.