Cash back mortgages

Buying a home is an expensive prospect, so it may leave you a little cash poor when you first take out a new mortgage, especially if you're a first-time home buyer. If this is something you're concerned about, then a cash back mortgage might be worth considering.

Cash back mortgages return to you a percentage of your mortgage principal in a tax-free lump sum when your mortgage closes (i.e. when your property purchase is finalized). Cash back mortgages differ from '0% down' mortgages (which are no longer available in Canada) as they still require you to put your own money upfront for a down payment, but you receive the lump sum after your mortgage closes.

How does a cash back mortgage work? 

If you choose to take out a cash back mortgage, the lender will deposit the lump sum amount in your back account when your mortgage closes. This amount is based on the total size of your mortgage (not the home’s purchase price), including any mortgage default insurance premiums. Most cash back mortgages offer 5% of the total mortgage amount, but this can range between 1 - 7%.

Take a look at the chart below to see how your mortgage cash back amount can vary based on the mortgage size and cash back percentage.

Cash back mortgages pros and cons

Cash back mortgages aren't without their downsides, and you need to be fully aware of the true cost of them before you pull the trigger. Here are a few ways a cash back mortgage can be more expensive:

Higher mortgage rate

Cash back mortgages come with higher mortgage rates, which compensate your lender for the upfront cash that they give you. Generally, this rate more than covers the cash back amount, which means you're worse off overall. If you don't absolutely need a cash back mortgage, it's generally cheaper to opt for a traditional mortgage instead.

Cash back repayment penalty

If you break your mortgage before its term maturity, you must pay the designated cash back mortgage penalty. The cash back penalty can be as much as the entire cash back amount, or a pro-rata amount of the cash back, based on how much of your mortgage term is remaining. Note that the cash back repayment penalty is charged in addition to the standard penalty for breaking your mortgage. Since cash back mortgages are only offered with fixed rates, the standard penalty may already be quite expensive.

Cash back mortgage providers in Canada

There are a number of lenders in Canada who provide cash back mortgages, including several of the big banks. It’s best to connect with your lender of choice directly (or with the help of a mortgage broker) to get information on the following:

• The cash back percentage offered
• The maximum amount of cash back that can be paid
• Any applicable penalties (in addition to the interest rate differential) should the borrower choose to break their mortgage.

Which banks do not offer cash back mortgages?

Not all banks offer cash back mortgages. If you are set on getting a mortgage with any of these providers, you'll need to consider a traditional mortgage instead. Here are some of the larger financial service companies in Canada that do not offer cash back mortgages:

• Tangerine (previously ING Canada)
• BMO (Bank of Montreal)

Reasons to consider a cash back mortgage

The cash required to purchase a home can be overwhelming, especially for first-time home buyers. In addition to saving for a down payment of 5% or more, home buyers must cover closing costs, home furnishings, and, in some cases, surprise home renovations and repairs. For some, the assurance of receiving a lump sum returned to them is an attractive option; however, it is important to understand the full cost of a cash back mortgage.

It may even be possible to be loaned a portion of your down payment from immediate family ('traditional sources') and repay the loan upon receipt of the cash back lump sum. However, the Canadian Mortgage and Housing Corporation (CMHC) says it will only insure mortgages with non-repayable monetary gifts from immediate family.

What is the difference between a cash back mortgage and a mortgage cash promotion or bonus?

Unlike a cash back mortgage, which is a type of mortgage in which is a lump sum of money paid to the borrower based on the loan’s size in exchange for a higher interest rate, a promotional mortgage cash offer is a bonus offered as part of an advertising campaign. It is designed to incentivize borrowers to pick a certain mortgage product, or to drum up business during peak or low mortgage seasons. Cash promotion amounts tend to be much smaller than what is available through a cash back mortgage, but they usually come with fewer strings, such as no repayment penalties.

As cash promotions and bonuses are meant to create business for the lender, they’re typically only offered to brand-new customers; if you’re looking to renew your mortgage with your existing lender, it’s unlikely you would be offered a cash promotion. They may also come with other product requirements, such as taking out a bank account with the bank, and may have required minimums in terms of mortgage size and term length. Always be sure to read the fine print when taking out any mortgage product with a promotional cash bonus.

Alternatives to cash back mortgages

If you need some extra cash when closing your mortgage, a cash back mortgage isn’t your only option. Here are a few additional methods for home buyers to grow their down payments, or access additional funds:

The RRSP Home Buyers’ Plan: There are a number of tax-free savings options offered by the federal government that are designed to help first-time home buyers save up a down payment. One of the most popular first-time home buyer programs is the RRSP Home Buyers’ Plan (HBP). The HBP allows first-time home buyers to save up to $60,000 within their RRSP to withdraw tax-free for the purpose of buying a home. The amount must be paid back into the RRSP within a 15-year time frame, though home buyers have a five-year grace period before they need to start making payments. Partners saving for a home together who are both first-timers can save a total of $120,000 tax-free.

The First Home Savings Account: The FHSA is a new savings vehicle that combines some of the features of both an RRSP and TFSA. First-time home buyers can save up to $8,000 annually tax-free in the account, up to a lifetime of $40,000 (partners buying together can save a total of $80,000 together). The FHSA can be combined with the HBP, but the FHSA funds don’t need to be paid back.

Also read: Where to get the First Home Savings Account

A Home Equity Line of Credit: If you are renewing your mortgage, or have built up a considerable amount of equity through your mortgage payments, utilizing a Home Equity Line of Credit (HELOC) could be an appropriate solution. This allows borrowers to access a lump sum amount from their home’s equity at a much lower interest rate than a traditional line of credit. This is a revolving debt product, which means the amount doesn’t need to be paid back monthly as long as interest payments are made, unless the home is sold. 

A readvanceable mortgage: Also called a collateral mortgage, this is a product that allows the borrowers to pull money out of their home’s equity as it builds up over the mortgage term, without the need to refinance the mortgage and pay legal fees. However, it’s important to note that readvanceable mortgages can not be transferred from one lender to another, even when the mortgage term is up. This locks the borrower in with that lender for the lifetime of their mortgage, unless they hire a lawyer to break the contract.

The bottom line

Although the interest premium you will pay on a cash back mortgage may be higher than the cash returned to you when your mortgage closes, that cost could be worth getting immediate access to those funds. It's a personal decision that must be made for your unique situation. However, it's important to keep in mind the drawbacks to a cash back mortgage discussed above. If you're not sure what the best course of action is, it might be a good idea to speak to a mortgage broker about your options.