In today’s housing market a huge percentage of buyer’s are first time homebuyers entering the market with less than 25% down. Any mortgage where the applicant is putting down less than 25% is what is called a high-ratio, or non-conventional mortgage. Further, any high ratio or non-conventional mortgage has to be insured by a mortgage insurer in order for a bank to lend the money to you.

For years and years Canadians thought they had no other option than to pay the premiums imposed by mortgage insurers (typically CMHC and GE Capital). The fact is that there is an alternative that many of those people seem to have been unaware of – a second mortgage.

I am increasingly surprised (and impressed) at the number of clients who are now inquiring about this option. A second mortgage is mortgage that is placed on the property with a second claim to the property in the event of any defaulted payments. While the second mortgage gives a lender less security than an insured mortgage, or a first mortgage, it still represents a secured loan to the lender.

Generally speaking a second mortgage will be at a higher level of interest with a shorter term than a first mortgage – typically 1 or 2 years. While the higher interest rate on the second mortgage portion will increase the size of your monthly payment, it gives you one very important benefit – you will not have to pay the mortgage insurance premiums imposed by insurers like CMHC or GE Capital.

Let’s take a look at a simple example of the decision to get a second mortgage as opposed to accepting mortgage insurance. The first thing to consider is what the insurance premiums will cost you. The following is a list of the premiums at each level of downpayment. The following is what this premium would amount to on a $200,000 purchase.

Since there are only a very select few people who can get a reasonably priced second mortgage for over 85% of the purchase price, lets consider the 85% scenario where the premium is $3,400. In today’s market a second mortgage is typically around the 12% to 13% range. To the consumer this means that the only extra cost incurred by having a second mortgage is the difference between the rate they are getting on their first mortgage and the rate they are getting on their second mortgage.

Lets assume that the first mortgage is at 7% and the second is at 12%. The difference in interest (5%) times the amount of the second mortgage (10% of $200,000) is the annual cost of carrying this higher interest rate component. For the sake of simplification lets assume simple interest and that the second mortgage is not paid down at all until you save enough to completely pay it off entirely. In this case the cost of carrying the second mortgage is $1,000 per year (second mortgage value times the difference in interest rate - $20,000 x 0.05). Since we know that the premium for having only 15% down is $3,400, we know that you have up to 3.4 years ($3,400/$1,000) to pay off the mortgage before it is no longer a sound financial decision. If you can pay off the second mortgage before this time then you have saved yourself money.

This is of course a simple explanation of how to look at the numbers. To determine your exact savings you would have to consider the fact that the insurance premium is also added on to your mortgage resulting in you paying interest on the premium. Another important element to consider is that by using a second mortgage you tend to commit to paying down your mortgage quicker thus saving on interest you may have been paying later on had you not chosen this option.

As many of you know I am big supporter of anything that helps people become mortgage free quicker. At the same time I do believe that mortgage insurers do great things by helping people with low downpayments get into the market. A second mortgage is not an option for everyone, but it is an option many should consider.

Calum Ross is one of Canada’s top ranked mortgage advisors. He has appeared on Canada AM, Investment Television, Report on Business Television, City TV, is an industry speaker and mortgage columnist. He holds both a B.Comm and MBA in Finance.