11 Steps to buying a home

Buying a home in can be one of the most exciting and rewarding things you ever do, or it can be one of the biggest nightmares you will ever go through. How you experience the home buying process depends entirely on how well prepared you are and how knowledgeable the people helping you are. The following report should clear up a lot of confusion you might have.

  1. Get a pre-approval
    In the hot real estate market, pre-approved home buyers get preferential treatment when negotiating home purchases. Why? Because pre-approved buyers are financially qualified to purchase the home and are considered more serious than buyers who are not. Nothing feels worse than finding the ideal home in the perfect area, and then not being able to get the financing to close the deal. A pre-approval will provide as a reality check prior to mapping out your life in a home that you cannot afford. To get a quick no-obligation pre-approval Apply Online.
  2. Selecting a Realtor
    This is one of the most important steps in the process. You will, for all intents and purposes, be in partnership with your agent/s. You will be confiding in them on a business level and often on a personal level. They will be the people dealing with any problems that crop up along the way. They are the key to your finding what you want in for the price you want. Be selective, look for someone you feel comfortable with and with whom you’re experienced and knowledgeable. Working with a duo instead of an individual agent has its benefits, the most important being that time off for the agent does not become a problem for you. Don’t be afraid to ask for references; most agents are used to this and will not object. Once you select someone you feel good about working with, sign them up as a buyers’ agent. It is very important that the person you’re working with is representing you exclusively.
  3. Meeting with your agent for a home buyer’s consultation
    Also a very important step in the process, this is when you and your agent prepare each other for exactly what to expect along the way. The following points should be covered and fully understood during this meeting:Exactly what your needs are (number of bedrooms, baths, etc.), in which areas of you’re looking, what price range you are comfortable with, and what your time line is. It takes generally takes 30 to 45 days from purchase to closing.How often you are available to look and what you expect from your agent in terms of availability and communication (e-mail, phone updates either daily or weekly).Your agent should give you copies of all the paperwork you will be expected to sign throughout the process and briefly explain what each form is for.Your agent should explain buyer brokerage vs. seller’s representation, and you should sign a buyer broker agreement.
  4. Look at homes
    This is the fun part. It is important to limit the number of homes you’re looking at in a day. If you look at too many homes, they begin to run together, and you can’t remember one from another. It’s a good idea to use a checklist form to help you track the properties you have seen. It is also helpful to actually begin to narrow down the properties after each visit. For example, if house #3 was better than house #2, immediately eliminate house #2. Remember, communication with your agent is crucial. It’s important to let your agent know which houses you like and why, as well as which houses you don’t like and why. Sometimes it takes going out and looking one time before you and your agent really have a good grip on exactly what you’re looking for. Call your agent, and have him/her do the research on any advertised properties that look interesting to you. That’s what agents get paid for. If you should become interested in a for-sale-by- owner, ask your agent to contact the seller before you do, to see if he/she will cooperate (pay a commission) with a buyers’ agent.
  5. Select a home
    Once you’ve narrowed your search down to one or two homes that you really like in , your agent will do whatever research necessary to help you make your decision, but the decision will ultimately be yours. And surprisingly enough, it’s going to be a pretty easy decision to make. Buyers are welcome to call the local chambers of commerce for any statistics in which they might be interested. Local zoning and planning offices in are a good source for future road plans, etc. Once you’ve selected one home to focus on, your agents will do a comparative market analysis on that property. This involves determining “fair market value” by looking at what other buyers were willing to pay for properties similar to yours in the same neighborhood or area.
  6.  Making an offer & negotiation
    When making an offer on a property in , it is important to decide ahead of time how much you are willing to pay at what terms for the house. You already know what fair market value is. Now you have to decide what price you will offer; how much deposit you will offer; what personal property you wish to have convey (everything is negotiable); when you plan to close; and what inspections you plan to have conducted.When negotiating with any seller, it’s best to remember not to take anything personally. Also, try to put yourself in the seller’s shoes. Figure out what’s not negotiable to you, and be willing to give a little on the things that are negotiable. A good agent should be able to give you tons of advice about how to structure your offer. Once your offer has been presented, the seller will either accept your offer outright, reject your offer outright, or counter your offer. The counter process can go back and forth many times. It’s important for all parties to keep their cool and focus on the goal.
  7. Get inspections & remove conditions
    If, as part of your offer, you asked for time to be allowed to have inspections conducted on the property, you should have written what is called a conditional offer. Offers can be conditional upon financing, inspections, the receipt of acceptable condo estoppels certificates, the sale of property, and many other conditions. It is important that all deadlines be met and that all conditions are removed exactly the way the contract describes. Your agents are responsible for making sure this is done correctly.
  8. Select an attorney
    If you do not have an attorney already then your agent or mortgage broker can help you find one that specializes in real estate transactions at a very reasonable price.
  9. Walk-through
    Most sales agreements will give the buyer the right to one pre-closing inspection. This is your last chance to find any problems and have the seller correct them. Read the contract carefully, but most contracts read that all electrical systems, plumbing, appliances, heating, and air conditioning need to be in working order at the time of closing. These are the items you checking for at walk-through.You are also checking for any other items the seller previously agreed to fix or replace. If anything is found to be defective or missing, you have several options: The seller can remedy the problem prior to closing; the seller can credit you the amount of money it would take to hire someone to remedy the problem; or the seller can promise to correct the problem and place into escrow with the attorney the amount of money you will need to pay someone else if the seller does not perform as promised.On new-home purchases, the process is a little different. The builder will generally do a walk-through with you approximately one to two weeks prior to closing, resulting in a “punch-out list.” Hopefully, they will get everything on the punch-out list completed prior to settlement. If not, most new-home contracts allow the builder to complete whatever minor items have been noted in a “reasonable” period of time.
  10. Closing on your home in
    This is the day you “sign your life away,” as most clients say. Not really. You will be signing all of the mortgage documentation, which can seem never-ending. The lawyer conducting the settlement should be able to explain every document to you in a satisfactory manner. Do not ever feel intimidated. If you don’t understand, don’t sign. Your lawyer will help your understand everything. If you like, you can request blank copies of the documents you will be signing in advance so that you can carefully review them. You will have to present whatever down payment and closing-cost funds you were expected to pay. This check must be certified; personal cheques usually are not accepted.
  11. Moving day
    This is the last and probably the hardest step in the home-buying process. A little bit of planning and forethought, though, will make for a much smoother move. You will want to make arrangements with a moving company in as soon as you can. Call at least two in order to get competitive quotes. They will usually ask to come to your home to get an idea of how much they will be moving and the distance they will need to travel. Be sure to change your address with the post office, your banks, and any creditors at least 30 days in advance. To avoid late payments, it’s a good idea to actually call and verify receipt of the address change whenever possible. Call to order your utility hook-ups approximately 10 days prior to your move. Be aware that some utility companies will keep you on the phone for a long time.

Rental Property Financing

Lending requirements about the purchase of rental properties are almost as varied as the number of lending institutions. I would definitely discuss your present circumstances and the kind of rental property you would like to buy with your mortgage broker.

If you are looking to buy a house in Ontario for you to move into, and it contains an ILLEGAL basement apartment, some lenders will ‘offset’ a portion of the rent (e.g. 75%) to help you qualify to buy the property.

If the suite is LEGAL some lenders will allow you to ‘offset’ the whole rental income from your mortgage payments. Other lenders will only add the rental income to your total income – so they are only using 32% of the rent to help you qualify.

If you are considering buying separate rental property then there are generally two ways to consider whether you qualify.

  1. You own your present house, you want to rent it out and buy another house for you to move into.
  2. You own your present house and want to remain living in it plus you wish to purchase a rental property.

With the first scenario, you need to qualify for the new house under the ‘normal rules’ – the amount of equity available; GDS of 32% and TDS of 40% of your total income. If you currently have a mortgage on your existing home then the ‘proposed’ rental must cover those payments and expenses.

With the second scenario, your excess income (after the mortgage on your house plus other liabilities are deducted) plus a portion (usually 50% to 70%) of the proposed income are used to calculate your maximum purchase price. This usually qualifies you for a smaller mortgage than the first scenario.

If you have less than 15% equity to invest in the rental property, you will need to insure it under CMHC.

Some of CMHC requirements are:

  • Loan to value may not exceed 80%
  • The underwriting fee for 1 to 4 units is $600 payable with application
  • Insurance premiums are much higher than normal purchase premiums and are due when mortgage funds are advanced (premiums may be added to the mortgage loan)

up to 65%       1.75
up to 70%       2.00
up to 75%       2.25
up to 80%       3.50

The borrower should have a net worth at least equal to 25% of the loan with a minimum of $100,000 though flexibility as to the minimum net worth can be applied.

Mortgage Application Basics

At some point during the purchasing process your mortgage broker will need to complete a mortgage application on your behalf. The following information will be needed for each applicant and any guarantors.

  • Full name and date of birth
  • Address and postal code, how long you have lived there
  • Previous address and how long you lived there
  • Social Insurance Number
  • Number of dependents
  • Home and work phone number
  • Name and address of employer
  • How long you have worked there and your present position
  • Your gross annual income (see below for self-employed)
  • Your previous employment details
  • Your current assets and liabilities
  • How much you have for your down payment
  • All monthly payments

Gross Monthly Income

Gross annual income is the total income that you are paid by a company before any deductions are subtracted. Divide by 12 for gross monthly income. For employment verification your mortgage broker will usually request that you obtain an employment letter from your payroll department confirming your information. A few lenders will allow you to prove income by showing two years of income tax returns and some current pay stubs.


The letter should be on company letterhead and include:

  • Your current gross or base income
  • The date your employment started with that company
  • Your current position or job title
  • Your status – full-time (no extra info needed), contract, regular part-time, or casual

If you are on contract, then the letter must also state:

  • the details of your contract (a copy may be required)

If you are paid regular part-time or casual, then the letter must also state:

  • The dollars per hour that you are paid
  • The number of hours per pay period that you work
  • That the number of hours per pay period (or annually if seasonal) are consistent

OR

  • provide two years of tax returns
  • confirmation of gross income year-to-date

If you received a bonus last year, then you can only use that bonus if you can show that you have received a similar amount for the past few years. Overtime income is treated the same way. There are other types of income that can be used:

  • pension income
  • social security income
  • investment income
  • dividend income
  • income from annuities
  • child tax credits
  • child support income
  • alimony income
  • rental income (including illegal basement apts. in some cases)

Self-Employed Income / Commission Income

When income can change from year to year, the mortgage lenders require different information. Most require either two or three years of tax returns. Most will accept a tax return prepared by an accountant. If you prepare your own tax return they will also want to see the ‘notice of assessment’ sent to you by the Government. The lender will then take your average NET income. Some lenders will permit you to ‘add back’ some deductions to your net income. An office expense write off in your current residence is such an example.

Other types of income that can be used:

  • pension income
  • social security income
  • investment income
  • dividend income
  • income from annuities
  • child tax credits
  • child support income
  • alimony income
  • rental income (including illegal basement apts. in some cases)

The total income is then used to calculate the 32% TDS and 40% GDS.

Assets

Assets include:

  • Canada Savings Bonds
  • Cash in Bank Accounts
  • Cash Surrender value of a life insurance policy
  • GIC’s (guaranteed investment certificates)
  • Mutual funds
  • RRSP’s (registered retirement savings plans)
  • Stocks
  • Superannuation from your employer
  • Vehicles
  • Other real estate property already owned

Liabilities

These are your outstanding debts including:

  • Credit card balances
  • Credit lines
  • Loans
  • Other Mortgages

Your mortgage broker will need to know your current balances, your current payments and the dollar limit of credit cards and credit lines.

Net Worth

The total value of all your assets, minus the total of all your debts equals your net worth. If your debts are more than the total of your assets, you are said to have ‘a negative net worth’.

Downpayment

The amount of money that you are paying towards the purchase of your home is called the downpayment. This is also known as the ‘equity’ that you will have in the property. You should have a good idea of how much you have before talking to your mortgage broker. You will have to show lenders proof of your downpayment – for example: if it is in a savings or investment account, or an RRSP, most lenders will require proof that you have had the funds for three months.

If the down payment is a gift from a family member, you will eventually have to get them to sign a letter saying that the money is a gift and not to be repaid. You will also need to show proof that they have the funds and the funds must be transferred into your account prior to closing date. One way to avoid all of this is to receive the gift, and deposit the funds into your account at least 3 months prior to you even looking for a mortgage or house.

Normally the minimum downpayment allowed is 5% of the accepted purchase price (or appraised value, whichever is lower). However, the less money that you need to borrow, the less you will have to repay! If you have less than 20% as a downpayment then you have a High Ratio Mortgage and if you have more than 20% as a downpayment then you have a Conventional Mortgage.

Total Monthly Payments

These include payments on your credit cards, credit lines, loans and other mortgages. However, it also includes other payments that you must make each month – such as child support, spousal payments and lease payments for a vehicle. Also included are any loans or mortgages that you have guaranteed for other people. Other ‘normal’ payments such as Income tax, phone bills, hydro bills, vehicle or house insurance etc. are not included as they fall into the 60% of your gross income.

Mortgage Discharge Penalties

This is the most difficult topic related to mortgages and it will continue to be confusing until the laws in Canada are changed to require consistency on how lending institutions charge their penalties.

Most lenders charge an early payoff penalty on closed mortgages if the debt is paid prior to the maturity of the term. The lending institution must describe the penalty they could charge on the mortgage document.

The most common penalty is:
The greater of three months interest penalty OR the interest rate differential. In other words, whichever amount is the larger of these two figures will be your penalty. Other kinds of penalties are listed below.

Three Months Interest Penalty

If you are paying off your mortgage before the maturity date, most lending institutions charge three months interest penalty (or an interest differential penalty).

Your present mortgage balance is multiplied by your current interest rate and multiplied by three.

Interest Rate Differential

This usually means the difference between the interest rate on your mortgage contract compared to the rate at which the lending institution can re-lend the money.

For example: 

If your mortgage has a balance of $125,000 at 9.25%, you have 2 years left to go and the current 2 year mortgage rate is 6.25%.
Then the lending institution will probably charge you – $125,000 X 24 months X 3% (9.25 – 6.25) = $7,266.21
However, just to further confuse the issue, the penalty above has not been present valued. This is when a lender charges a lower penalty because you are paying all of the ‘extra’ interest (in the example 3%) now, not over the remaining term. Some lenders present value, other lenders do not.

Other Penalty Calculations

Methods of calculating penalties are as varied as the lenders’ imaginations! The following outline describes some penalties charged by lenders.

Some examples:

  1. Greater of three months interest penalty OR the interest rate differential.
  2. CMHC mortgages registered prior to July 1999 – during the first three years, the penalty is the greater of 3 months interest OR interest rate differential. After three years of payments made on a 4 or 5 year term (or longer) the penalty is three months interest.
  3. CMHC mortgages registered after July 1999 – CMHC mortgages will now have the same penalty clause as the institution lending you the mortgage funds.
  4. Two months penalty interest (based on the floating rate in effect at the time of payout) calculated on the outstanding balance during the first three years of the term and no penalty charged at all for the remaining years of the term.
  5. The mortgage can not be paid out unless there is an arm’s length sale – then the penalty is 3% of the outstanding mortgage balance.
  6. The mortgage can not be paid out unless there is an arm’s length sale – then the penalty is the greater of three months interest OR 3% of the outstanding balance.
  7. Same as above, but not more than three months interest in years 4 and 5 of a five year term.
  8. For non-arm’s length sales – it is the greater of three months interest OR interest rate differential to the bond rate for the remaining term.
  9.  For arm’s length sales – it is the greater of three months interest OR interest rate differential to the current posted mortgage rate for the remaining term.

Here’s More Confusion

  • Do not assume the same lender charges penalties the same way for each type of mortgage. Examples 1, 4 & 5 above are all charged by the same lender on different products.
  • Do not assume the penalty charges you agreed to with the original mortgage document are the same when you renew with the same lender. Their policies concerning penalty charges are always changing.
  • Do not assume the same wording means the same calculation with different lenders. For example the term ‘interest rate differential’ means very different penalty policies with different lenders. The terminology is not used consistently.
  • Do not assume your legal representative or real estate agent is familiar with all the different ‘twists and turns’ of penalty charges.

There have recently been class action law suits against at least two Canadian lending institutions over their practices regarding the calculation of penalty charges. The law is still evolving regarding acceptable practices for calculating penalties.

How the mortgage market works in Canada

In Canada, mortgage rates are set by the major financial institutions, in a “follow-the-leader” manner, with one of them, usually a major bank, taking the “leader” role. All major financial institutions earn a large part of their income on the “spread”, which is the difference between loan/ mortgage rates they charge to borrowers and the rates they pay to depositors/ investors for an equivalent term.

In this section, the basic “cause and effect” factors behind these mortgage rate movements are discussed in greater depth.

How the Bond Market Affects Mortgage Rates

The Government of Canada, and all major nations, finance their activities and accumulated deficits, by issuing “bonds”. In the US they are known as “Treasuries” and in the UK “Gilts”. The duration and interest rate paid on new issues of these bonds depends upon the financial strategy of the Government in power. The accumulated outstanding amounts of these bond issues, past and present, is known as “the National Debt”. New issues are constantly required either to refinance maturing issues or finance current Government deficits, and a bond (say in $100,000 denominations) is considered a “commodity” by the market. Like every other commodity, its’ price can go up or down.

A new bond issue may set a “coupon” rate of interest at current market, say $100 million at 5.8% for an issue of 5-year duration. If this issue is made coincident with an economic or political event which drives down its’ value (say an unexpected “Yes” vote in a Quebec referendum), the effect on interest rates is immediate. The individual $100,000 denomination bond may fall in value to $95,000, thus yielding a significantly higher return for the buyer at the lower price. The combined “yield” of interest and capital gains sets the new base market rate for wholesale funds. Any financial institution seeking funds from these same investors, for example to correct an imbalance in deposit and loan commitments, will have to pay this yield plus a small “premium over Canada’s” to secure them.

Investors who buy and sell these Government securities in large quantities, such as multinational corporations, pension funds and the like, weigh many factors, including the currency value and economic prospects of Canadian and other competing nations’ issues. They then determine what price they’ll pay for Government of Canada Bonds. The price they’ll pay immediately defines the base market rate for wholesale funds. Every day, trends in this rate are watched closely by all Financial Institutions, in order to be in a position to adjust their rates on deposits and loans if require

All Canadian mortgage lenders are acutely aware that their current or potential retail depositors can choose to put their money into none of the financial institutions GIC’s in a rising rate market, and instead buy other “fixed income securities” such as bonds, which yield a higher rate because they adjust immediately to market changes. They can even switch.

Therefore, in the truest sense of the word, the mortgage lending institutions are competing with other markets for the investor’s money. If a bank doesn’t attract enough depositors to fund all the mortgages, they’ll have to go where their depositors go – the money market – to make up the difference….and there, they pay the going rate! their funds into the stock market if this is performing relatively better.

How Market Changes can Affect Mortgage Decisions

The single biggest dilemma for Canadian mortgage borrowers since 1992 has been whether or not to lock in to a long term mortgage or stay ‘short’. History has shown that, overall, it might have been better to stick with a short term or variable rate mortgage. That, however, is 20/20 hindsight, and many who locked in their mortgage at 6.75% in March of 1994 and then watched as rates zoomed through the roof when constitutional discord ravaged the Canadian dollar, would argue that they got the better of the deal. It remains to be seen what the next decade will hold. Let’s consider a few of the dynamics directly affecting rates, and then see how personal mortgage decisions might be affected.

It is clear to see that accuracy in interest rate prediction can only be judged after all the world’s political and economic events have worked their way through the bond market over a period of time. One of the brightest analysts in Canada predicted a cataclysmic National Debt for Canada by the turn of the century, even suggesting that the International Monetary Fund (IMF) would have to place controls over the Canadian currency and foreign borrowings in order to stabilize the situation. Interest rates were confidently predicted by some to be heading back to double digits by the year 2000.

And yet, following severe damage control by the Bank of Canada in the late 1980’s and early 90’s, through draconian monetary policies, combined with fiscal restraint and heavy cutbacks by the Federal Government, Canada’s financial house appears to be in order, paving the way for stable growth with a well controlled interest rate market.

In Canada, the threat of Quebec separation continues to be the ‘wild card’ which could tip the balance in terms of whether the Canadian dollar once again undergoes a prolonged attack. This would force the Bank of Canada to once again defend the dollar by driving up short-term rates and causing Canadian Bonds to be heavily discounted in the market. This would in turn drive up long term rates as explained in the previous section.

This leads us to the conclusion that there are three basic strategies that Canadians could follow given the current state of the market. Each is represented by a “risk tolerance” on the part of borrowers:

  • Stay ‘short’ with a 6 month convertible or variable rate mortgage, watching for indications that a long lasting upheaval warrants either a long-term lock-in or a ‘hedging’        strategy. This approach is for the ‘risk-taker’, or the borrower who can easily absorb significant rate hikes and is prepared to live with a reasonable average over the long haul.
  • ‘Hedge’ your bets by either taking a protected variable rate mortgage with a ceiling at the current, 3 year posted rates; or a split-term mortgage with terms varying from 6 months to 5 years, in amounts which suit your risk tolerance level. This strategy is the best for those that are cautious, and possibly vulnerable to significant rate increases in the near term…or simply partners with different risk tolerances!
  • Lock in now, after negotiating your best long term rate – as long as 10 years from some lenders. This dispels all concerns about the direction of the market, and gives the risk- averse borrower an opportunity to reduce their mortgage balance significantly before they are once again exposed to interest rate risk.