When you are considering homeownership, there are several ways to help yourself to prepare for the process that can assist you with ensuring things go smoothly and possibly improve your chances of being approved.
Knowing what to expect during the home buying process can help you with preparation so that you are able to make informed decisions and get any necessary documentation ready prior to beginning the process. This can help prevent delays and stay organized.
If you are a first time home buyer looking to compare mortgage options, it can be both exciting and a slightly worrisome time. Below you’ll find some basics to get you started with educating yourself on terms to know or consider.
The first thing you should do is check your credit score, which is between 300 and 900 in Canada and suggests your creditworthiness to banks and lenders. Since a home is probably the biggest purchase you’ll make, consider that your personal finance habits up to this point have been in preparation for this moment. Your credit score will have a lot to do with the interest rate and terms that you might be provided with a home loan.
When you are looking towards getting a mortgage, another thing to do besides saving for a downpayment is to pay down and minimize your previous debt. If you carry much previous debt it will make it that much more difficult for you to get approved for a mortgage. When you carry too much debt, lenders might come to the conclusion that you would not be able to take on additional financial commitments and possibly deny your application. Reducing your debt as much as possible prior to applying is advisable.
When a lender is looking at your application, it isn’t just your credit score and debt that they will look at. Many tend to review things differently, but most will be primarily interested in how you look on paper in terms of your ability to make your payments, on time, everytime. Having a history with the same employer can help with your application and is regarded as income stability, which is a fixed amount from the same source on a regular basis. Your credit history is an indicator of how you have managed debt in the past, and something lenders look at closely, so your ability to pay bills on time consistently is another factor.
Knowing what you can afford has a lot to do with what you can put for a down payment, what kind of interest rate you might be offered, and what sort of monthly payments will be within your own budget. The larger your down payment, the less you’ll have to borrow. But there are all kinds of costs involved when making a purchase. While you would probably have financial obligations which affect your monthly costs, and a home purchase would impact that, there are also some upfront costs to factor in as well, like home inspections and closing costs. If its a new home you may have GST (5%) to also pay. Once you take possession there can be renovations or hook up fees and other costs as well. Be prepared by doing your homework and being informed, to avoid any surprise expenses or costs later.
Debt to Income
A factor that lenders look at which is not on your credit report but still a consideration is known as debt-to-income ratio, or DTI. Lenders will determine your debt-to-income ratio by adding up monthly rent or house payments, loan payments, credit card payments and any other debt. Next they would then divide this total by your gross monthly income to determine your DTI. The lower the number, the less risky you are to lenders. It generally doesn’t account for food, utilities, transportation or similar expenses, but provides a good analysis of financial commitments.
Any cash reserves in your savings account after your down payment that act as a savings or emergency fund are also to your advantage as lenders see this as insurance towards continuing to be able to make your payments and cover your mortgage in case of job loss. The larger the cash reserve the better, with at least a 3 to 4 month equivalent of your monthly mortgage payment being a guideline of where to start. While it isn’t required, it’s in your favour to do so and can help with the consideration of your mortgage approval. Note that there are lenders which will not finance a mortgage if the funds for the down payment is borrowed.
Where You Stand
Since as little as a quarter or half a percentage point can amount to thousands of dollars in interest with a mortgage, you should look to do what you can before applying in order to get the optimal offer for your situation. If your credit score is close to a band or range that might change your rating from fair to good, it can be well worth your time and effort to focus on improving your credit score first. For example, if you had a credit score of 680 or 690, improving your score to over 700 could change your rating from Good to Very Good and reduce the potential interest rate by many points which would likely save you thousands.
It’s also worth noting that if you have less than 20 percent to put down, you will likely be required to purchase mortgage loan insurance. This is protection for lenders, should you default on your loan, and can be added to monthly payments or paid up front. It is advisable to save up the down payment to avoid this additional cost if at all possible. Before pre-approval your application will also need to pass a mortgage stress test to ensure you’re eligible.
Pre-Qualified vs Pre-Approved
When a lender has assessed your creditworthiness and deemed you pre-approved, you are in a good place to start looking and contact an agent. This doesn’t guarantee approval, but means that you meet the eligibility requirements of a lender.
But pre-approval and mortgage pre-qualification are two different things, and often confused. With pre-qualification you are not asked for documents and a credit check is not used. It only provides you with an estimate of what you can qualify for, which is useful when you start to look. Once you are getting serious a mortgage pre-approval is often required by most agents before they will show you any homes. The minimum credit score to qualify for a mortgage is 600. So as mentioned earlier, a good place to start is to know where you stand, and get your credit score if you don’t already know it.
How Else to Prepare
To prepare for the pre-approval process you should have any required documentation ready. In addition to photo identification and your Social Insurance Number, you should also have financial documents ready as well. This can include banking and investment statements, employment verification letters, pay stubs and tax returns. If you happen to be self-employed or have additional income streams, you might require a Notice of Assessment (NOA) as well. You would also need documentation for any assets and liabilities, from a car or cottage you own to outstanding debt for loans, credit cards or similar. You will also require proof of your down payment if it comes from a source other than your savings account.
Personal information – Government issued id, SIN, previous addresses for the past 2 years
Income – Proof of income (T4 slips, paystubs, income tax returns), Copy of current bank statements, proof of other income *
Assets – proof of downpayment and ability to pay closing costs, proof of assets (car, boat, cottage, etc.), RRSP and other retirement accounts or investments
Credit & Liabilities – credit card or line of credit (LOC) debt, any leases and/or loans, bankruptcy/discharge paperwork (if applicable), info on the property of interest (if applicable)
* If self-employed, include a notice of assessment (NOA)
How to Get Pre-Approved for a Mortgage?
An application for pre-approval is a soft credit pull and does not affect your score, unless you were to follow through the process and apply for the credit. At this stage, the lender would then do a hard credit check before making a decision.
What if your mortgage pre-approval is denied?
If your mortgage pre-approval request was turned down, it is probably related to your income source, financial situation or credit score. Sometimes it can be related to your credit report due to incorrect information on file. It could also be tied to your credit score or debt-to-income ratio. Asking the lender for insight is a good place to start so you can try to improve the circumstances and your odds for approval.
What if I was pre-approved, but rejected for the actual mortgage?
There are two stages in the mortgage process, the mortgage pre-approval, and the actual application for the mortgage. If there were changes to your financial situation between the two steps, this can cause your request to be denied. Changing jobs during the process or taking on more debt could affect this. Another possibility for being rejected has to do with the lender. Since the lender will have the property professionally assessed, if they find causes for concern such as structural issues or that the property is valued less than the asking price, these can be reasons that a lender might reject your mortgage application.
How long does it take to get pre-approved for a mortgage in Canada?
On average it can take between 11 and 25 days (or more) to get approved for a mortgage in Canada. Lenders carefully evaluate each application before making a decision.
Be sure to look over the mortgage terms glossary to ensure you are familiar with the home buying terms and language.