Qualifying For a Mortgage:
The Four
Factors
Thinking about applying for
a mortgage? There are four key factors
that the prospective lender will
consider above all else when deciding
whether or not to approve your application,
as well as in determining the amount
provided. Here we go through each
of these factors in random order,
since different lenders will place
different weighting on each factor
(although the size of the downpayment
is usually of most interest to a
lender).
Qualifying: How and How Much?
Generally speaking, most people
will qualify for a mortgage that
is equal to about triple their annual
household gross income, assuming,
of course, that they have steady
employment, relatively little debt,
and a good credit history.
Factor #1: Income
Assuming the above ratio, this means
that if you and your spouse each
earn a $50,000 gross salary each
year, you can, on average, expect
to qualify for a mortgage of around
$300,000.
Keep in mind, though, that lenders
are very particular when it comes
to defining gross income. If you
work lots of overtime or work in
a job where commissions (or even
tips) make up a large proportion
of your income, you will need to
prove that this portion of your
income is sustainable. Being able
to demonstrate that you have received
a certain amount consistently in
commissions for the past 2-3 years,
for example, will help ensure that
this variable income is factored
into your mortgage qualification.
If you are self-employed, the lender
will look at your net taxable income
over the past 2-3 years as it shows
on your Canada Customs & Revenue
Agency ("CCRA" - formerly
Revenue Canada) Notice of Assessments.
These figures are then usually averaged
to give an estimate of future income
expected. Unfortunately, most self-employed
individuals will find that all the
work they did to keep their net
taxable income low can have a negative
impact on their qualifying for a
mortgage.
Want to take this one step further?
Simply calculate the same two ratios
typically used by a lender to qualify
you for a mortgage, as follows:
Gross Debt Service Ratio (GDSR): Simply add together your monthly
mortgage payment plus 1/12th of
annual property taxes plus $75 for
monthly heating costs. Divide this
sum by your gross monthly income
to get your GDSR. Expressed as a
percentage, a GDSR is less than
32% is desirable.
Total Debt Service Ratio (TDSR): Similar to the GDSR. Add together
your monthly mortgage payment plus
1/12th of annual property taxes
plus $75 for monthly heating costs
plus any other monthly payments
(
loans, lines of credit, car leases,
minimum payments on credit cards,
etc.) Divide this sum by your gross
monthly income to get your TDSR.
Expressed as a percentage, a TDSR
of less than 40% is desirable.
Factor #2: The Downpayment
Size
really does matter!
Generally speaking, bigger is better
here. In other words, the more skin
you have in the game (downpayment),
the easier it should be to qualify
for a mortgage, since the lender's
risk is lower. But what if you don't
have a lot? You still can get a
mortgage, but the bottom line is
that it will be tougher to qualify,
more expensive in the long run,
and there will be more rules to
follow. It is even possible to get
a mortgagewith zero money down,
but these programs are typically
very costly and should generally
be avoided. It is best to scrape
together at least 5-10% of the purchase
price of the home for a downpayment
at a minimum.
By Canadian law, if your downpayment
is less than 25% of the purchase
price of the home, you must obtain
mortgage insurance through the Canada
Mortgage and Housing Corporation
(CMHC) or GE Capital. Both of these
organizations have strict underwriting
requirements which are not very
flexible. You can buy with as little
as a 5% downpayment, but only if
you have good credit, sufficient
income and are buying a marketable
property. If you can afford a 10%
downpayment, the terms get a little
more flexible, but not a great deal.
Having a downpayment of 25% is by
far a preferable way to go, though
in reality it can be tough to save
this amount in some markets. With
that magic 25%, your options really
open up a lot, since the lenders
become much more flexible. In other
words, if you have a problem with
any of the other three factors (such
as a less than perfect credit history),
the bigger your downpayment, the
more the lender will be willing
to overlook these other problems.
Factor #3: Marketability
Location, location, location! Remember how we said earlier that
a mortgage is simply a large
loan secured by real estate? Well, here's
where we explain why this matters.
Since the real estate secures the
loan, you need to step for a moment
into the lender's shoes. How
marketable is that piece of real
estate? To give an analogy, if you're
buying a house in a growing metropolitan
area or subdivision, that's
generally going to be a secure piece
of real estate, since that property
should be relatively easy to sell.
Buying a small farm in a remote
location miles away from civilization
is going to be tougher, since this
real estate is not nearly as marketable.
Ultimately what this means for you
as a customer is that the mortgage approved could be for a lower amount
(or turned down completely) if the
property is deemed too risky from
the lender's perspective.
Factor #4: The Impact of Your Credit
History
Your credit history plays a very
important role in qualifying for
a mortgage. This is because they
want to make sure as much as possible
that you are going to be consistent
in repaying the mortgage. If you
have had a lot of late payments
on credit cards or
loans or have
had collection agencies after you,
you will find it more difficult
to qualify for a mortgage.
Even something seemingly as minor
as forgetting to make the minimum
payment on a department store credit
card can come back to haunt you
if you do this consistently. Remember,
too, that it's not just what
your credit situation is like today
that counts, it's what your credit history has been like over the last
five or six years. One way you can
check on that history is by ordering your credit report.
Help! I don't know if I am going
to qualify!
As mentioned above, if you have
had credit problems, a larger downpayment
can help mitigate this situation.
Another option is to consider dealing
with private lenders, who are generally
more interested in the marketability
of the property and size of downpayment.
Most private lenders require at
least 15% as a downpayment to help
mitigate their own risks.
If you already know that you will
have difficulties in qualifying
for a mortgage, consider talking
to an experienced mortgage broker.
He or she is qualified to deal with
a wide array of lenders and will
be able to give you an informed
opinion up front on whether or not
you are likely to qualify. Mortgage
brokers can also help you look at
alternatives, such as dealing with
private lenders, finding a guarantor,
or even helping you to formulate
a plan that will prepare you for
being able to buy a home in the
future.
In summary, remember that each lender
will weight the four factors differently
and will of course consider the
unique situation of each mortgage applicant that comes their way.
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