6 Mar

Why advertised rates are baloney


Posted by: Aneta Zimnicki

A while back, mortgage rates were simpler. They could be summarized in one simple table. Then regulations changed. And they changed again, and again….Now you need to be a detective to figure out what applies to your specific situation. That is why advertised rates are baloney. Because they don’t tell you the whole story.

The biggest regulatory change is the mortgage insurers’ criteria. The key changes in insurer criteria are: purchases only, no refinances (huge impact to consumers and their debt load forcing them into more expensive debt), maximum 25 year amortization, maximum $1M purchase price, must qualify at the benchmark rate (currently 5.34%), no single unit rentals (only duplex to fourplex, a huge impact to investors).

In response to this, the financing industry spun out a beast of mortgage product and rate categories. Here is a rundown of how a typical lender classifies rates.

Insured: Means borrower pays the mortgage insurance. For the most part, it implies a ‘high ratio’ mortgage, where the down payment is less than 20%. In this case, the property has to be owner-occupied or if multiple units (duplex to fourplex), at least one unit must be owner-occupied. Other permitted properties are full rental duplex to fourplex (minimum 20% downpayment) and second homes (owner-occupied). It must meet the insurer criteria (noted above), and refinances are not eligible in this category.

Because the borrower is paying mortgage insurance, it helps mitigate the risk to lender, so they are able to offer the best rates compared to the other categories. In a perverse way, it can look like borrowers with a lower down payment are rewarded with a better rate. But not necessarily, you have to look deeper into the math.

This rate category is most likely the one being advertised, but this is very misleading because it excludes a large portion of consumers.

Insurable: Means the lender ‘bulk insures’ their portfolio, to help mitigate risk, but lender pays the mortgage insurance instead of the borrower. The application must meet the insurer criteria, as note above. Since the lender pays for the insurance, the rate is slightly higher than the ‘insured’ category. Here you may see further rate stratification based on ‘loan to value’ (LTV) range from less than 65%LTV to 80%LTV, or, credit score (but has to meet minimum insurer credit guidelines). Applicants are qualified at the greater of the contract rate plus 2% or the benchmark rate (the dreaded ‘stress test’).

Uninsurable: Means does not meet insurer criteria. In general, this is refinances, purchases over $1M, single unit rentals, amortization over 25 years. The overwhelming majority of lenders qualify at the greater of the contract rate plus 2% or the benchmark rate (again the huge impact of the ‘stress test’ is seen here). Many lenders will use 30 year amortization to qualify. In this category, the lender can choose to be more flexible with qualifying and varied with their product offerings, although some do not stray far from creativity and innovation.

One of the biggest segments in this category is refinance, and typically has its own rate, which is higher than the ‘insured’ or ‘insurable’ group. Beyond that, a rate premium model is applied, for an array of situations. A rate bump is added to the base uninsurable rate, or some lenders choose to add a lender fee to the file instead.

This isn’t necessarily a bad thing, because now a more common sense, case by case type of underwriting is used, and gets you to a yes versus a flat-out decline. Lenders price out the risk accordingly, and you are paying only for the specific added risk you present to the lender. Premiums can be applied for situations like rental property, second home, self employed, amortization above 25 years, debt ratios, credit issues, loan amount, size of rental portfolio, rental income calculations. The rate bump can be small, starting at 0.05%, but it depends on the situation. If the situation is more complex, then the application may fall into B lender territory, which has slightly higher rates (but not unreasonable, considering the risk and flexible underwriting approach).

Beyond that, there are other subset categories and industry terms thrown at you.

Non-B20 compliant: Generally means not subject to the ‘stress test’, so qualifying at contract rate without the +2%. This field is narrowed down to non-federally regulated lenders, essentially credit unions. The rate is higher, but it can be the difference between being able to qualify or not. The rate falls in between B lenders and the 3 categories noted above.

‘No frills’: Lenders use various names for this slightly lower rate product (like ‘low rate’, ‘basic’). It may be a modest rate decrease, but it comes with restrictions like stricter penalty costs, fees or exit limitations. Sometimes this is what you see advertised as a special, and unsuspecting borrowers sign up without fully understanding the restrictions. In my opinion, often not worth putting yourself in such a mortgage prison.

Quick close: Specials from time to time, typically for 30 or 45 day closing. This is for ‘new business’, so not applicable to applications already submitted, approved or waiting for closing. You have to understand that lenders’ costs increase the longer the time horizon due to market uncertainty, in return you get the certainty of an approval and rate hold.

Conventional or low ratio: Potentially redundant term used with categories mentioned above. Usually means more than 20% down payment.

Switch or transfer: Moving your mortgage from one lender to another, without any changes to structure, such as no new funds out, no change in amortization. However, you and the property still have to qualify. Rate depends on the situation, as now what used to be ‘insurable’ may possibly not be. A skilled mortgage broker ninja may be able to get you ‘grandfathered’ into a better rate category.

Equity take out: When you need to take funds out of your mortgage. Because you are restructuring the mortgage, this is considered a refinance.

In summary, rates are clear as mud, right? The plethora of regulatory changes means having a broker in your corner is more important than ever. Spare yourself the trouble and leave the rate and mortgage solution deciphering up to the pro.

5 Dec

What you need to know about self-employed income


Posted by: Aneta Zimnicki

Statistics Canada shows approximately 15% of the labour force is self-employed. This will continue to rise with our changing economy. Lenders are definitely paying attention and many are moving towards filling this niche. Recently CMHC (Canadian Mortgage and Housing Corporation) announced more support for the self-employed, but we still need more time to see how this will be implemented by lenders.

Self employment can come in various structures, like sole proprietorship, limited partnership, commissions, incorporated. Verification of self-employed income is a bit more complex than salaried or hourly income. In general, the easier it is to verify the income, the better the rate category. Each additional interpretation of income raises the risk for the lender, and is more work to review, hence the possible bump in rate.

General list of self-employed income verification, shown in order of complexity

1.  For sole proprietors and limited partnerships, using the lesser of the prior year or 2 year average of net self-employed income reported on taxes.

2.  Using the above, but applying ‘gross up‘ (typically 15%, but could vary) or an ‘add back‘ of eligible deductions.

3.  For corporation, reviewing past 2 years audited financial statements and using what is reported on your personal income taxes, for example dividends or T4 income. But it has to make sense, you can’t pay yourself more than you make. Or may use ‘add back’ of eligible deductions shown on the financial statements.

4.  Lenders like to see consistent or increasing income, any significant drop in most recent year may need an explanation. Not necessarily a deal breaker, but you need to tell your story.

5.  Supplementary documentation to show proof of business tenure, like articles of incorporation, business license, HST registration. Ideally, as noted above, minimum 2 to 3 years existence.

6.  The income verification may resort to reviewing typically 3, 6 or 12 months worth of business bank statements. This is done, for example, when there is a cash component to the business, you need to rely on your most recent income rather than a 2 year average, or you have been in business less than 2 years. This review is case by case, and a common sense approach is used. What income is accepted and what expenses are deducted is discretionary to the lender, but in general, it is a more forgiving approach.

7.  Lenders apply a ‘reasonability test’ on the income you submit with your application. They compare to what is typically expected from your industry.

8.  In lieu of submitting tax returns, a lender, in addition, can ask for a ‘self-declared income form’ to be signed. This also may include a declaration that you have filed taxes up to date and do not owe any income taxes or taxes greater than a specified amount (like $2000, but this varies).

No income verification means lenders are relying on the property equity alone. This is private lending territory.


Mortgage planning tips for self-employed borrowers

Do your taxes, submit on time and pay your taxes.

Have at least a 2 year history, if you can.

Have good records: financial statements, bank statements, tax returns, business licenses, articles of incorporation.

Lenders like consistency and stability. Varying income, especially decreasing, needs an explanation.

Decide what is more important, tax benefits of self-employment or recording higher income on tax return for the purpose of fitting into a more conventional mortgage product. Remember also that mortgage rules are always changing.

Building up your documented income from new self-employment takes some years and planning, that is why a conversation with a mortgage broker should be started early in the process, so you know how to best execute you plan. Consultation with your accountant and lawyer should also be done at this time.

11 Jul

Ways to derail your financing before closing


Posted by: Aneta Zimnicki

There is a common myth that once you completed all your mortgage paperwork and you’ve been approved by a lender it’s all done. Yes, a lot of the hard work within the mortgage approval process has been done, but remember, the process is still in play until the closing date, and there still are risks which can impact your financing.

In a nutshell, a lender approves you based on a snapshot of your financial situation, including your income, credit, assets and liabilities. With your application at the time of submission you are saying to the lender that you promise this does not change before closing. The lender does have a prerogative to re-check the situation prior to closing. Common example include closer to closing pulling credit again, verifying employment or requesting updated documents. This in particular can occur if the closing is much farther out from the time you submit the application.

Here’s a short list of changes that could potentially impact your financing prior to closing. All this can be avoided with a proper conversation with a mortgage broker. It’s best to be upfront so there are no surprises to your financing situation and a proper plan can be formulated.

Don’t have your credit pulled by another broker or lender. The lender will often pull your credit again right before financing. If the lender sees that other brokers or lenders have pulled your credit the lender views this a credit seeking and can put your funding in jeopardy.

Don’t apply for new credit. This includes getting a new furniture store credit card (‘no payments until x years’). The lender calculates your debt based on the amount of credit you have. If you are applying for new credit, the obvious assumption is that you are planning on using it. Don’t get any new credit until the closing date is passed.

Don’t increase your debts. This includes financing or leasing a car. The lender always looks at your debt to income ratio. If you increase your debt, you can risk going over the maximum amount of debt compared to your income. Car payments can be particularly impactful to debt ratios.

For investors, don’t purchase another property in the meantime. This means having a signed back offer, even if this other property closes after the subject property. The lender has underwritten your application with the understanding of your current entire rental portfolio and your particular debt ratios. Now you are adding one more, which is a material change.

Don’t close any old credit accounts. Credit is not a bad thing…. unless you are having a hard time managing it. Old credit shows a long history of being able to handle credit. Lenders like that.

Don’t change your job situation. The lender assumes you are producing income the way you presented it at the time of application. Losing or changing your job is a material change.

Don’t wait until last minute to have lawyer review the condo status certificate and then report any discrepancies. Any issues need to be addressed upfront, during the financing condition. If unresolvable, the financing condition protects you and you can walk away.

With proper planning and communication, the mortgage process can be manageable and predictable. Ultimately it’s in your hands. You have to take responsibility and use common sense when you are in the closing process.

30 May

Not all banks calculate your mortgage penalty the same!


Posted by: Aneta Zimnicki

Most people break their 5 year fixed terms in 3 to 4 years on average.  That means your penalty will most likely be based on ‘Interest Rate Differential’ or IRD. Not all lenders are equal in that department….this is where many retail banks get you, playing around with ‘discounted rates’ and ‘posted rates’.  This could mean thousands and thousands of dollars more in penalties! Later in this blog, I show you the math and how the retail banks trick you.

Working with a good mortgage broker gives you the options of using other lenders that have simpler and less costly penalty calculations, and a broker can explain these calculations to you in everyday language.  When shopping for a mortgage, there is so much more beyond the surface than just an advertised interest rate!

Although borrowers don’t plan to break their mortgage, life may change unexpectedly. Situations like a new job location, family, divorce, illness, opportunity or need to refinance to access the equity. If you know upfront that you will not finish the typical 5 year mortgage term, consider getting a shorter term. Otherwise, you can benefit with the longer term, lock in the fixed rate and not have to worry about dealing with rising rates or complications with renewal offers.

Variable rate mortgage penalties are calculated differently.  It is simply 3 months interest. Sometimes borrowers go for variable not just because of rate, but this added flexibility of lower penalty costs. Penalties for fixed rate mortgages typically are ‘the higher of IRD or 3 months interest‘. It is prudent to assume IRD as the worse case scenario. There may be even higher penalty calculations with some niche products, for example ‘no frills’ mortgages, which lure you in with lower rate, you have to review the fine print.

Here is a sample IRD calculation, comparing the simple approach to the more convoluted approach. You can clearly see which approach is more profitable to a lender.

$300K mortgage balance at 5yr fixed 3.8% (at retail bank, posted rate is 5.3%, and you get 1.5% ‘discount’, at non-retail lender, posted rate is the same as your contract rate). Some borrowers may think, wow, I am special, I got a great discount! Then the lender uses it against you later.

2 years into mortgage, you need to break it. 3 years remaining on contract, lender looks at comparable ‘posted 3 year rate’). Assume retail bank shows 4.0% posted, non-retail lender shows 3.4%

What the retail bank does then is use 4.0% posted and deduct the original discount you received of 1.5%, giving net 2.5%, and really uses this unrealistic 2.5% as the basis for their penalty (cost of loss to them) calculation. But, in reality, no new mortgage client would be getting the 2.5% for that term if they went and got a new mortgage today.

Non-retail lender penalty calculation:
$300K  x (3.8% contract rate – 3.4% current rate matching term remaining) x 3 yrs   = $3,600 penalty

The retail bank calculation:
$300K  x  (3.8% contract rate – (4.0% current posted rate matching term remaining – 1.5% discount)) x 3 yrs  = $11,700 penalty

Note this is example only. Final penalty calculations are always confirmed by the lender.

12 Jul

Bank of Canada raises rate: what this means to your mortgage


Posted by: Aneta Zimnicki

(July 12, 2017) Today, for the first time in seven years, the Bank of Canada raised their rate by 0.25%. This affects your variable rate mortgages and your secured lines of credit.

What will the banks do?
In the past, the banks matched their prime rate increase in step with the Bank of Canada increase, typically the 0.25% increments. We have not seen a rate increase in 7 years, so the history is old. However, during the last rate drop of 0.25% announced 2 years ago, the banks did not match it, but went down by 0.15%.
Also, somewhat out of line with the pattern, within recent history, one major retail bank set its ‘benchmark prime’ higher than other banks, bumping it up by only 0.15%.
The majority of lenders set their prime at 2.70% before today’s announcement. (Other lenders, including credit unions, may have their own ‘benchmark prime rate’ that may be different. You have to check the fine print with the lender.)
We could assume after today’s announcement that changes to 2.95%, however, we should be cautious with this assumption and continue to monitor what the lenders may do.

What will be my new payment?
Your monthly mortgage payments most likely will go up. A small number of lenders already pre-set your variable rate mortgage at a higher amount when you initiated your mortgage (or you may have set this up yourself). You need to check your documents for this information.

Lenders will mail out a notification about your variable rate change. The payment change may take a few months to take effect due to billing cycles.

Based on a $250K mortgage, 25 year amortization, with typical current variable rate offering, a 0.25% increase in rate is approximately $30/m. On a $10K interest only secured LOC (HELOC), this is approximately $2/m. For investors, this increase can multiply significantly across your portfolio, this is the time to re-evaluate your cashflow.

What next?
This is the beginning of the conversation. You can contact me with your specific mortgage questions and portfolio overview.


29 Jun

8 more ways to ace your mortgage application – Part 2


Posted by: Aneta Zimnicki

There are easier approaches to getting prepared for a mortgage submission and there is a harder, more stressful route.   Why not learn from the mistakes of other borrowers, experience a less stressful process and increase your mortgage options.

I am going to delve into the action items you can do to relieve your mortgage application headache.  This list continues from part 1 (see blog here).  There is lots to learn, stay tuned for future additions to this list.

Items below aren’t necessarily a deal breaker,  as there are mortgage solutions for all types of applications, but collectively these items will increase your mortgage options.   Also noted are some items unique to real estate investor applicants.  

List continued…

10.  Acknowledge that  being self-employed and documenting minimal income will most likely put you in a different rate category than the lowest advertised rates. There is a large lending space for borrowers in this group, and often it is very case specific.  Saving on income taxes is a huge benefit to a business owner, and usually trumps trying to fit into the ever-shrinking ‘most conventional’ lending sandbox.

11.  Keep your credit situation consistent between application and closing.  Avoid buying or leasing a car, buying furniture on store credit cards or applying for more credit, without consulting your mortgage broker.  The lender approves you on your credit status presented to them at application time, and expects no significant changes.  They can check credit again before close, and can cancel your application if there are significant changes that impact your debt ratios.

12.  Ask for access to money when you don’t need it.  Specifically, if you foresee in the future you will be needing funds, like for an investment property downpayment, consider doing a refinance now (this includes setting up a secured line of credit), when you are in optimal income and credit position to look best to the lender.  The most successful investors have their access to funds set up well before they submit offer to purchase, in this way, one uncertainty and risk is ironed out.

13.  Have a reasonable financing condition time and avoid extremely short closing. Working within tighter constraints is possible, it is just a more stressful route.  With short closings makes sure your lawyer can accommodate, and inquire about any rush fees.   Providing all the documents upfront and discussing the mortgage plan with your mortgage broker prior to offer submission can help reduce time needed for finance condition.

14.  Choose  a closing date that is not a Friday or the last business day of the month.  This may help, as lawyers and lenders are very busy with a lot of closings at that time.  Similarly, if you submit a live application during this time, lenders are busy with these closings and may have slower turnaround time.  Lastly, holidays also may impact turnaround time, as lenders essentially are making up the missed day.  Make sure your financing condition specifies ‘banking business days’ not ‘calendar days’ or ‘days’.  A common oversight is forgetting that Remembrance Day is a banking holiday.

15.  Always assume mortgage rules and policies can change.  We have seen enough evidence in the Canadian lending landscape of this happening in the last several months and years. Understand that only the current policies will apply once you submit a live application and receive a commitment back from lender.  Pre-approvals, rate holds and very long closings are all subject to potential policy changes at the time your application goes ‘live’.

16.  Allow your mortgage broker and lender to deal with the minute details and calculations of your file, rather than trying to overanalyze yourself.  Policies constantly change. This is what the mortgage broker will do for you and explain to you what your limitation may be, if any.  Conversely, don’t dismiss applying based on your assessment, a mortgage broker can take a proper look and provide potential options.

17.  Operate on the assumption that the lenders will NOT overlook property and price issues. Items that can raise questions include submitting MLS listing with unique  or derogatory remarks or lack of photos, a private sale, using the same realtor or brokerage as seller,  a listing price too low or too high, paying significantly over asking, adjusting the price with an amendment for home inspection items. These are not deal breakers necessarily. Prepare with explanations, and lender may decide to mitigate risk by sending out an independent appraiser.

Stay tuned for part 3.