Optimizing your down payment

When putting a down payment on a house, often people strive for 20% if they can, and anything less is just a fallback if you don’t have the cash.   As most people know, if you have less than 20% down your mortgage needs to be insured by the CMHC.   The nice thing about CMHC insurance is that you get to pay the premiums but if you default the bank gets the payout.

Premiums increase the less money you have down, and rates have been cranked up recently.  Now if you have between 15% and 20% down you’ll pay an extra 2.8% of the mortgage in premiums.  10-15% costs 3.1%, and 5-10% costs 4%.   So does that mean it’s always a good idea to put 20% down?   Not necessarily.  It depends on your mortgage rate, and the return you would get on the money if invested elsewhere (your opportunity cost).

It get’s a bit complicated, so I’ve created a calculator to help out.  Check it out.

Optimal Down Payment Calculator

Here’s how it works.  To compare the result of different down payments, it assumes that you can afford the highest payment (minimum down) and have the cash for the whole house.   Then it compares your net worth after the given time period by taking your investment value and subtracting the mortgage balance.  For example, a $500,000 property mortgaged with $25,000 down (5%) at 2.5% will cost you $2213/month.   At the same time you invest $475,000 for 5 years.   After 5 years you take your investment value and subtract the mortgage balance to get your net result.   Now if you put $100,000 (20%) down, it would cost you $1792/month and you have $400,000 to invest.   Thus you invest $400,000 + $421/month ($2213-$1792) for 5 years, then subtract the mortgage balance.  The summary shows the best outcome and the graph shows every scenario from minimum down to 50%.  Note that if investment returns are low as compared to mortgage rates, it will say 50% is the optimal down payment, but of course 100% would be even better.

You will notice that the outcome could change depending on the time period you are comparing.   For example, if you put the minimum down and want to be ahead after 5 years, you would have to earn about 5% more in your investments than you are paying on your mortgage to outweigh the 4% CMHC fees.   But over 25 years, you only need to earn an extra 2% to make the minimum down payment worthwhile.

Here’s another example.   With current fixed rates of about 2.8%, it makes sense to put 20% down if you earn less than 5% in your other investments.   If you earn more than 5% (after tax), then it makes sense to put only the minimum down.

Make sense?   Could the summary result or the graph be changed to make it clearer?

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40 thoughts on “Optimizing your down payment

  1. I think sometimes people want predictions that are controversial in nature like the World ends tomorrow. However a prediction may be that the next 90 days, accounting for seasonal variations, will be a lot like the last 90 days.

    The ability to notice a change in the marketplace before anyone else is difficult. Because you have to be looking at the marginal properties. The ones that are not mainstream purchases. These are the properties that are going to be the first casualties in any housing downturn.

    Historically those properties have been half duplex houses and houses along busy streets or in less desirable areas. This is what you would expect in a normal market pull back or correction for a soft landing. As the weakness in prices for the less desirable properties transitions into the surrounding neighborhoods.

    But what if the price drops are first seen in the best houses in the best neighborhoods? That’s what I suspect happened to Vancouver in the 1980’s and I think would be a characteristic of a real estate bubble. A rapid compression in house prices from the top down. A top down domino effect as the most expensive properties shed value rapidly.

  2. Considering the inaccuracy that we exhibit in predicting the past no wonder we are so bad at predicting the future. Sorry, just made that one up. Back to the Monday morning list of things to repair.

  3. We are all sitting around waiting to see if the first weeks low sales have continued into this past weeks or whether it was just a blip.

    We are a pathetic bunch, aren’t we.

    The other guys to speak to are Viridian Energy.

    Thanks, Viridian is on my radar. Leo, do you know anything about this outfit? http://hespv.ca/

  4. We are all sitting around waiting to see if the first weeks low sales have continued into this past weeks or whether it was just a blip.

  5. The other guys to speak to are Viridian Energy. http://viridianenergy.ca/

    They can give you a breakdown of costs and return on an install (or just the panels if you want to DIY). With good exposure, they expect around 5% annual return over 30 years but they can do those calculations per site.
    I’d put solar on, but too much shading.

  6. “The actual sales numbers are released every month? Obviously sales are down big time YOY”

    But you said condo sales are going right off the wall. One expect some numbers not hype for someone in the business with PCS access.

  7. “The Janion is still going very strong despite Leo’s theory :)….last two sales over $1000 a foot and one of those at $1,198 a foot.”

    We’ll see what the south side ones are worth when the freeway opens up next year 10 feet from their windows.

  8. Price/Sqft is a good way to track condos when you are controlling other factors (no penthouses, constant number of beds, year built in a certain range, etc). You still get variability in terms of floor and orientation, but you see the market trends becoming very clear.
    For SFH price/sqft isn’t as useful since there is more variability and the price of the land governs.

  9. The Janion is still going very strong despite Leo’s theory :)….last two sales over $1000 a foot and one of those at $1,198 a foot.

    What is your guess as to why? Clearly they are valued higher than the same unit without transient zoning, so have people not heard about the restrictions, do they think they won’t come into effect, or are they just going to eat the $2500/year fee?

  10. Leo S — Did you post the Week 2 sales numbers somewhere? I’m not seeing them. Thx.

    That would be tomorrow.

  11. The actual sales numbers are released every month? Obviously sales are down big time YOY; however, market conditions are still such that 13.55% up for SFH and condos 16.80% YTD.

    We could have sales down next year and prices up again. Leos theory of MOI seems to hold true.

  12. So you have no actual sales numbers, just that fewer places are selling to those who want to overpay. That’s market top action.

  13. Condo market is easier to figure out as you can look at comparables within a complex and most of the sales right now are hitting the record highs per square foot or for that floorplan within a particular complex.

    You look at a complex like Regants Parks (1010 and 1020 View Street) that only has two floor plans. The smaller floor plan set a record earlier this year at $462k.

    Then in July another record at 490k.

    Then just last week another record at 519k.

    In 2016 SFH prices went up 16.17% and condos 8.59%.

    2017 YTD we have 13.55% up for SFH and condos 16.80% and I think the spread will stretch out before end of year based on what I am seeing for the 1st half of this month.

  14. JD,
    Just from a joe average observation I can count roughly 20% of condos slashed between the prime price areas of $300K to $500K over the core the last month.

    If those slashings are because other sales in the same building came in lower than them, or because the buyers have stalled paying the sudden high prices then that will remain to be seen in the coming months. It definitely smells like a similar topping out process as per the SFH market.

    The coming stress tests may be spooking the borderline borrowers as well if there is indeed are sales increase stats Marko can show us and not just salesman bluster.

  15. For condos in the core this month, the MOI (2.5) is slightly higher than September. The Sales to Listing ratio is at 59% and the average DOM is 27.

    The median and average prices are $390,000 and $527,500. For the entire year this month’s median is within a few percent of the years so far at $375,000.

    All of the above is similar to the detached market except for the average price of a condo this month that is well above the average for the year at $432,000. Which is most likely due to some high price sales so early in the month relative to the number of sales so far. We don’t historically see a rise in condo prices in the fall.

    At this time, Marko’s observations doesn’t seem to be showing up in the data. Maybe he’s just ahead of the curve or has a bias in searching out the extraordinary purchases or maybe there is something else going on that has more to do with marketing than it does with the market. For example if condos are being under priced it will give the illusion of a hot market as sale prices are now well over asking and more people are drawn into bidding.

    But we likely will have to wait for more data to find out what is going on in the condo market.

  16. The months of inventory and the ratio of sales to new listings are slightly higher this month in the premium areas of the core such as Oak Bay, Victoria and Saanich East.

    Using the assumption that a balanced market with stable prices has between 5 to 7 months of inventory, a sales to new listings ratio between 40 to 60 percent and an average days on market between 30 to 90 days these premium areas would be described as a sellers market that usually has or leads to rising prices. Most definitely prices would not be declining with 3.5 MOI, 62% ratio and an average DOM of 28 days. And we are not. The median and average is $899,000 and $1,002,000. Which is within a few percentages of the averages for the entire year so far of $920,000 and $1,079,000.

    But shouldn’t the average and the median be trending higher in a sellers market? Or maybe it’s how we are defining a balanced, sellers and buyers market. Maybe those economic indicators need to be more fluid and less carved in stone.

  17. Sounds like you’re showing your clients the wrong properties. Lots of nice condos and houses in nice hoods slashed the last few months. Many more than once. Good salesmen look for the sellers under pressure then low ball them.

  18. Maybe it was the weather but it feels really different than a year ago.

    It is definitively different as the numbers would indicate, unfortunately pretty much every property my clients offer on is multiple offers.

    Condos are just off the wall right now and seeing much bigger gains as of late compared to SFH. For example, condo sold on McKenzie this week for $489,900 – purchased in 2013 for $345,000 and it is a 2012 build so not like any improvements would have been made.

    The Janion is still going very strong despite Leo’s theory :)….last two sales over $1000 a foot and one of those at $1,198 a foot.

  19. We can talk about opportunity costs of investing the down-payment but let’s be honest, the average debtor will furnish the house with the foregone down-payment.

    Unfortunately this is very true.

  20. LF, I think the FinPost article is overlooking how the boomers started entering the labour force in 1965. Anyway, if in fact job growth is one of the largest causes of inflation, it’s tough to see how the great inflation of ’65-’81 is upon us.

    Ah, now I see the problem. It looks like the FinPost article was written by Ambrose Evans-Pritchard. I sometimes wonder if he’s paid to mislead the public.

  21. Barrister, the price slashes continue on nice places in nice hoods.

    2274 Cranmore Rd in Oak Bay on slash #2 for a $100K total, now at $949K.

    816 Rogers Ave in upper Quadra slashed $100K.

    4177 Bracken Ave by St. Marg’s school slashed $50K to $799K.

    1738 Kings Rd relisted and slashed $30K to $749K.

    Nice townhome in Royal Oak on slash #2 for $85K total down to $775K.

    Many more slashes the last couple days, city wide in all sectors.

  22. Went to a open house in the neighbourhood and there was only one other couple that showed up in the twenty minutes I was there. Maybe it was the weather but it feels really different than a year ago.

  23. We can talk about opportunity costs of investing the down-payment but let’s be honest, the average debtor will furnish the house with the foregone down-payment.

    True, the goal here is that hopefully people can educate themselves to be smarter than the average bear debtor.

    Having to pay as much as 4% of the “entire mortgage balance” for not having up to 20% down is theft IMO.

    Why should the person with only $25,000 down get the same deal as someone that saved up $100,000? Seems fair to me that the one with less skin in the game has to pay for insurance.

    I haven’t followed it for a while, but there is a relatively new BC provincial interest credit / rebate or some such deal for those under 20% down. It would be well worth additional discussion on here from anyone that knows the program. It’s a start for necessary relief and would likely change your analysis.

    Right. The BC Home Partnership Plan where they give first time buyers up to half the downpayment on very generous terms. It was strongly panned by economists and the CMHC when it was announced by the Liberals in order to buy some last minute votes. Problem with these programs is that if you give people more money they will drive up prices, so they only help very briefly and then everyone has to take on more debt to buy. Just like going to 40 year amortizations and allowing 0% down, it is a bad idea.
    However if you are buying today as a first timer, I would definitely take advantage. Free money. Check with your mortgage broker on the impact of taking advantage, as the CMHC may regard that those funds as coming from “non-traditional sources” and charge you 4.5% (o.5% more) for minimum down payment.

  24. Chrome on Windows 10.

    Thanks. It’s temporary only on this page, the calculator is pulling in some styling that is doing that. I’ll look into it but will revert back to normal on future posts.

  25. @Introvert. Looks like some CSS conflicts on certain platforms. You on Safari/Mac?

    Chrome on Windows 10.

  26. Relating to an article Leo posted yesterday concerning the future of interest rates, asset prices, inflation and stagnant wages, below is an exerpt from an article in the Financial Post. I found it a good read.

    Why the Federal Reserve may be sitting on an inflation time bomb

    “The edifice of hyper-valued assets across the world is built on one elemental premise: that U.S. inflation is dead and, therefore, that the U.S. Federal Reserve will continue to bathe international finance with dollar liquidity.”

    “We have been here before. The U.S. economy looked eerily similar in late 1965. The jobless rate had fallen to 4.2 per cent – exactly where it is now – without a flicker of wage pressure. It was the calm before the storm. The U.S. was on the cusp of the Great Inflation. Wall Street equities lost almost 60 per cent of their value in real terms over the next decade. Bondholders were slaughtered.”

    “The collective market bet is that this time it’s different. It is why investors are so nonchalant about a global economy leveraged to the hilt. The world debt ratio has risen from 276 per cent of GDP just before the Lehman crisis to a record 327 per cent today.”

    “Danny Blanchflower, a Dartmouth labour economist and former UK rate-setter, says the parallel with the Sixties is invalid. “Globalization is quite different today. The forces pushing down wages are much stronger. Firms can just up and go to Hungary or Thailand. If there was any truth to the inflation story we would see it in wages, and we don’t,” he said.”

    http://business.financialpost.com/news/economy/inflation-trap

  27. Here’s the rub that was explained to me about CMHC insurance.. If you buy a home using insurance the cost of the insurance is tacked onto your mortgage.

    If you refinance two years from now into a conventional mortgage with 20 percent equity. You still have the cost of the insurance on your mortgage.

    In the USA, when you re-finance into a conventional mortgage, the unused insurance premium is not carried on your mortgage. You don’t have to pay interest for the next 23 years on insurance you don’t have.

  28. We can talk about opportunity costs of investing the down-payment but let’s be honest, the average debtor will furnish the house with the foregone down-payment. On our first home we scraped and borrowed to get to the 20% down. To be fair, it was a little easier 10-12 years ago buying under $300K.

    Having to pay as much as 4% of the “entire mortgage balance” for not having up to 20% down is theft IMO. We’re talking up to $20,000 up front (added to your $500K mortgage) for not having $100K down. Put that $20K on 100K over 5 years to see what BC is charging 1st time homebuyers for the privilege of not having a down payment. The province could easily restructure this in their transfer tax windfalls over the past 5 years and provide actual relief to resident buyers. The direct cost as a % of the missing savings is outrageous.

    I haven’t followed it for a while, but there is a relatively new BC provincial interest credit / rebate or some such deal for those under 20% down. It would be well worth additional discussion on here from anyone that knows the program. It’s a start for necessary relief and would likely change your analysis.

  29. @Deryk Completely agree. CMHC distorts the market so the people with less money are less risky for banks. What I’m not considering here is that a CMHC insured rate is often lower than one that is not.

  30. Compare the return of your extra cash from, say, a 5% down and a 20% down, with the cost of the premiums.

    I believe you will find the result is the same, except then you can’t compare higher down payments which some people are interested in.

  31. If you’re wanting to evaluate CMHC impacts, then why not do that alone? Compare the return of your extra cash from, say, a 5% down and a 20% down, with the cost of the premiums. The rest of it, like the 50% down, etc. are not about the premiums.

  32. I’m old fashioned I guess because it irritates me how banks prefer someone who has a small down payment but a fairly large income over someone with a lower income but a massive down payment. This doesn’t make sense to me because it seems that the loan should be about the risk. If someone puts down 50%, it would seem that the banks would not be taking much of a risk because if house prices dropped and I couldn’t meet the payments because of changed circumstances, then the banks would clearly still be able to get their money back in the event of a foreclosure. The person with very little down payment but with the high income could easily lose their job and be unable to meet their obligations, so if property prices dropped …the banks would be completely out of luck. Yet the banks favour the high earner! In my old fashioned brain, everything about the banks does not make sense today. As a result, people are better off using a mortgage broker. Which is also crazy, considering that the banks pay the broker several thousand dollars instead of simply giving the long term customer, with the perfect credit score, the mortgage in the first place. We once had our banker tell us to go to a broker. (Our credit rating was perfect. Our income was very good. We had equity.) We took his advice and went to a broker. We ended up with a mortgage for less interest than the same bank was offerring it’s customers. How crazy is that?