So a licensed mortgage broker and a real estate agent walk into a bar.
Just kidding, there’s no joke here because getting into today’s housing market is nothing to laugh at.
If you know someone, or are someone who has embarked on the journey of buying a home in Canada over the last few years, you would be familiar with just how overwhelming an experience it can be. We need a double gin & tonic – STAT.
We learn that the mitochondria is the powerhouse of the cell, but we don’t learn the first thing about how to make such an important investment! Buying a house comes with lots of questions like:
- What is the process like?
- What do I need to know to prepare my finances for this investment?
- How can I protect myself in a multiple offer situation?
Our very own Steve McKay sat down with Tom Fleming of Judy Marsales Real Estate Ltd. for a home-buying Q&A and to compare notes from their time spent in the trenches of what has been (to paraphrase Tom) a year-long wild ride in the Canadian real estate market.
Here are 8 things buyers need to know before getting into today’s housing market.
I’ve found the perfect house and there are 5 offers registered on it. My realtor advises me that to be competitive, I should consider not including conditions like financing and home inspection. What does making an “unconditional offer” mean?
Tom: It is important to remember that the document we commonly refer to as an “Offer” is in fact a legally binding contract once it is signed by all parties. By submitting an unconditional offer to a seller for consideration, you are in effect saying “Sign here and I will buy your house”. There is no recourse to get out of the deal once it is accepted and signed by the Seller. So, if your bank decides not to give you a mortgage, you lose your job, someone gets sick, the bank appraisal comes up short or any other change in your circumstances, you are still legally bound to complete the transaction as described in the accepted offer.
This is why it is crucial to have your finances in order before you start shopping and especially crucial to check with your mortgage broker before submitting an offer to make sure everyone is aware of what is happening and the potential outcomes.
I‘ve got a written pre approval from my lender, so I’m good to go, right?
Steve: Whoa, slow down there cowboy, not all pre-approvals are created equally. Broadly speaking, pre-approvals are only as good as the broker/advisor who took your application and reviewed your documents. Although pre-approval should give you a solid sense of your purchasing power, the real purpose of this application is to hold you an interest rate while you go out shopping for a home. Many of the major lenders have more or less automated this process, meaning that your pre-approval application doesn’t garner the same scrutiny as the actual mortgage application when you finally buy a home. So, if your broker/advisor has not done their diligence in confirming the basics of your application such as income, access to downpayment, etc, it is possible your pre-approval will not be honoured when the time comes to get a mortgage.
Now let’s say your broker/advisor did an excellent job verifying your pre-approval application, there is still a major wildcard when the time comes to get a mortgage: The house itself. You might be the perfect borrower but if the house you want to buy is about to fall down, surrounded by petrochemical factories or otherwise not confirming to the lender’s marketability standards they will not approve your mortgage.
With all of that said, regardless of the strength of your pre-approval, it’s never a bad idea to give your broker/advisor a heads up BEFORE you submit your offer.
What is a “bank appraisal” and how can it impact my financial future?
Steve: Occasionally the lender will ask to verify the value or condition of the home you purchased by requesting a full appraisal. This is not uncommon when values are escalating rapidly (as they are now) or if the home you bought is notably more expensive than recent sales in the area.
If you have signed a purchase offer with no condition of finance, and you have a minimum 5% down payment, an appraisal can be very risky indeed.
For example: if you sign a firm purchase agreement agreeing to pay 500K and the home appraises for 480K, the lender will still happily fund your mortgage but they will base all their numbers on the appraised value of the home. 5% of 480K is 24K, but you signed a binding offer to pay 500K so you now have to source another 20K on top of the 24K required as a minimum down payment in order to close on the purchase.
As you can imagine this can be catastrophic for buyers who have very limited savings. It’s less of an issue for buyers with significant down payments, but it still doesn’t feel great to know you may have overpaid for you home.
The New Stress Test Rules
I’ve heard of new rules around the bank’s “stress test”. What are these and how can this change impact my buying power?
Steve: Most people shopping for homes are familiar with the terms ’stress test’ by now. Simply put; the stress test is a using an interest rate of at least 2% higher than the actual rate you will be receiving to qualify your mortgage. These days, with rates as low as they are we are using a standard rate for this which we call MQR (mortgage qualifying rate). As of this writing the MQR is sitting at 4.79% but is slated to increase to 5.25% on June 1st.
Without getting too technical the MQR rate reins in your purchasing power by artificially increasing your debt servicing ratios. When calculating your monthly mortgage payments, we are not using the actual rate you will be receiving, we are using the MQR rate. For example, a monthly payment on a mortgage of 500K at an interest rates of 2.09% is $2,139.03. This is your actual monthly payment.
Using current the MQR rate (4.79) the payment balloons to $2,848.54. This increases the liabilities on your application and can reduce your maximum borrowing amount. Using the same example, the new MQR of 5.25% will increase the payment to $2,979.59 which further reduces your maximum mortgage amount.
For The Self-Employed
I’m self-employed. Are there things I can do to make myself a more attractive applicant to a lender?
- Hire an accountant to do your taxes – lenders are more comfortable reviewing tax returns which have been completed by a licensed 3rd party as from their perspective it reduces the potential for creative bookkeeping.
- Pay your taxes! Most lenders will insist your income tax be paid as a condition of your mortgage. From a lender’s perspective on risk, the government will always be first in line to get paid if you ever start defaulting on your debts. The last thing you want is to fall behind on your taxes, put an offer in on your dream home and discover you need to clear up a big tax bill before you can get a mortgage.
- Keep meticulous records. A lot of my clients are surprised by how much information lenders will ask for to verify your self-employment income. They can ask for everything from obvious documents like your T1 General tax returns to individual business bank statements and invoices. Having everything at your fingertips will make it easy to satisfy the lender conditions and preserve your sanity as you work through the process.
Skipping The Inspection
I’m nervous about buying a house without doing an inspection. When there is a set offer date, what are my options?
Tom: You have every reason to be nervous! Many people walk through a property and in 20 – 30 minutes and make a decision that will have huge financial implications without really understanding what it is they are getting into. The objective opinion of a qualified, experienced home inspector can save you tens of thousands of dollars in unanticipated expenses as well as the worry and stress of discovering problems after the sale closes.
There are literally dozens of issues that can go unidentified if you decide to purchase without a home inspection, like:
- Attic: Is there mould present? Is there vermiculite insulation and if so does it contain asbestos?
- Roof: approximately how old is the roof and what is the remaining life expectancy? How many layers of shingles?
- Wiring: what condition is the wiring in and does it require substantial updating?
- Basement: any signs of moisture? Structural issues?
- Furnace and CAC: age? Remaining service life?
Any one of these items can be very costly to address and, in some cases, can impact the insurability of the property. Under ideal circumstances a buyer will make an offer conditional on completing a home inspection, however in the current market, this is not always possible.
Many inspectors do offer a shorter “pre-offer” inspection which will address the major big-ticket items, like those mentioned above. Still not as good as a full-on inspection but at least this buys you some degree of peace of mind. It can also signal to the seller that you are serious about completing the purchase. Beware of relying on information provided by the seller, the seller’s agent or by an inspector who has been paid by the seller. It’s always best to obtain your own independent, expert opinion.
Importance Of Deposits
What is a deposit and why is it important?
Tom: A deposit is a sum of money the buyer pays to the seller when a deal is reached. The deposit is typically held in trust by the listing brokerage and is used toward the purchase price on closing the transaction.
It is a show of good faith on the part of the buyer and provides the seller with some assurance that the buyer is serious about completing the transaction. In the current market environment, sometimes deposits are being used to make an offer more attractive to a seller.
Typically, deposits are in the range of 5% (or less) of the offered price and the practice has generally been to provide the deposit within 24 hours of acceptance. As things have become more competitive in the market place, buyers are sometimes providing certified cheques for larger sums with their offer. In the case of an email offer presentation, the buyer’s agent may submit a photograph of the bank draft when the offer is submitted. This practice can in fact make a positive difference in outcome as it demonstrates to the seller that the buyer is serious about the purchase and has the financial wherewithal to complete the transaction.
Including A Cover Letter
I’ve heard of people including a cover letter with their offer. Is this really a thing? Can it help?
Tom: Short answer: yes! A well-written, genuine sounding cover letter giving the seller a sense of who you are as a buyer can make a significant difference in some cases. Often, it comes down to price, but when two or more offers are very similar, the seller may be swayed by any additional information the buyer provides, particularly since offer presentations are now almost exclusively conducted by email and phone. There is now very little opportunity for the buyer’s agent to give the seller a sense of who they are dealing with. A friendly note with photos can be helpful!
Bottom line, ask questions. Find a realtor and a mortgage professional (and ideally a real estate lawyer) whom you are comfortable enough with to ask questions. It’s your investment and the more financially prepared you are, the more successful you will be in the market.
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