WHY ARE DEBT SERVICING RATIOS IMPORTANT WHEN APPLYING FOR A MORTGAGE?
HOW ARE DEBT SERVICING RATIOS CALCULATED?
There are two ratios you need to worry about—gross debt servicing (GDS) and total debt servicing (TDS)
Gross debt servicing (GDS)
This is the maximum amount you can afford for shelter costs each month. It’s your monthly housing costs divided by your monthly income.
Total debt servicing (TDS)
This is the maximum amount you can afford for debt payments each month. It’s your monthly debt and housing costs divided by your monthly income.
If too much of your income is already going to housing costs and debt payments, according to your lender, you may not be able to afford to take on more debt.
WHAT DOES DEBT SERVICE RATIO MEAN AND WHY IS IT IMPORTANT?
Lenders use ratios to assess risk and understand if you will be able to make your payments on a mortgage. Generally, lenders like to see a GDS ratio around 32% and a TDS ratio that is no greater than 40%. If the ratios are higher, that does not mean you won’t qualify for a mortgage, but you may end up paying a higher interest rate.
In general, the better your debt servicing ratios and credit score, the lower your interest rate will be. This is because lenders view you as more reliable and it shows that you manage your money well and make your payments on time. Even if you need to refinance now, at a slightly higher rate, you can look at getting into a lower rate in a couple of years, when you mortgage term is up for renewal.
Your debt servicing ratio also lets you know how well you’re managing your budget. If your TDS ratio is over 44%, you are spending too much of your income on debt already and you may be unable to borrow without a co-signer. A co-signer’s credit history and income is factored in with yours. This gives the lender some reassurance that the payments will be made because the co-signer is as responsible for the mortgage as you are.
CALCULATING YOUR PERSONAL DEBT SERVICING RATIOS
Start by adding up your monthly debt payments. Include those fixed costs that you must pay every month:
| Housing costs | Debt costs |
● Rent or mortgage payments● Property taxes● Heat● 50% of condo fees |
● Loan payments, such as car, student, or personal loans● Credit cards (3% of the outstanding balance)● Outstanding bill payments not on a credit card (dental, medical, repairs)● Interest charges for line of credit payments● Spousal or child support payments |
Next add up your monthly income:
- Pay cheque (before taxes)
- Retirement or pension payments
- Benefits payments
- Spousal or child support
- Rental income
- Any other monthly income
Formulas:
Gross debt servicing ratio |
Total debt servicing ratio |
Housing Cost———————— x 100 Total income |
Housing Costs + Debt Costs————————————- x 100 Total income |
Examples:
Your income (before taxes) is $6,500 per month. You have a monthly mortgage payment of $1,400, property taxes of $ $300, and $ $100 for heat. Your GDS ratio is calculated as $1,800/$6,500 x 100 = 27.69%
Your income (before taxes) is $6,500 per month. You spend $300 for your car payment. You have $2,500 in credit card debt, and 3% of the outstanding balance is $75 for a total of $375 per month. Your TDS ratio is calculated as $2,175÷ $6,500 x 100 = 33.46%.
To learn more about specific mortgage approval ratios, check out this handy article.
Note: If you have a two-income household, include the debt payments and income for both of you. This is important because you have more income between you, and you share the cost for some of the debt.
TIPS FOR LOWERING YOUR DEBT SERVICING RATIOS
There are two basic ways to improve your debt servicing ratios—increase your income or reduce your debt.
Increasing your income is not always possible, although it could include a raise at work, finding a new job with better pay, or taking a second job. If you do find yourself with a little extra cash—maybe you received a year-end bonus—consider using it to pay down your debt.
Paying down your debt and not adding to it is the best way to improve your debt servicing ratio. Here are a few ideas to get you started:
- Avoid making new purchases, especially if you need to use your credit card to make the purchase.
- Create a budget and see where you can cut expenses. Apply those savings to your debt.
- Call your credit card company and try renegotiating a lower interest rate. With a lower rate, more of your payment will be applied to what you owe
- If you have money sitting in an account that is not earning much interest, consider applying it toward your debt, which tends to have a higher interest rate.
- Explore options to refinance equity from your home to pay off debt (work with your mortgage broker to form a plan).
DEBT SERVICING RATIOS AND YOUR CREDIT SCORE
Your debt servicing ratios do not directly affect your credit score but carrying a large amount of debt can negatively affect both. And lenders will look at both when assessing your mortgage application. The good news is that reducing your debt improves your credit score as well as your debt servicing ratios. Work with your mortgage broker to create a plan on how you will reduce your debt and improve your ratios. This informative credit video may be useful, straight from a seasoned underwriter.
Your debt servicing ratios give lenders information about your ability to repay the money you borrowed while your credit score provides information about the way you manage credit. Do you make payments on time? Do you have a history of borrowing and repaying money?
Now that you know how a lender is going to assess your mortgage application, you can take the necessary steps to lower your debt servicing ratios and get that mortgage approved!
Mortgage Mark Herman, Top Calgary Alberta mortgage broker
Canadian Economic Data Points Affecting Mortgages
Below are the Bank of Canada’s updated comments on the state of the economy, the Bank and singled out the unprovoked invasion of Ukraine by Russia as a “major new source of uncertainty” that will add to inflation “around the world,” and have negative impacts on confidence that could weigh on global growth.
These are the other highlights.
Canadian economy and the housing market
- Economic growth in Canada was very strong in the fourth quarter of 2021 at 6.7%, which is stronger than the Bank’s previous projection and confirms its view that economic slack has been absorbed
- Both exports and imports have picked up, consistent with solid global demand
- In January 2022, the recovery in Canada’s labour market suffered a setback due to the Omicron variant, with temporary layoffs in service sectors and elevated employee absenteeism, however, the rebound from Omicron now appears to be “well in train”
- Household spending is proving resilient and should strengthen further with the lifting of public health restrictions
- Housing market activity is “more elevated,” adding further pressure to house prices
- First-quarter 2022 growth is “now looking more solid” than previously projected
Canadian inflation and the impact of the invasion of Ukraine
- CPI inflation is currently at 5.1%, as the BoC expected in January, and remains well above the Bank’s target range
- Price increases have become “more pervasive,” and measures of core inflation have all risen
- Poor harvests and higher transportation costs have pushed up food prices
- The invasion of Ukraine is putting further upward pressure on prices for both energy and food-related commodities
- Inflation is now expected to be higher in the near term than projected in January
- Persistently elevated inflation is increasing the risk that longer-run inflation expectations could drift upwards
- The Bank will use its monetary policy tools to return inflation to the 2% target and “keep inflation expectations well-anchored”
Global economy
- Global economic data has come in broadly in line with projections in the Bank’s January Monetary Policy Report
- Economies are emerging from the impact of the Omicron variant of COVID-19 more quickly than expected, although the virus continues to circulate and the possibility of new variants remains a concern
- Demand is robust, particularly in the United States
- Global supply bottlenecks remain challenging, “although there are indications that some constraints have eased”
Looking ahead
As the economy continues to expand and inflation pressures remain elevated, the Bank’s Governing Council made a clear point of telling Canadians to expect interest rates to rise further.
More on Food Security – Interesting data points on the War in Ukraine
Prices for food commodities like grains and vegetable oils reached their highest levels ever last month largely because of Russia’s war in Ukraine and the “massive supply disruptions” it is causing, threatening millions of people in Africa, the Middle East elsewhere with hunger and malnourishment, the United Nations said Friday.
The UN Food and Agriculture Organization said its Food Price Index, which tracks monthly changes in international prices for a basket of commodities, averaged 159.3 points last month, up 12.6% from February. As it is, the February index was the highest level since its inception in 1990.
FAO said the war in Ukraine was largely responsible for the 17.1% rise in the price of grains, including wheat and others like oats, barley and corn. Together, Russia and Ukraine account for around 30% and 20% of global wheat and corn exports, respectively.
While predictable given February’s steep rise, “this is really remarkable,” said Josef Schmidhuber, deputy director of FAO’s markets and trade division. “Clearly, these very high prices for food require urgent action.”
The biggest price increases were for vegetable oils: that price index rose 23.2%, driven by higher quotations for sunflower seed oil that is used for cooking. Ukraine is the world’s leading exporter of sunflower oil, and Russia is No. 2.
List of Data Needed for Lo/No Condition Offers
Documents needed for Low/ No Condition Offers are below.
For Employees:
Employment Data
- Employment letter ** – order from payroll or HR
- 2 x recent pay slips
Tax Data
- Last 2 years of your NOAs – Notice of Assessments – you get them back after you pay your federal income taxes
- Last 2 years T4’s – to verify continued employment in your industry
Confirmation of down payment
90 days of detailed account history is needed – by way of:
- 3 months of on-line bank statements (print-out to PDF and email is perfect) showing funds on deposit AND / OR
- For RRSP/ TFSA funds: 3 x monthly account statements OR at least 2 statements, 3 months apart OR a year-end summary and recent statement.
- If your name is not on the statements please print the “welcome page” that should show your name AND last few digits of the account numbers so they can be cross referenced.
** Employment letter – A letter of employment is needed that includes the following:
- Addressed to: Whom It May Concern:
- Position,
- Length of time with employer,
- Status: either Fulltime or Part-time; “with XX hours per month guaranteed,”
- Salary: Annual base salary, hourly pay,
- Any applicable bonuses,
- Contact information for the author of the employment letter – many lenders will call to verify information,
- Letter to be on company letterhead,
- Letter to be signed by writer.
For SELF-EMPLOYED
Tax Data
- Last 2 years of your NOAs – Notice of Assessments – you get them back after you pay your PERSONAL income taxes
- Last 2 years T4’s – if you T4 yourself, if you don’t T4 yourself you will not have these.
Your accountant may have these and can usually forward them to us in PDF if you ask them too:
- Last 2 years of T1 Generals – a copy of the actual PERSONAL tax return that was sent to RevCan
- Specifically with the “schedule of business of activities”
If you are incorporated, also add:
- Articles of Incorporation
- Last 2 years of financials – balance sheet, cash flow, income statment, with Notes to Readers.
Confirmation of down payment – by way of:
- 3 months of on-line bank statements (print-out to PDF and email is perfect) showing funds on deposit AND / OR
- For RRSP/ TFSA funds, at least 2 statements, 3 months apart showing funds on deposit in your name on the print outs.
- If your name is not on the statements please print the “welcome page” that should show your name AND last few digits of the account numbers so they can be cross referenced.
- All the funds in both your personal and business bank accounts count as your own funds – for mortgage math – so you don’t have to move money between accounts when we are qualifying you. We can discuss this in more detail.
What Are the Risks Of Unconditional Offers When Buying A Home?
The process of buying a home and completing a real estate transaction typically centers on the offer. After finding the home you want to buy, you’ll need to submit an offer, which the seller will review before signing off on it.
But in addition to the typical clauses that are included in an offer, buyers have the option to insert “conditions” to the offer. Without these conditions, the offer will be deemed “unconditional,” and in this case, the contract will be legally binding for both parties.
There are some inherent risks with unconditional offers that buyers should be aware of. Let’s review what unconditional offers are, and how they may leave you vulnerable in some cases.
SUMMARY:
- We recommend “no condition offers” if you have the cash to buy as “Plan B.”
- We do recommend the Financing Conditions to be at least:
- “subject to lender approval of appraisal value and lender approval of property standards” and
- if less than 20% down, subject to CMHC/default insurer acceptance.
Why?
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- Any of these could stop a mortgage at a specific lender: preserved wood foundations, near a busy commercial location, too near flood zone or flood fringe for the lender, aluminum wiring, Poly B plumbing, condo docs not accepted -if condo.
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Common House Offer Conditions
There are dozens of examples of conditions that buyers can insert into their offers, but many are not often used. That said, there are certain conditions that are very commonly added to offers, including the following:
Financing Condition
Most home purchases require some form of financing to help buyers come up with the money to buy a home. But getting a mortgage requires an application and approval process. Before buyers seal the deal on a contract, they should ensure that they are able to secure a mortgage to finance the purchase.
Financing conditions are among the more common ones inserted into offers and give buyers and their mortgage lenders some time to work through the mortgage process. If they cannot get approved for financing, the buyer will be able to back out of the deal.
Home Inspection Condition
A home inspection is another common condition, which provides the buyer with a certain amount of time to have the subject property inspected by a professional home inspector. If there are any major issues that are discovered, the buyer can address them with the seller. Otherwise, the buyer can back out of the deal if they find the home inspection report unsatisfactory.
Condo Doc Review of Condo Corp. Financial Statements
In the case of a condo purchase, a review of the condo corporation’s Status Certificate is very important. The Status Certificate will detail the financial and legal health of the condo corporation.
The buyer’s lawyer will review the Status Certificate and look for any potential red flags. And if there are any, the buyer will have the opportunity to kill the deal before the condition expires if they so choose.
Sale Of Another Property
In some cases, buyers may want to make the purchase of a home conditional upon the sale of their own current home. This is more commonly seen in buyer’s markets where there is a lot of supply and not as much demand. In this case, it may take buyers a little longer to sell their homes.
Buyers who insert these conditions in their offers want to make sure that they are able to find a buyer of their own and not get stuck with two homes and two mortgages.
That said, many sellers don’t like to see these types of conditions, as it can put them at risk of the deal falling through. The time spent waiting for this condition to be filled could have been spent entertaining other potential offers that many have otherwise come through.
What Is An Unconditional Offer?
An unconditional offer is one that does not come with any conditions. There are no additional checks to be made aside from the clauses that already come with a purchase of sale agreement. Once the contract is signed off by both parties — and before the expiry date — the deal is firm and neither the buyer nor the seller can back out.
Benefits Of An Unconditional Offer
While it’s generally advised that buyers insert conditions such as a home inspection, financing, or Status Certificate review, in some cases it may be a good idea to make a “clean” offer, or one that is void of conditions. For instance, in the case of a bidding war where there are multiple buyers bidding for the same house at the same time, all buyers will want to go in with their best foot forward.
This might mean putting in an unconditional offer. These offers are more attractive to sellers because there is no waiting game that needs to take place to fulfill conditions. In some cases, sellers may even favour an unconditional offer with a slightly lower offer price than an offer with a higher offer price that has a couple of conditions that would need to be dealt with.
Risks Of Unconditional Offers
As you might imagine, there are some risks that come with unconditional offers. You’ll be left unprotected if you sign off on the contract with no opportunity to ensure all your bases are covered.
Here are a few of the risks associated with a condition-free offer:
Your Bank May Not Approve Financing
If you are unable to secure financing, you’ll be stuck with a massive financial obligation to pay for a home you do not have the money for. If you do not insert a financing condition, you won’t have the chance to make certain that you can get approved for a mortgage needed to finance the purchase.
You’ll Have to Cover Any Shortfalls in Down Payment
In the case of a bidding war, you may offer a price that’s higher than the market value of the subject property. When the property is appraised, the mortgage lender will discover that the home is not worth as much as you agreed to pay for it. As such, the lender may not approve the initial loan amount you requested.
In this case, you’ll need to bump up your down payment amount in order to make up for the difference. If your offer was not subject to a financing condition and you are not able to cover the shortfall in the extra down payment, you could risk losing your deposit and even be sued for damages.
You Could Get Stuck With A Faulty Home
If you neglect to give yourself some time to scope out the property with a professional by your side, you could inadvertently buy a “money pit” that will require a ton of money to repair.
During your initial visit to the home before you put in an offer, you may not have noticed any issues. A home inspection will give you a few hours with a home inspector to check out if there are any major problems with the home before you commit to buying it. If any are discovered, you’ll have the chance to either renegotiate a lower price with the seller, ask the seller to make the repairs, request a credit so you can make the repairs yourself, or back out of the deal altogether. But without a home inspection condition, you’ll be stuck with the house regardless.
You Could Get Stuck With A Condo That’s In Disarray
Some condo corporations may have legal issues and be in the midst of lawsuits, have reserve funds that are not enough to cover the cost of major repairs that can arise in the near future, or be poorly run. You don’t want to get stuck with a condo corporation that is mismanaged, but this is exactly what can happen if you don’t insert a Status Certificate review condition.
Mortgage Rates Up Due to Inflation
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How to Get a Home Loan When You Own a Home-Based Business
AND NOW A GUEST ARTICLE BUY Derek Goodman …
How to Get a Home Loan When You Own a Home-Based Business
When your home-based business starts to grow, this is a good thing. But what if it’s growing so much that you need to purchase a larger home? This can get tricky because applying for a home loan when you own your own business is sometimes a little harder than when you are employed by a company. But don’t let this dissuade you! It is perfectly possible for a small business owner to apply for — and get approved for — a home loan. Here are some of the ways you can improve your chances.
Keep your records organized.
Staying organized is important for keeping your business running smoothly, in general, but it’s especially crucial when you’re preparing to apply for any kind of loan. All of your tax returns, payroll records, and sales records should be saved for at least three years, but holding onto them longer is advisable so that you yourself can track business progress. Other records, such as employment taxes and bad debt reduction claims, should be kept even longer. You should keep both digital and paper copies of your financial records. Having good accounting software will help you stay organized and accurate. If you are working with an accountant, ask them to help you maintain your records.
Don’t take so many write-offs.
This may sound counter-intuitive, but if you intend to apply for a home mortgage sometime in the near future, start reducing your tax deductions. Yes, typically you want those deductions for equipment, travel, and other expenses. But in this case, they could hurt your chances. Talk to your accountant about your plans to get a loan and upsize your residence. They can help you figure out how many deductions to take, so your income doesn’t look too low.
Try to get rid of some debt.
Raise your eligibility for a loan by getting rid of debt. There are several ways you can do this. See whether your loans can be consolidated into a single sum with lower interest. Pay off your higher-interest loans first, if possible. Or, try using the snowball method of debt reduction, which involves paying off debts based on the size of the balance, starting with the lowest. You may even be able to get your creditors to work with you by lowering interest rates. Reducing debt may also free you up to make a larger down payment, which is another way you can increase your purchasing power.
Find a less expensive home.
If you can find a residence that meets your needs for a lower cost, you can take out a smaller loan. Study the market to see where property prices are lower. If it’s possible for you to run your business outside city limits, rural properties are often less expensive. Or, look for homes that are being sold as-is. A house that is sold as-is means exactly what it sounds like: There will be no room for negotiations with the seller regarding needed repairs. This doesn’t necessarily mean the home will be in disrepair. Some homeowners sell as-is just to facilitate a quick transaction, which could also work in your favor. Nevertheless, consult a lawyer and have the home inspected before moving forward.
Applying for a loan as a self-employed business owner is certainly more work due to the extra documentation required. If you’ve been writing off expenses, your debt-to-income ratio may look lower than it would otherwise. But you should still be able to get a loan and upsize to house your business if you plan well and maintain good records. If you’re considering a mortgage for a home purchase in Calgary, contact Mark Herman for a customized mortgage that meets your unique needs. Call 403-681-4376.
Best,
Derek Goodman
Post-Covid Home Demand to Continue – Data
What is everyone doing with the money they saved during Covid?
- Eating out, travel, debt reduction and BUYING HOMES!
- Mortgage rates are low and home prices are close to 2005 levels!
Mortgage Mark Herman, Top Calgary Alberta Mortgage Broker
Latest Bank of Canada Survey:
As COVID-19 continues to be pushed down in Canada, consumer spending is expected to go up. The latest survey by the Bank of Canada suggests that will lead to an even greater demand for homes.
The Bank of Canada’s Survey of Consumer Expectations… indicates:
- 40% of respondents managed to save more money than usual during the pandemic.
- They expect to spend about 35% of those savings over the next 2 years on activities that have been restricted during the pandemic, such as dining out.
- Respondents plan to put 10% of their savings toward debt repayment and
- 10% toward a down payment on a home.
14% plan to buy a home soon, much of that was driven by renters, with 20% saying they want to get into the market.
80% of the respondents who have “worked from home” expect to continue with that and there is a consistent with the shift in demand for larger properties, away from city centres.
Inflation & Mortgage Interest Rates
- 5 Year fixed are going up and never getting back down to where they are now.
- Variables are also great – right now they are Prime – 1% or 2.45% – 1% = 1.45%, and as below, should stay there until 2023! Almost 20 more months!
Both of these are awesome options right now.Mortgage Mark Herman, Top Calgary Alberta mortgage broker for 1st time home buyers
Bond traders believe inflation is going to be rising over the coming months and have been demanding increased bond yields. That has led to increasing interest rates for bonds and, consequently, increasing rates for the fixed-rate mortgages that are funded by those bonds.
The traders say the COVID-19 vaccine rollout and plans for vast infrastructure spending – particularly in the U.S. – are boosting expectations of a broad recovery and an increase in inflation. Better than expected GDP growth in Canada and shrinking unemployment in the U.S. would tend to support those expectations.
This, however, puts the traders at odds with the central banks in both Canada and the United States.
The Bank of Canada and the U.S. Federal Reserve also expect inflation will climb as the pandemic fades and the economy reopens. There is a pent-up demand for goods and services, after all. The central banks see that as transitory, though, and appear to be looking past it. The U.S. Fed has gone so far as to alter its inflation target from 2% to an average of 2%, over time, thereby rolling any post-pandemic spikes into the bigger, longer-term calculations.
The Bank of Canada and the Fed have committed to keeping interest rates low, probably through 2023. Both say inflation will have to be sustained before interest rate moves are made to contain it. The integrated nature of the Canadian and American economies means it is unlikely the BoC will move on interest rates before the U.S. Fed.
$37,000 Payout Penalty at CIBC
The latest in giant payout penalties, this one was $47,291.
Here is a person – one of my ACTUAL ALMOST-Customers who had to swallow a surprise at TD for $35,000. (We tried 3 times to get him to not take that mortgage.)
To make this even more mind blowing, at a 39% tax rate that is $65,700 the person has to pay … about the same as 1-year of income at a full time job, without tax taken off.
- Would you work for 1 year to give it all to your bank if you had to sell or move or close down the mortgage for any reason?
- Would you sign an agreement like that?
- Have you already signed an agreement like this without knowing you have?
EASY to AVOID …
You don’t need to add in this risk to your home purchase. It is easy to get around by taking a mortgage from a major Broker Bank.
Broker banks calculate the payouts the “old way” which was way more fair to you, the buyer. Click here for the posts about payout penalties.
Broker banks also have better Terms & Conditions than the Big-6.
Link to the article: https://toronto.ctvnews.ca/american-who-sold-home-in-toronto-shocked-by-47-000-mortgage-penalty-1.5212884
“Broker Banks have better T&C than all of the Big-6. Call a mortgage broker first.”
Mortgage Mark Herman, Top Rated Calgary Mortgage Broker
$47,000 Payout Penalty
“Talk to a mortgage broker before you get a mortgage; even if it is at your own bank” says Mark Herman, Top Calgary mortgage broker.
In this case the bank loved this guy’s money, and did not listen to what he wanted. Now he has a $47,000 payout penalty.
If he went with a mortgage broker bank/ lender the payout would be $5,875. Eight, yes, 8 times less. Or $41,000 LESS.
Also see our post for OUR ALMOST customer who had his bank match our rates, but not our lenders Terms and Conditions. Now he has paid a $35,000 payout penalty. If it was at the lender we recommended it would have been $5,500.
https://toronto.ctvnews.ca/american-who-sold-home-in-toronto-shocked-by-47-000-mortgage-penalty-1.5212884?fbclid=IwAR3dmveUnldnmjcMSGEVXrSvcOr4UFtnEKoNPVjFPe02mp0HZ0CuqxC6mS8