Published: July 13, 2015 • Last updated: June 29, 2020 at 12:47 pm
Mortgage Vocabulary: What’s the Difference Between ‘Amortization Period’ and ‘Mortgage Term’?
Mortgage professionals often fall into the trap of presuming knowledge and understanding of our terminology that simply isn’t there – especially with first time home buyers. I was reminded of this when an intelligent, financially responsible new buyer recently asked us how come her mortgage rate was going to change in five years – after all, she had signed up for a twenty-five year amortization period.
As I reflected on her question, I realized I had not taken enough time to clearly explain the difference between the term of her mortgage and the amortization period.
When most of us buy a home, we don’t have all that money sitting in the bank. We have saved up some which we can use towards our down payment and we need to borrow the rest – and that loan is called a mortgage.
When you take out a mortgage, you are entering into a contract to borrow the money you need over and above your down payment. So if your new home costs $500,000 and you put down 20%, you will need a mortgage of $400,000.
In the USA, it is fairly common to take out a 25 or 30-year mortgage where the interest rate never changes over the life of your mortgage. But in Canada, most mortgages have a term of five years or less. This means your interest rate is set for say five years and is renegotiated at the end of the term you have chosen.
But most of us will need many years to be able to repay this debt. Typically we want the option to take as long as 25 or even 30 years. This allows us to make manageable monthly payments, as the loan repayment is ‘stretched out’. Your lender basically says ” Look, you only have this interest rate guaranteed for five years, but to make your monthly payment affordable, let’s pretend it was for 25 years, and we will set your monthly payment on that basis.”
This is called the amortization period. It is the total amount of time you will take to repay the mortgage loan.
The reality is everything is reset at the end of your (five-year) term, and when your mortgage renews, it is (almost certainly) at a different interest rate, and therefore your amortization schedule will change too.
As time goes by, your financial circumstances change, and you may well move into a different home. You will always have choices on how to structure your amortization, your payment, and the term of your mortgage as your needs evolve.
We use these terms every day and tend to forget that our industry jargon can be intimidating and confusing for people – especially first time home buyers. We encourage you to do some research to educate yourself.
However, just as it is not wise to treat your sickness based on what you read at WebMD, it may not be smart to go it alone for your first mortgage. Find mortgage specialists who have the time and patience to hold your hands and answer any and all questions.
- Mortgages 101 — What You Need to Know Before Applying For a Mortgage
- What Type of Mortgage Is Right For You?
- ASKROSS Decodes Mortgage Lingo: Loan to Value and Hi-Ratio
- Choosing a mortgage that is right for you