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What is a cash back mortgage?

Many people are surprised to learn that there are some additional costs that come with purchasing a home. In addition to the down payment, there are many other costs that must be accounted for, such as legal fees, landscaping, renovations, home inspections, and title insurance. If you’ve recently purchased a home, you’ll no doubt see these extra costs slowly add up.

To help ease into home ownership without crippling yourself financially, an option you may want to consider is to sign up for a cash back mortgage. With a cash back mortgage, your lender will give you a lump sum of cash when the mortgage is finalized. Depending on your lender, this amount could be anywhere from one percent to five percent of your mortgage. Another way to think about this is that your lender is giving you a rebate on the principal of the mortgage.

How does a cash back mortgage work?

So how does a cash back mortgage work? A bank is not just going to give you free money, right?

The cash your lender gives to you is attached to your mortgage – and this mortgage will come with a higher interest rate than if it was a standard one with no cash back. Basically, the cash you receive will be offset with higher interest payments. The cash back feature is available for fixed rate and variable mortgages.

Why should you consider a cash back mortgage?

A cash back mortgage confers some good benefits to homebuyers. First, the cash back you receive is tax-free, so the entire amount can be put towards what you wish. Second, you can use the funds right away, without having to worry about paying back the lender. The amount is technically paid back through the premium on the interest rate you pay, so it doesn’t function as a separate loan from your mortgage.

Having access to the cash offered through this type of mortgage can be beneficial, as borrowing from other sources may prove to be more costly. Also, if the real estate market is rising, the appreciation in the price of your home can more than offset the higher interest costs you’ll pay over the term of the mortgage.

Things to consider before choosing a cash back mortgage

  • Is there a good chance you’ll be breaking your mortgage contract early? If so, you will probably be required to pay back a percentage of the cash back rebate, in addition to the usual prepayment penalty. Be sure to ask your lender about the types of penalties that could come into effect in the event that you refinance, transfer, or renew your mortgage.
  • Is the housing market rising or declining? A cash back mortgage is more advantageous during a rising house market, as the appreciation in the price of your property will compensate for the extra interest costs.
  • Can you afford the payments over the term of the mortgage? As mentioned, cash back mortgages have a rate premium. The interest rate could be between one and two percentage points higher than the best mortgage rates.

If you really need a substantial amount of extra cash once you purchase your home, a cash back mortgage can be the ideal option. If you’re able to comfortably accommodate your budget with a slight increase in mortgage payments, it may prove to be a smart financial decision in the long run.