Three mortgage ratios de-mystified

One of the most common questions I get asked is "what are those ratios mortgage people talk about?"

If you're doing home buying research, chances are you've heard the terms gross debt service ratio, total debt service ratio, and loan to value ratio. Or as they're more conveniently known, GDS, TDS, and LTV.

Here's what you need to know about these ratios:

1. Gross Debt Service Ratio
   Your gross family income, or total income before deductions, is used for both the GDS and the TDS calculations. To calculate the GDS, we first total up your yearly shelter costs - mortgage payments, property taxes, and heat, and if applicable, 50% of your condo fees as well. Once we have this amount, we divide it into your annual income before deductions. The result is expressed as a percentage. Most lenders will want you to keep the percentage to 30-32%.
   
   Here's a simplified example. Let's say you and your partner's incomes total $100,000 per year, and you are thinking of buying a $500,000 condo. You have $100,000 in savings, so you need a $400,000 mortgage to make up the difference. Here's how the numbers play out:
   
   Mortgage payments:  $21,197.52 (12 X $1766.46)
   Taxes:  $5,000 (estimated)
   Heat: $960 (estimated, 12 X $80)
   Condo fees:  $2,400 (12 X $200, which is 50% of the estimated $400/month condo fee)
   ------------------------------------------------------
   Annual shelter costs (total):  $29,557.52
   
   Dividing this by your $100,000 income gives you a GDS of 29.56%.  It's less than 32% - great!
     
   You may be wondering what happens if it's more than 32%.  The answer is "it depends".  If you have no other debts, a great credit rating, and show that you regularly add to your savings, the mortgage lender may be willing to allow you a greater GDS than 32%, on an exception basis. 
       
2. Total Debt Service Ratio
   To calculate the TDS, we add the above shelter costs to all your remaining debt commitments, such as a car loan / lease, amounts payable on lines of credit or credit cards, and other debt payments.  Continuing the above example, let's assume you also have a car loan with a monthly $400 payment, and a student loan of $300 per month.  We can try out those calculations again:
     
   Annual shelter costs from above: $29,557.52
   Car loan payments per year: $4800 (12 X $400)
   Student loan payments per year: $3600 (12 X $300)
   --------------------------------------------------------------
   Total annual debt payments:  $37,957.52
   
   Dividing this total by $100,000 gives you a TDS of 37.96%.  Since it's less than 40%, you fit most lenders' criteria - congratulations!
     
   However, consider that your car loan payment was actually $600 per month, and in addition to the student loan, you also owed $10,000 on various credit cards.  The picture becomes quite different:
     
   Annual shelter costs:  $29,557.52
   Car loan payments per year:  $7,200 (12 X $600)
   Student loan payments per year:  $3,600
   Credit card payments per year:  $3,600
   ---------------------------------------------------------------
   Total annual debt payments:  $43,957.52
     
   Dividing this total by your $100,000 in income gives you the new TDS of 43.96%.    So what now?  Well, you have a couple of options.  You could significantly reduce the amount you borrow on the mortgage - in this case, you would need to reduce the mortgage amount by about $80,000 in order to bring your TDS under 40%.  Or, you could wait, reduce your expenses in other areas and aggressively pay down your non-shelter debts.  The key is to consult with a professional to understand your options and figure out what is the best way to proceed.
   
   The key: if you're thinking of buying a home in the next year or two, do everything you can to avoid taking on any new debt.  As you can see from our example, it can really impact you in your home purchasing journey.
     
3. Loan to Value Ratio  
   The LTV ratio is the simply the value of your mortgage (the "loan") compared to the market value of the property, again expressed as a percentage.  In the example we used above, the loan to value is 80%, which is the $400,000 mortgage amount divided into the $500,000 purchase price of the condo. 
     
   There are implications that pertain to the LTV ratio.  If your down payment is less than 20% of the home's value, or in other words, if your LTV is greater than 80%, your mortgage is considered a High Ratio mortgage.  If that is the case, you will likely need to use mortgage insurance (check out the CMHC website for more details).

If you have any questions, please don't hesitate to get in touch with me!


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Ten signs you might need a tune-up

Like your car or your home, your mortgage benefits from a seasonal inspection.  Spring is just around the corner - so it's a great time to make sure your mortgage is in peak form!

Here are ten signs you might need a mortgage tune-up:

1. You are locked in at a higher rate than you could get today - and you want a professional opinion on your options;

2. You're thinking about moving to a new home this year - or considering buying an investment property;

3. You're still carrying way too much post-holiday debt;

4. In fact, you have more than $25,000 owing on high-interest loans or credit cards;

5. You're worried each month about whether your budget will stretch as far as the bills;

6. There's a renovation or home repair project coming up this year - either by choice or necessity;

7. An investment opportunity is available - and you wish you could take advantage;

8. There's a large expense looming - tuition, wedding, new car - and you need to plan ahead;

9. Your income might wobble or take a hit this year - and you want to be prepared just in case; or,

10.  You're planning on retiring in the next five years.
   
If you recognize one of the signs that it's time for a tune-up, give me a call or send an email anytime.  I'm happy to help!


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5 reasons you should use a realtor

If you are a currently househunting, especially if you are a first-time homebuyer, you may wonder how much value a real estate professional can really bring to the table. With so many online listing sites, couldn't you find homes just as easily on your own?

In my opinion, a good realtor can mean finding your dream home quickly and efficiently, versus spending hours trolling the web and dragging yourself to every open house in the GTA. Personally, I get quite excited about checking out homes that are staged for sale, and getting ideas on new trends in home design and layouts. But, if you are using this as your main mode of finding a home, the excitement is likely to pale after a few months of fruitless looking. More importantly, if you aren't working with a realtor, you are missing out on a vast repository of knowledge and connections that you could be using make your home buying process easier and simpler.

Here are just five reasons why a good realtor is worth his or her weight in gold:

1. Negotiation. How many of us are comfortable handling real estate negotiations, and knowing how to get the best possible real estate deal? Using an experienced realtor means you have a skilled negotiator on your side. Even if you view dozens of properties, you are not likely to have the negotiating edge when you come right down to making an offer to purchase one.

2. Knowledge. In addition to the substantial education required to obtain a real estate license, realtors are also obligated to continuously educate themselves in real estate related topics. As well, they have access to market data, real estate industry materials, and fellow real estate colleagues, to further increase their knowledge of the local markets.

3. Professional network. Do you have a good local real estate lawyer in your contact database? How about a home inspector, an architect, or general contractor? A good realtor will help you by connecting you to the necessary resources for making your home purchase.

4. Balance. Unless you have bought a few homes yourself, it can be really hard to "see the forest for the trees". A real estate professional will help you prioritize the items on your wish list, figure out what is truly important, and balance that against your price range. As well, if you are purchasing with a partner, it's really helpful to be able to bounce ideas off a neutral third party, and find balance between what each of you desires in your new home.

5. Fun. The home buying process can get tedious at times, and even stressful. Hopefully you have a realtor who is well suited to your personality style. The best realtor for you will make the experience fun and enjoyable.

At the end of the day, you will probably still spend hours obsessing about properties you discover online, or that you walk through in an open house. With a good realtor on your side, you will be able to move on from that to actually buying the home that will work perfectly for you, in real life.

Happy searching!


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Thinking of buying a fixer-upper? Here's how...

If you've been trying to find that perfect home, but no place you've looked at in your price range seems quite right, here's a way to buy and renovate for the perfect abode.  Think of it as a mortgage for fixer uppers.

It's called a “purchase plus improvements” mortgage.  This type of mortgage covers the sale price of your home, plus any renovations that would increase the value of the property, with as little as 5 per cent down.

Many homebuyers looking at older properties find themselves in the same boat: they’ve found a property that suits them, but it needs some costly and immediate upgrades.

You may be able to add the costs of those immediate renovations into your mortgage, instead of racking up credit card bills, department store or home renovation store cards, or selling investments to pay for the upgrades.    If you’re buying a home but want to add a garage, finish a basement, replace windows or wiring, or redo a kitchen, it can make a lot of sense to add those costs to your mortgage. That way you can spread your payments over the life of the mortgage and have a cost-effective way to get your dream home. You can also use your pre-payment privileges to pay the renovation off faster, when the expenses of the renovation are behind you. 

The process is quite straightforward.  Here are the main steps you will take:

Include a longer "financing clause" in your offer to purchase
Once you have found a home and decide to put in an offer, you should ask for a little extra time to finalize all the financing details for your home purchase - ideally 10 days.   This gives you time to get quotes and get the lender's approval on the improvements you intend to make to your property.

Obtain estimates for the upgrades
At the same time as you submit your purchase for approval with the lender, you also need to provide detailed written quotes from licensed contractors, for the renovations you plan to do.  These quotes should outline the scope of the work, and all costs. 

Get your appraisal
An appraisal with two separate values will be required: first the value of the property "as is" and the estimated value of the property once the improvements are completed.

Renovation costs are included in your mortgage
Your lender will add the estimated costs of the renovation into your mortgage. For example, with a 5% down payment, your mortgage broker would apply for 95% of the “as improved” market value, which will be higher than the actual purchase price. The committed amount of the mortgage will be advanced to your real estate lawyer, who will be instructed to hold back the renovation funds until the work has been completed and inspected.

Complete your upgrades, and receive the remainder of your funds
Once an inspection from an appraiser confirms all work is complete and a copy of the building permit (if applicable) has been received, the balance of the mortgage funds will be released to you to pay for the renovations. There are a few options for carrying your expenditures until the funds can be released. Some major home improvement retailers offer “no payment” options for up to six months. Larger contractors may also be willing to finance the project short-term if they see the documentation for purchase plus improvements financing, and receive a deposit.  Other people are able to get a short term loan from parents or a family member.  What you can't do is get the mortgage funds ahead of time - the lender can't lend you more money than your property is worth, so they have to wait until the property is actually worth the "improved" amount. 

Here is an example of how this works in real life:

Purchase price of home: $400,000
Improvements required: $40,000
Total mortgage: $418,000 (95% of $440,000)
Your down payment: $22,000 (5% of $440,000)

$378,000 will be advanced on your closing date, so that you can take ownership of the home.   At the same time, you will be required to pay your down payment in full.  You then do the improvements.  Once you get an inspection confirming that they have been completed, the remaining $40,000 will be released.  

If you think this might be a good option for getting you the perfect home, please contact your mortgage professional to discuss the ins and outs.  There are lots of aspects to this type of mortgage that you can take advantage of - for example, some lenders will also allow you to get a portion of funds advanced to you at certain stages of completion, rather than requiring you to wait until full completion.  As well, some lenders require that the work be completed in a certain period of time after your closing date, while others are more flexible.  Depending on your specific situation, we can find you a lender and product that will help you achieve your goals.

Happy house-hunting!




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