Buying a home is a huge undertaking, especially if you’re a first-time homebuyer. There are first-time homebuyer programs in Canada that can help you save money when buying a home, but the government can’t help with the time you have to spend to get a mortgage.
What can help you save time is getting a mortgage pre-approval. You’ll know what your mortgage terms before you start house shopping, so you’ll know your home affordability, and you won’t have to scramble to get a mortgage on short notice. Here’s everything you need to know about mortgage pre-approval.
Pre-approval is a free, no-obligation process where a lender tells you what your interest rate will probably be and give you your home affordability. A pre-approval is not a guarantee of a certain rate or mortgage amount, but so long as your financial profile doesn’t drastically change, it will be fairly close to accurate.
A pre-approval is like a green light for home shopping. You get a better idea of how much you can afford as you’ve been examined by a professional, so you can effectively narrow down your search to homes in your price range. Realtors and sellers know that you’re serious about buying because you’ve been to a lender. You know what your budget will look like because you’ll have been given a report with your monthly mortgage payments and interest rate. It’s a win-win for everyone!
You can get pre-approved any number of times if you really wanted to. You’re not obligated to get a mortgage with the institution that pre-approved you.
When getting a pre-approval, you can lock in your rate with that lender for up to a maximum of 120 days, depending on the lender. Some will only let you lock in a pre-approval for 60 or 90 days.
During this “locked-in” period, it doesn’t matter if interest rates go up if you’re getting a fixed-rate mortgage. The lender will honour the pre-approval rate until it expires, which can be up to 120 days later.
If you get a variable rate instead of a fixed rate, your rate will increase when interest rates go up. However, variable rates are always calculated as
(Prime Rate) – (Discount) = Your Rate
For example, at the time of writing, prime rate is 3.95%. If you got the best 5-year variable mortgage rate of 2.90%, your discount would be 1.05%.
3.95% - 1.05% = 2.90%
Your discount remains the same, even if prime rate goes up. If prime went up to 4.20%, your new rate would be
4.20% - 1.05% = 3.15%
Sometimes you may run into the opposite problem – rates go down after you get pre-approved for a mortgage.
In that case, you don’t have anything to worry about. Pre-approvals are no-obligation, so if rates go down you can either re-negotiate with your lender or shop for mortgage rates online to see where you can find a better deal.
Getting pre-approved is easy. Simply speak to a mortgage broker to discuss your options.
Your mortgage broker can give you advice on what you can qualify for without any documents, but in order to actually get pre-approved you’ll have to provide evidence of your financial situation.
That includes documents like:
· Proof of employment
o Job letters from your employer verifying your employment and salary are best
· Proof of assets
o Recent bank account statements
o Investment statements
o RRSP and TFSA statements
o Car ownership documents
· Proof of liabilities
o Loan statements
o Line of credit statements
o Credit card statements (only for cards you’re carrying a balance on)
In most cases, a screenshot taken from your online banking won’t be sufficient to prove your financial situation. Be sure to have copies of the actual documents.
Once you have all those documents, your broker can start going to different lenders and getting the best rates. In order to do this, they need your permission to run your credit score to verify your credit history and any liabilities.
While it can be tempting to downplay (or outright lie about) how much debt you’re in, it’s not a good idea. A credit check will reveal all your debts anyway, so they’ll find out about your lie pretty quickly. Misrepresenting your financial situation only delays your pre-approval. Even if you have significant debt, it could still be possible to be approved for a mortgage – but your broker will need to know all the details first.
After shopping around, your broker will come back to you and give you the best combination of interest rate and features for your specific mortgage needs. Remember, the lowest rate isn’t always the best rate if it doesn’t have features that can save you money in the long run.
Despite the value of getting a pre-approval, they’re not a guarantee that you’ll get approved for a mortgage. While lenders will almost always honour a pre-approval, there are certain circumstances in which you may not get approved, such as:
· Your financial situation changes drastically
o Declaring bankruptcy or entering a consumer proposal
o Divorce or loss of a co-applicant
o Losing your job
o Taking on a large loan before getting the mortgage
· The property has a serious problem
o Catastrophic damage to the land or structure
o It’s revealed the building lacks proper permits
· Problem with the appraisal
o If the property appraisal shows that the value is far below the purchase price, the lender may back out of the deal
Because of the small chance of getting denied after getting pre-approved, it’s important to make your offer on a home conditional on financing. You don’t want to lose your deposit!
The most important thing to take away from this article is that pre-approval is not a guarantee of funding. If anything changes in your financial situation, it’s possible that you will be pushed out of the qualifying range.
Things that might affect your qualification outside of a job loss or divorce include:
Applying for additional loans, even if you don’t get approved
Applying for lines of credit, credit cards, or any type of revolving credit, even if you don’t use it
Several times I’ve seen this situation play out: a borrower gets pre-approved for a mortgage then goes out and buys an expensive luxury car in celebration (without telling their broker). Closer to the closing date, their credit is pulled by the lender who then rejects their mortgage because now they’re several thousand dollars more in debt than earlier.
If they didn’t put in a condition for financing in their offer, they could lose their deposit. Now they may only qualify at a higher interest rate, or not qualify at all – all because they couldn’t wait a couple weeks to buy a car.
But even if you don’t buy a car, just the act of applying for a loan can set your pre-approval back. Every time you apply for a loan, the lender will perform a hard check on your credit. Hard checks lower your score a little bit for a couple months. Normally, the effect of a hard check is minor.
However, they can stack up. Several hard checks in a short period of time will lower your score by a lot more than a single one. And while the effects are temporary, your closing is probably imminent. Your score may not have time to recover before it’s time for the mortgage to start.
On the other hand, if you do get approved, then you could have a different problem. Loans immediately add to your total debt service ratio (TDS). Your TDS needs to be below 44% in order to get approved for a mortgage. Taking on a loan that puts you over that 44% threshold can result in your mortgage getting denied.
Lines of credit and credit cards don’t add to your credit utilization ratio, but the extra credit could make lenders antsy. The more credit you have, the bigger whole you can dig yourself into. Lenders might worry that you have the ability to take on too much debt to afford, even if you have no plans to actually use that line of credit except in emergencies.
This isn’t always in your control, but you should avoid doing anything that would jeopardize your employment situation. Layoffs may be inevitable, but quitting your job isn’t. Postpone any major changes until after you’ve received your full approval.
The problem with changing jobs while you’re pre-approved is that lenders like to see stability. Large incomes are nice, too, but if you’ve only been at a company for two weeks the lender will be concerned that you could still be let go within your probationary period.
Even positive changes, like internal promotions, could affect your qualification. Things you may not consider as problems, like increased commuting distance, may also change whether or not you qualify. It’s best to not make any changes unless they’re completely necessary, or out of your control. You have 25 years after getting a mortgage to make career changes.
Whether you're a seasoned veteran or a first-time homebuyer, the process to get mortgage preapproval is a non-negotiable part of a successful home transaction. With a pre-approved rate and dollar value in your back pocket, you can proceed with confidence on the road to the home of your dreams. Start your home shopping by shopping for the best mortgage rates in Canada today!