It can be tough for many Canadians to get approved for a mortgage to finance a home purchase given the stringent criteria required. But even though many borrowers may not meet these requirements, there may be other avenues to explore to get the mortgage needed to buy a home.
Subprime mortgages are available to low credit borrowers with a financial profile that may not be acceptable for standard mortgages. But what exactly is a subprime mortgage, and is it something you may want to consider if you’re unable to get approved for a regular mortgage?
A subprime mortgage is a home loan that is typically issued to borrowers with bad credit scores and poor financial health. The reason why these mortgages are called “subprime” is because the financial profile of borrowers who apply for these home loan products is less than ideal for lenders.
As such, these types of borrowers put lenders at a higher risk for not recouping their investment. To make up for this added risk, lenders typically charge a much higher interest rate and offer less favourable terms on subprime mortgages compared to conventional home loans.
Subprime mortgages are easier to qualify for compared to regular mortgages, which is why people with lower credit scores usually go this route.
Subprime mortgages are issued by mortgage providers known as “B Lenders” who specialize in home loan products geared towards borrowers with lower credit scores or who may be unable to secure a regular mortgage from “A Lenders,” such as traditional banks and credit unions.
Mortgages issued by B Lenders have higher interest rates and less favourable terms compared to mortgages provided by A Lenders because, as mentioned, borrowers with subprime mortgages are more likely to default. The higher rates charged by B Lenders who issue subprime mortgages compensates them for this added risk.
In Canada, subprime mortgages are relatively easy to get. Working with a mortgage broker is an ideal way to get connected to a B Lender to acquire a subprime mortgage to help finance a home purchase. Brokers work with a wide network of lenders, many of which work specifically with subprime borrowers.
There are many reasons why some borrowers take out subprime mortgages:
Subprime mortgages are easier to get approved for. There’s no need to have a good credit score or prove that you have a strong financial profile. Instead, subprime mortgages are created specifically for those who do not possess the qualities that are needed to secure a regular mortgage from an A Lender.
If you cannot get approved for a regular mortgage, you won’t be able to buy a home through a financed deal. But subprime mortgages make it easier for low-credit borrowers to have a chance to buy a home that otherwise wouldn’t have been possible.
One of the best ways to build a good credit profile is to make timely payments on a loan or credit product. But it can be difficult to get a loan at all without a good financial profile. Subprime mortgages offer an opportunity to access a loan product and use it responsibly to build credit. With a subprime mortgage, you can more easily obtain a loan and work towards building good credit by making sure you make your monthly mortgage payments on time.
There are a few factors that influence your credit score, and credit mix is one of them. By adding a subprime mortgage to your portfolio, you can effectively mix different credit products on your profile to help give your credit rating a boost.
Subprime mortgages may help low-credit borrowers secure a loan to help them buy a home without the need for stringent qualifications that would be required for regular mortgage approval. But there are some risks that should be considered:
Borrowers with lower credit scores may be able to secure a mortgage, but the interest rates that come with subprime mortgages are higher compared to regular mortgages. Even a 1% difference in interest rates can add thousands of dollars to the loan over its lifetime, which means higher monthly payments.
All mortgages come with closing costs, but those affiliated with subprime mortgages tend to be higher compared to regular mortgages. That means the loan will cost more over the life of the mortgage. B Lenders try to get borrowers to pay as much money upfront as possible to balance the increased risk of default.
Applying for a subprime mortgage is not unlike applying for a regular mortgage. The first thing you’ll want to do is find a lender to work with. Your best bet is to use a mortgage broker or an online aggregator to find and compare lenders and get quotes on mortgages. Before settling on a lender, be sure to look into their background and credentials to ensure they are legitimate.
Once you choose a lender, they’ll want to see documentation regarding your finances before making a decision on the loan amount you can get approved for, the terms associated with your mortgage, and the interest rate charged.
You’ll need to provide information that may include any of the following:
The documents requested by your lender will have to be submitted along with your mortgage application. The lender will use all the information you’ve provided to assess your debt-to-income ratio, loan-to-value ratio, and the property itself. Depending on your exact situation, you may need to provide additional documents before the lender makes a final decision.
The subprime mortgage industry may have a few bad apples in the bushel. That’s why it’s important to vet the lender you plan to work with to ensure that they are not predatory in any way and are financially capable of providing you with the loan amount you require.
You also don’t want to work with a lender who will approve you for a loan that you are financially incapable of paying. Taking out a loan that is way over your head will only make your financial situation worse. The last thing you want to do is over-leverage yourself, which can put you at risk of defaulting on the mortgage and put you on the path to foreclosure and financial ruin.
Be sure to choose a reputable subprime lender who provides you with a valuable service. Since subprime mortgages aren’t regulated by the federal government the way standard mortgages are, it’s up to you to do your due diligence. This may include checking reviews, investigating their customer support, and looking into their credentials.
You’ll also want to compare quotes from different lenders to see where the best deal is. Look at things such as interest rates, fees, and terms when comparing mortgage products and lenders.
If your credit score and financial health are not as healthy as they can be, you may find some success getting approved for a mortgage through a subprime lender. Just be sure to understand the risks that may come with the higher interest rate and less favourable terms that come with these mortgages, and always vet the lender before you sign on the dotted line.
Lisa has been working as a personal finance writer for more than a decade, creating unique content that helps to educate Canadian consumers in the realms of real estate, mortgages, investing and financial health. For years, she held her real estate license in Toronto, Ontario before giving it up to pursue writing within this realm and related niches. Lisa is very serious about smart money management and helping others do the same.
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