Have you ever been approved for a mortgage? More importantly, have you ever been declined? Do you know why you were approved or declined? Or maybe you are brand new to the whole mortgage process… regardless, happy to have you here!
This is the introduction post to a short series that explores a lender’s decision making process that ultimately leads to your mortgage being approved or declined.
Borrowing money for a mortgage in Canada is becoming increasingly difficult. Over the last 5 years, the government has tightened up lending guidelines 4 times and lenders seem to be looking at every mortgage application with a magnifying glass.
Every lender has their own level of risk tolerance when assessing a mortgage application, however, there are four main areas common to every lender for their assessment. I will outline them for you now, and then follow up with an in depth look at each section over the next few weeks.
Firstly, you’re looking to borrow money, so are you able to pay it back? The lender wants to be assured that you have the ability to repay the money they lend you with interest. So they will ask for documents to support your income, and if they aren’t satisfied with what they get, they will ask for more.
Lenders look at the following:
Employment type – are you employed full time, part time, working seasonally, or collecting a pension?
Employment status – are you a permanent employee, have you passed your probationary period, are you on maternity leave, or are you working term contracts?
Tenure – how long have you been employed in your current position, and how long have you been working in that industry?
Income type – are you self-employed, or do you have a guaranteed income, are you using bonus or overtime income, if so, how long have you been making that income?
And the list goes on and on. Obviously the more stable your job is, the longer you have been there and the more qualified you are to do your job, the better. How the lender assesses your income is probably the biggest factor in determining if they will lend you money.
Once the lender believes you have the ability to repay the loan, they will have a look at your track record of repaying previous loans.
In Canada there are 2 main credit reporting agencies, Equifax and Transunion. Typically Transunion is used by consumers to monitor their credit scores personally to protect against identity theft, while Equifax is used by lenders to determine credit worthiness.
Every time you have borrowed money from a financial institution, a history of that loan has been recorded on your permanent credit report. Your credit report is updated regularly as you either make or fail to make payments on your outstanding debts. All of the information including payment history, amount owed, length of credit history, types of credit and new credit is assessed and a credit score is generated.
Lenders look at both your credit score and the history on your credit report when deciding if you are a good risk to give a mortgage.
Okay, so the lender is satisfied with your income verification and you have a demonstrated history of solid loan repayment through your credit score… now, how much skin do you have in the game?
In order to lend you money for a mortgage, the lender is going to want to see that you have some money saved up for a downpayment. In Canada, the minimum downpayment you are required to come up with is 5%, meaning that the most a lender will offer you on a mortgage is 95% of the total purchase price.
Obviously the more money you apply as a downpayment, the stronger your mortgage application will be. At 20% downpayment, you are able to avoid paying mortgage insurance premiums and take out what is called a 'conventional mortgage'.
In addition to your downpayment, you will also have to prove that you can afford to cover the legal costs in closing your mortgage, you know…paying your lawyer, paying for the registration at land titles, and lots of other small things. Typically this amounts to 1.5% of purchase price, but it can be higher depending on what province you live in.
This is the wildcard of the bunch. Even if you are the best applicant in the world, you’ve been at your incredible job for 26 years, you have an impeccable credit history, and an enormous downpayment… if the property you are trying to purchase is garbage, you’re not getting a mortgage. Period.
The property is the collateral the lender holds in case you default on your mortgage. Lenders only lend on solid properties.
This means the lender will make every effort to ensure the property they are lending on is without defect. They only lend on properties they consider “prime and marketable”. The best way to look at it is, if you default on your mortgage, and the lender has to repossess the property, how easy would it be for them to sell it and get their money back? Abnormalities make properties less marketable.
So if you are looking on MLS and you find a 600 sq ft, mouldy non-remediated grow op, “handyman special” that has been sitting on the market for 2 years with a basement that is crumbling in on itself (without an engineer’s report), chances are you should just keep looking, no one is going to lend you money on this.
As plainly as I can put it, the biggest problem you will face in applying for a mortgage is the disconnect between your belief that you are credit-income-asset-worthy to borrow money, in your own mind minimizing your flaws, compared to the lender’s scrutiny of your income-credit-asset worthiness, seemingly making a huge deal out of insignificant issues.
Now, let me do a quick plug for working with a mortgage broker. When you go into the bank, the banker has the bank’s best interest in mind, they work for the bank, paid by the bank, to limit the risk to the bank while making money for the bank. In no way do they work or represent you.
On the other hand, when you work with me, I work for you, with your best interest in mind. I present your application to a lender or several lenders in a way that highlights your strengths and explains any shortcomings. I use my knowledge, experience and relationships to advocate on your behalf making sure to put forward a clear and concise mortgage application ensuring the best chance for an approval. As an added bonus, my services are free to you.
Anyway, over the next few weeks I will be digging in a little deeper on each of these points and sharing more about how a lender looks at your mortgage application. Stay tuned!
It's me again! I will be posting articles with more in depth information regarding specific mortgage scenarios. I do my best writing when my kids are asleep...