You most likely know that “buying a home” and “getting a mortgage” are connected. But apart from understanding it has something to do with money, the bank, and owning a home, do you have a good idea of what is involved?
If you are thinking of buying a home and are ready to get more acquainted with mortgages, such as how to obtain one, what is involved, and how the process works, read on and discover more than you’ve ever wanted to know about mortgages!
First of all, a mortgage is basically a legal agreement for a loan between a bank (or trust companies, credit unions, or private lenders) and an individual (or individuals), in which a property is used as security for the repayment of the loan. The loan is subject to interest, to be repaid over a given length of time (usually 25 years).
At the end of the specified period, the borrower will own the property “free and clear”.
With every mortgage, a buyer is required to submit a down payment on a home, which for homes up to $500,000 in value would be a minimum of 5% of the purchase price. If the buyer is a first time home buyer, there are a few down payment incentive programs available to them.
In general, a mortgage is a type of funding in the form of a loan to help homeowners purchase a home.
A default on the loan is known as a foreclosure, and the home is generally listed for sale by the lender with the proceeds used to pay back the loan. Hopefully this will never happen to you, which is why it is important to make sure your mortgage payment is affordable based on your lifestyle.
Now that you have an idea of what a mortgage is, let’s break down the steps one would take in order to successfully acquire a mortgage.
Step 1: Finding the Right Mortgage Product
Different lenders may offer different interest rates and terms, and you will want to do your due diligence before you settle on one.
Talk to several lenders to make sure you are getting the best mortgage product for your needs. Get to know what it would cost you should you need to cancel your mortgage contract early. Find out if there are any early renewal options, prepayment benefits or penalties, etc.
For more details, see my “10 Questions to Ask When Shopping for a Mortgage’ checklist below!”
Step 2: Work With A Mortgage Lender or a Mortgage Broker
Mortgage lenders provide the mortgage directly to you. These include banks, mortgage companies, trust companies, credit unions, loan companies, and private lenders.
Mortgage brokers don’t provide the mortgage directly to you, but shop around on your behalf to find a suitable lender. Mortgage brokers are able to give you a wider range of mortgage products to choose from and may charge a fee for their service.
Step 3: The Pre-Approval Process
Once you’ve selected who you’d like to work with, you will fill out a mortgage application. During the pre-approval process, your mortgage lender or broker will review your finances to determine the maximum amount they will lend you, and what interest rate they will charge.
You will be asked for proof of employment and current income, personal identification, proof you can pay for the down payment and closing costs, other assets you own (such as a car), information on debts and financial obligations, and Notices of Assessment from CRA.
Once you are pre-approved, you will know the maximum mortgage you qualify for, your estimated mortgage payments, and interest rate.
Typically, mortgage pre-approvals are valid only for 60-120 days, depending on the lender. Should you not purchase a property during this period, you will need to re-apply for approval.
Step 4: Qualifying for a Mortgage
Once you’ve settled on a property you want to purchase, your realtor will forward your mortgage broker or lender a copy of the accepted Agreement of Purchase and Sale, and they will use your financial information to calculate your total monthly housing costs (also known as GDS for gross debt service), and total debt load (or TDS for total debt service), to determine if you can indeed afford the property. The lender may also perform an appraisal on the property.
Gross Debt Service (GDS) refers to housing related costs such as the mortgage payment for this property, property taxes, utility costs, and 50% of the condo fees (if applicable). GDS should be no more than 32% of your gross household income.
Total Debt Service (TDS) refers to your monthly housing related costs plus all of your other debts, and shouldn’t be more than 40% of your gross income. Other debts may include credit card payments, car payments, lines of credit, student loans, child or spousal support payments.
Step 5: Mortgage Insurance and Passing the Stress Test
If you are purchasing a home with a down payment under 20% of the purchase price, you may need mortgage insurance, which is provided by Genworth Canada or Canada Mortgage and Housing Corporation (CMHC). The insurance is tacked on to the mortgage amount, and is included in the mortgage payment.
Since April 2017, Mortgage applicants need to prove they can afford a mortgage payment at their current rate + 2%, or the average bank 5 year benchmark rate (whichever is higher).
For example, if the bank agrees to lend you money at a 3% interest rate, you will have to prove you can qualify at 5% as well.
As you can see, there is a lot involved in acquiring a mortgage. I hope this article helps to provide you more information on the process.
Once you have successfully gone through all 5 steps and your lender gives you the green light, you will be able to finance your home purchase. Your realtor, lawyer, and lender/broker will work behind the scenes to ensure everything goes smoothly so that the mortgage funds are transferred on closing.
Keep in mind there will be additional costs associated with buying a property, such as closing, moving, renovation, maintenance, and repair costs.
For more details, ask me for my “Estimated Costs to Purchase Your Home” worksheet, which you can use to help calculate what you need and avoid any surprises!