The purchase of a home is one more step along life's winding road. Regardless of the size or style of a home, it's an opportunity to put a roof over your head that you can actually call your own. But to many, a home purchase requires borrowing a large amount of money, and therefore acquiring a large debt that most have never experienced. It is this debt that the following pages will help to explain.
I believe that the more you know and understand about mortgages, the less worry there will be.
Straight Talk On Mortgages
Documents Required For Financing
When applying for a mortgage, it is important to have all the necessary documents prepared in advance. When a lender has many applications to process, it is easy to understand that those that are the most complete will get attention first. To ensure your application is looked at promptly, try to obtain as many of the following as possible.
Income Confirmation
Though T4's and pay stubs are often suitable to begin financing, a salary letter from all employers should be obtained. It should confirm annual income, position, and length of time on the job. For self-employed individuals, the last two years' Income Tax Return, Notice of Assessments and/or financial statements are normally required.Down Payment Confirmation
A minimum of 5% down payment is required by all home buyers. For example, on a purchase of $200,000.00 a minimum of $10,000.00 is required. The amount of down payment required could be more, so verify with an institution with regards to your particular circumstances.Whether it be money in the bank, RRSP's, term deposits, or a gift from family, your down payment must be confirmed. Take along a copy of all certificates, statements or bank books. If the money is a gift from a family member, get a letter from them specifying that it is a non-repayable gift. Eliminate any concern a lender may have regarding the source of your down payment. Proper documentation now will prevent questions later.
Accepted Offer to Purchase
This written contract shows the price, terms and conditions under which a buyer agrees to purchase a property. It will be signed by both the purchaser and vendor. If you have not yet purchased a home, an offer is not required to get your mortgage pre-approved.Feature Sheet or Listing on Property
This provides a lender with a brief description of the property to be mortgaged. If you have not yet purchased a home, have an idea of purchase price, property taxes, and condo fees if applicable, on the type of home you would be interested in.Assets & Liabilities
Put together a list of assets and existing debts that you may currently have. Regardless of how much or how little, a lender needs this information to determine how much mortgage you would qualify for. The more accurate this information, the quicker and more complete the application process will be.
Definitions
Amortization
The actual number of years it will take to repay the mortgage in full. The longer the amortization, the smaller the monthly mortgage payment. A commonly used amortization period is 25 years or less.Canada Mortgage and Housing Corporation/G.E.Capital
These organizations provide insurance to financial institutions who lend up to 95% of a property's value. The premium is paid by the borrower and can cost up to 3.25% of the actual mortgage amount. This premium is either paid in advance or added to the mortgage.Closing Date
The date on which the purchaser takes legal possession of the property. At this time the lawyers will transfer funds from the purchaser to the vendor. Also known as the Possession Date.Conventional Mortgage
A loan that is secured by a mortgage registered against the property. It never exceeds 75% of the appraised value of the property or the purchase price, whichever is less.High Ratio Mortgage
A conventional mortgage that exceeds 75% of the property's value. This mortgage must be insured by CMHC or G.E. Capital.Survey
A document that shows accurate measurements of land and improvements on a property. If a survey is not available, the lenders will insist on title insurance being arranged on your behalf.Term
In a mortgage, "term" is the actual length of time for which the money is loaned at a set rate of interest. Terms are commonly from 6 months to 5 years, though longer terms may also be available. After the term expires, you can either repay the balance owing or re-negotiate the mortgage at current rates and conditions.Vendor
The individual(s) selling a property.
Do I Qualify?
Many institutions offer a pre-approved mortgage that tells you in advance the amount of mortgage they are prepared to lend. This calculation is based on your income, down payment, and any debts you currently have.
The normal banking system allows home purchasers to use up to 32% of their gross monthly income towards housing costs, which includes mortgage payment, property tax and heating. If the property purchased is a condominium, ½ of monthly condo fees must also be added. As well, up to 40% of gross monthly income can be spent on these housing costs and any other debts (i.e.: car loans and credit card debt).
In summary, remember that more important than qualifying within the guidelines of an institution, is your sense of comfort with the monthly payments. Do a detailed family budget to ensure that what you want to pay is in line with what the system allows.
Example: Pre-Approved Mortgage
Qualifying Process - First Step
Assume you are purchasing a condominium for $170,000.00. Your mortgage is $125,000.00 at 6%, with a 25-year amortization. Your gross annual income is $55,000.00 (or $4,583 per month).
Gross Monthly Income = $4,583 ($55,000 per year)
This ratio should not exceed 32% |
Qualifying Process - Last Step
The final step in qualifying is to look at what other debts you have. For example, any loan or credit card payments must be added to the above housing costs and the total cannot exceed 40% of your gross monthly income. Assume your monthly car payment is $300.00. See chart below.
Gross Monthly Income = $4,583 ($55,000 per year)
This ratio should not exceed 40% |
Rate is always foremost in people's minds when inquiring about a mortgage. It does warrant concern, because a difference in rate directly affects your monthly mortgage payment. But rate is not everything! Two institutions may have the same rate for a particular term, and yet the privileges offered by one may be more suited to your needs than the other.
Portable
A mortgage should be portable, meaning you can take the existing mortgage with you to a new property being purchased. The new home must be acceptable to your institution.
Assumable
An institution should allow the purchaser of your home to assume the existing mortgage. He must qualify though, as you did. The reason behind having an assumable and portable mortgage is that when selling your home, the mortgage won't have to be discharged. If you discharge an existing mortgage during the term, the penalty can be substantial.
Increasable
A mortgage should always be increasable meaning that during the term of your mortgage you can increase the amount of the loan for a specific purpose. An example would be borrowing money to build an addition.
Prepayment Privileges
Most mortgages, unless specified otherwise, are closed. This would mean that other than your monthly payment, no other prepayment is allowed during the term. So to make long term mortgages attractive, most institutions allow some form of prepayment option. A common example of this would be a 15+15% option. You can pay up to 15% of the original mortgage loan once each year and/or you can increase your monthly payment by 15% once a year without penalty. These privileges can be quite different from one lender to the next.
Payment Frequency
All institutions should give the borrower an option of paying their mortgage monthly, weekly, or bi-weekly. How your salary is paid may dictate to you which is more convenient, however paying your mortgage on an accelerated weekly or bi-weekly basis will pay your mortgage down faster than if paid monthly. Ask how this can benefit you.
Unexpected Costs You May Have
Mortgage Setup Costs
When arranging a mortgage there are legal and incidental costs associated with that process. A lawyer is required on all home purchases to among other things transfer the title of the property between the buyer and seller. Legal fees, which I will assume, include their disbursement costs and taxes (do not confuse with land transfer tax) can often total up to 1% of the purchase price. Interest Adjustment
For the bank to approve the mortgage, they are normally required to have an appraisal and or CMHC/G.E. Capital approval. There is an application cost of approximately $165.00. If CMHC/G.E. Capital is involved there is also an 8% tax(do not confuse with land transfer tax) that the government charges on the insurance premium. When your offer to purchase is accepted, ask what costs are applicable to you.
Most lenders require that monthly payments are always paid on the 1st day of a month. Therefore if you take possession of your home on any day other that the 1st, you could be charged an interest cost to bring you up to the 1st of the following month. Ask your lending institution how you could be specifically affected and if so set aside funds if required.
Example: (Assuming mortgage payment frequency is monthly)
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In this scenario, on August 15th (your closing date), you would prepay interest on the mortgage funds up until September 1st., approximately half a monthly payment. Your first full mortgage payment though would not be until October 1st. Keep in mind that by closing on the first day of the month, there is little, if no interest adjustment cost.
Tax Hold Back
Many lenders require that property taxes be collected with your monthly mortgage payment. They in turn, will send these payments directly to your municipality.
A lender usually requires sufficient funds in your "tax account" to pay any incoming tax bills. To ensure this, the lender could hold back a portion of your estimated annual property taxes from the mortgage advance. This money is not lost, but put aside in your "tax account" so that sufficient funds are always available to pay your property taxes.
What it means to you though is that your down payment required will increase by the amount of the hold back. Every lender can deal with property taxes differently, so as you can see, it is an important question to ask!
Survey
A survey is required by all lenders to ensure that a house they are mortgaging is fully within its lot lines, and likewise that no other adjacent buildings are encroaching on the property.
Age may not necessarily be a reason for a survey being unacceptable. You could have a 40-year old survey, but if no major additions or structures have been added to the property a lender may allow its use. It is therefore important to watch for any changes such as an added family room or an in-ground pool that can make even a recent survey unacceptable.
A new survey on an average city property could cost approximately $1,500 and the cost is usually borne by the purchaser who requires mortgage financing. To eliminate this unwanted expense ensure a copy of any available survey is obtained from the vendor and reviewed by your lawyer.
Land Transfer Tax
Unlike property taxes, this tax is a one time cost paid by the purchaser on closing. It is similar to the tax you pay on a store bought item, but due to the size of a home purchase, it can be a significant expense. Use the chart (below) to determine your estimated tax based on your particular purchase price.
Summary
The costs mentioned above can add up very quickly. I would recommend that you set aside up to 2% of your purchase price to cover these expenses. These funds should be over and above your required downpayment. Take the time to ask the questions now and avoid surprises on closing day.
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Where to borrow?
Where to obtain a mortgage is a common concern among home buyers. The likely place to inquire would be where an individual does his banking. But is this likely source of funds always the best source of funds? The answer may be no.
All institutions have different rates, prepayment options and terms. It is up to you, the borrower, to ensure that the mortgage suits your needs. You should not have to conform to the needs of the bank. Does the institution have flexible hours of business? Is the institution offering competitive rates? Does the loans officer you will meet have the authority to approve your mortgage?
To simplify the search for your mortgage, a common method is to use the experience of a mortgage consultant. A mortgage consultant has access to funds from all institutional lenders, including those such as life and trust companies that the general public may not be aware of.
By having access to such a broad range of lenders, the home buyer is guaranteed the best possible rates and privileges. A lender is found to suit your needs, not necessarily the banks’.
Most mortgage consultants are accessible evenings and weekends, to answer questions and approve loans during office hours that are convenient to you. For most qualified home-buyers, there are no consultant fees for arranging a mortgage. The fees of a mortgage consultant are paid for by the institution who funds your mortgage. So with guaranteed lowest rates, flexible hours of business, and no consultant fees, the service of a reputable mortgage consultant can take the financial worries out of purchasing a home.