How to get pre-approved for a mortgage?
Before you begin your real estate search, it is a good idea to get pre-approved for a mortgage. This is the first step in the buying process and will certainly save you from wasting your time in an aimless search.
This pre-approval consists of identifying the banks that would be willing to support you in your purchase project, as well as the mortgage amount they could grant you. This is the best way to know the maximum amount you could invest in your future home.
Need to know how to get pre-approved for a mortgage? Read our article.
What is a mortgage pre-approval for?
Getting pre-approved for a mortgage is the best way to start your home buying project. Many real estate agents require this document before they will show you a property On the other hand, this pre-approval will certainly help you stand out to the seller, in the event several buyers are interested in the same house. In other words, the mortgage pre-approval is a guarantee of seriousness in the real estate business.
This document also represents a security with regard to your mortgage rate, since it allows you to lock in your rate for a given period of time (generally 30 to 120 days). Rest assured, nothing obliges you to take out the loan after having frozen your mortgage rate. Likewise, if your rate drops, you will be able to lower it as well.
Getting pre-approved for a mortgage in 5 steps
1. Deciding how to get pre-approved for a mortgage
Since a mortgage pre-approval is the first step towards making your real estate project a reality, you should not ignore the fact that there are two ways to get pre-approved. The first is to do some mortgage rate shopping with financial institutions and to file an application with each of the banks.
This is a risky option for your credit report, as Canadian law requires banks to report every rejection. If all the banks you approach agree to sign this pre-authorization, there will be no impact. However, if you receive one or more rejections, this will inevitably taint your credit report.
However, this problem will not arise if you use a mortgage broker to research rates from financial institutions, since your broker will only give them your banking information, never your identity. This means that there will be no impact on your credit file, even if you are refused.
Since your mortgage broker is fully aware of the selection criteria of each bank, his role is also to encourage or dissuade you from submitting your application to a given institution. It is therefore important not to waste any time in obtaining your mortgage loan at the best rate and in the shortest possible time.
2. Mortgage Pre-Approval: Completing the Application Form
The second step is to fill out the mortgage pre-approval application. You will have the choice of filling it out with your broker or directly with a financial institution. To do so, you will need to provide several documents proving:
- Your identity;
- Your credit rating:: which ranges from 300 to 900 and allows lenders to measure the risk of lending you money;
- Your financial standing:: employment status, financial status, debts, etc.;
- Your down payment: this is the amount of money you will be able to pay when you get a mortgage. The larger the down payment, the more money you save in interest.. In Canada, the down payment must be at least 5% of the house purchase price. Therefore, if you plan to buy a $400,000 property, you will have to put down a minimum of $20,000. However, a down payment of 20% will be required to avoid paying insurance, or $80,000 for this same project.
3. Calculating your debt ratio
Calculating your debt ratio is a crucial step in obtaining a mortgage loan. It involves knowing your ability to repay depending on your :
- Gross monthly income before taxes and deductions;
- Monthly rent or mortgage payment including heating, electricity, home insurance, condo fees and all related taxes;
- The monthly payment for a car loan or lease;
- Any other monthly expense related to any other form of financing (student loan, credit for furniture or appliances, child support, etc.).
Note that non-debt generating expenses such as food, telephone plans, or transportation will not be taken into account in the calculation of your debt ratio. However, it is strongly recommended to take them into consideration in order to know all the expenses related to your budget.
Your broker is the right person to detail all the expenses you will have to cover before and after signing the deed of sale (building inspection fees, notary fees, Your broker is the right person to detail all the expenses you will have to cover before and after signing the deed of sale (building inspection fees, notary fees, property transfer duties, etc.).
As for calculating your debt ratio, let's take the example of a couple whose gross monthly income is $4000, with $800 in rent, $200 in monthly car rental and $200 in student loan repayments per month. The debt ratio will be around 30% which is a pretty good ratio. This percentage also known as the total debt service ratio (TDS) must not be higher than 40% or your real estate purchase project will be compromised.
4. Confirming your borrowing capacity and submitting the application
This involves a global calculation of your financial situation (salary, rent, credit rating, debts, down payment, etc.) which will determine the amount of your mortgage loan. Depending on the results obtained, your broker will be able to direct you to the banks where your file will have the best chance of being retained.
5. Getting pre-approved for a mortgage ... or not
Next comes the long-awaited moment when you will finally know which banks would be willing to give you a mortgage, and how much they might lend you. Keep in mind that each lender sets its own guidelines and policy for mortgages. Thus, nothing would compel a bank to lend you money.
It may happen that your mortgage pre-approval is denied because of a bad credit history, a bad debt ratio, or something else. In this case, your broker will be able to direct you to other available options.
For example, you may decide to reduce the amount you had planned for the purchase of your home, prepare a larger down payment, ask for the commitment of a co-signer, or direct you to other lenders who could eventually accept your credit file, but with a higher mortgage rate given the risks involved.
Be careful: the acceptance of a pre-approval does not necessarily mean that your file is definitely accepted. In fact, various factors could cancel a favourable mortgage pre-approval, such as the loss of a job, a divorce, or bad investments.
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