Purchasing a house is without a doubt one of the biggest financial decisions you will ever make, and for the average person, it involves applying for a mortgage. To get the best possible mortgage you’ll need to shop around before you start applying and signing on the dotted line. One of the best things you can do for yourself is to be as realistic as possible; have a good understanding of what you can actually afford and create a realistic budget.
To help you have a better understanding of what you want and what you can afford, ask yourself the following question before you start the process and while you’re actually shopping around:
- How much have you saved for a down payment and do you want to spend it all?
- What’s your realistic price range?
- Have you considered and planned for all the extra costs associated with both buying and owning a house? For example, utility bills, property tax, and upkeep costs.
- Are you planning any serious lifestyle changes in the near or distant future? Changes that might affect your household budget like children or career changes.
Here are the 3 steps you should take to get a mortgage that’s right for you:
Step 1: Figure out What You Want and Need from Your Mortgage
The first step you should take when shopping around for a mortgage is to figure out what you need from your mortgage. There are a lot of small details to consider when it comes to choosing a mortgage that’s why it’s in your best interest to have a plan before you contact a lender. Here are all the details you need to think about when deciding on a mortgage:
- Down payment. In Canada, the minimum down payment that you need to make is 5%. The best thing you can do is to put down as much as you afford. A larger down payment means you’ll need a smaller mortgage which means you’ll pay less interest.
- Home Buyers’ Plan (HBP). This allows you to withdraw up to $25,000 from you RRSPs tax-free to put towards your down payment. (For more information on HBP click here)
- Mortgage payments. How large of a payment can you afford to make? And do you know the difference between your interest and principal?
- Mortgage type. Do you want an open or closed mortgage? Open mortgages allow you to make extra payments whenever you want, closed mortgages don’t.
- Amortization period. This is the length it will take to pay back your mortgage loan. (click here for more information about amortization)
- Mortgage term. This is the length that your mortgage term is in effect. The average borrower will have several terms before they fully pay back their mortgage.
- Interest rates. Are you going to be offered a fixed or variable interest rate? Which one better suits your financial situation?
- Payment frequency. How often do want to make a mortgage payment?
- Mortgage default insurance. This protects your lender should you be unable to make payments anymore and is required if your down payment is less than 20%. Do you need it?
- Mortgage security registration. Ask your lender whether they will register your mortgage security as a standard charge or collateral charge.
Obviously, there are a lot of details and specifics that need to be ironed out before you can purchase a house. Having a pretty good idea about what you want before you speak to any lenders will make the whole process smoother.
Step 2: Start Looking and Get Preapproved
Once you have a good understanding of all the ins and outs of a mortgage, you can start looking around for a lender that’s the right fit for your needs and wants.
Request a Copy of Your Credit Report and Score
Your credit will greatly affect your ability to be approved for the mortgage you want, make sure you request a copy of both your report and your credit score before you get too far into the process. If your score is too low to be approved you’ll want to work on improving it before you decide to purchase a home.
The Preapproval Process
Getting preapproved for a mortgage simply means that you and your potential lender will have a meeting to discuss what the maximum amount of money they can lend you is and what interest rate they can offer you. Getting preapproved will allow you to:
- Guarantee an interest rate for up to 120 days, in case interest rates rise while you’re trying to purchase your house.
- Have a good idea about how much your mortgage payments will be.
- Know what your maximum budget for a house is.
Just remember that being preapproved does not guarantee that you’ll be approved for a mortgage from the lender you’re working with. First, your potential lender will have to verify and approve the house you want to purchase if it doesn’t meet their standards they can refuse your application.
Who Can Pre-approve You?
You can be preapproved by any legitimate mortgage lender or broker, including:
- mortgage companies
- insurance companies
- trust companies
- loan companies
- credit unions, and
- caisses populaires.
All lenders work differently, have different standards and can offer different interest rates so it’s in your best interest to speak with more than one lender, this way you’ll be able to compare lenders and then get the best mortgage for your situation. It’s always a great idea to find a lender that you’re comfortable with, your financial relationship with them will be long-term.
Qualifying for a Mortgage
To get approved for a mortgage your lender will take into consideration both your income and your debts. These two numbers will allow them to decide how much they can lend you. Lenders use two financial formulas to help t determine how much they can lend.
- Gross debt service ratio. This is the percentage of your gross income (pre-deductions) that you’ll need to use to pay for all home-related costs. Generally speaking, your GDS ratio shouldn’t be higher than 32%.
- Total debt service ratio. This is the percentage of your gross income that you’ll need to use to pay for all home-related costs and all other debts you might have. Rule of thumb, your TDS shouldn’t be higher than 40%.
Step 3: Consider All Other Costs
Buying a house is expensive; it’s an investment in your life and an investment for your future. Beyond the actual price of the home and the down payment that you need to make, there are a lot of other costs that you need to consider before you decide that buying a house is something you want. Here are a few examples of some costs that you’ll encounter while going through the home buying process:
Closing costs need to be paid upfront before you move into your new home; you must have the money available to cover them all. Generally speaking, you can expect to pay anywhere from 1.5% to 4% of the price of your house in closing costs. The following are examples of some of the closing costs you might have to pay:
- Legal/ notary fees
- Land registration/ land transfer/ deed registration/ tariff or property purchase tax/ fees
- Mortgage default insurance premium
- Appraisal fee
- Home inspection fee
- Title insurance
- Property tax and utility adjustments
- Interest adjustments
- Water tests
- Septic tank tests
Other Upfront Costs
Depending on where you live, how you’re moving and when you’re moving you might have to cover some or all of these costs:
- Moving costs
- Storage costs
- Real estate costs
- Utility hook-up fees
- Furniture and or appliances
- Painting and cleaning.
There is nothing worse than getting your hopes up or falling in love with a house then not being able to afford it. There are a lot of details to consider when purchasing a house and quite a few steps to take but if there one thing that you should always remember, it’s to be realistic. Get your finances in order, speak to the appropriate people and only look at a house you can actually afford to pay for.
For a more detailed look at how to successfully shop for a mortgage take a look at the Financial Consumer Agency of Canada’s article “Buying your first home: Three steps to successful mortgage shopping“.