Home-buying 101: the 4 essential pieces of pre-mortgage homework

You advise your students of the importance of doing homework so they can be better prepared for any tests that you (and life) will spring on them. That’s very good advice.

If you’re in the market for a mortgage, you’ll want to follow that same, smart advice—particularly if you’re a first-time home buyer. That’s because not doing your homework beforehand could potentially unveil a few roadblocks, which could prevent you from getting a mortgage.

Here are four essential pieces of homework to help improve your chances at landing that mortgage:

#1: Review your credit report/credit score

This is number one for a reason since the entire probability of your mortgage application getting approved revolves around your credit situation. Is it good? Is it bad? Do you even know? It can take quite a bit of time to fix credit-related issues, so you definitely don’t want to hold off from doing this until the last minute.

Why reviewing your credit report is so important:

• It provides an overview of your entire financial history
• Potential lenders use your credit report and credit score to determine the likelihood of you paying off debt, as well as how much interest they may charge you
• Knowing your credit score beforehand gives you an idea whether you’ll be approved for a mortgage, and the chance to improve it before applying

How can you get a copy of your credit report?

You can order a copy of your credit report from either of the two major credit reporting agencies in Canada: Equifax or TransUnion.

What if you spot errors on your credit report?

Immediately contact the credit-reporting agency from which you obtained your report. It’s always a good idea to check your report at least three months before you start shopping around for a mortgage (as it could take some time to resolve any errors or eliminate some of those debt items).

What is the difference between a credit report and a credit score?

Think of your credit report as a detailed ‘report card’ that captures your overall debt history, whereas your credit score is your final grade average when it comes to managing that debt. Except instead of an A+ or B-, your credit score consists of three digits between 300 and 900.

Here is the scoring system so you see how your score rates:

CREDIT SCORE:	300 – 559	560 – 659	660 – 724	725 – 759	760+
QUALITY:	Poor	Fair	Good	Very Good	Excellent

Why is your credit score so important?

Prospective lenders will use your three-digit credit score to determine your likeliness to pay off future debt (such as the mortgage you want to apply for). If you don’t have a good credit score, the lender may refuse to approve your mortgage, or decide to approve it for a lower amount, and/or a higher interest rate.

Knowing your credit score beforehand will give you a realistic expectation on whether your score is high enough for a lender to approve you for a mortgage loan. If your score is on the lower end of the spectrum, you can then focus some time on building up your credit rating before going through the mortgage application process.

Did you know we offer a ‘Credit Score 101’ Lunch and Learn, exclusively for education members? Have one of our financial specialists contact you for more details and to book.

#2: Get a pre-approved mortgage

‘Love at first sight’ may end up in heartbreak if you rush into house hunting before finding out if you can actually afford the property you have your heart (and sights) set on. The pre-approval process will determine the maximum amount a potential lender will qualify you to borrow.

The benefits of getting a pre-approved mortgage include:

• Getting a more realistic expectation of which homes you can afford
• Being able to estimate your mortgage payment, so you can budget your cash flow accordingly

What kind of information will be required for a pre-approval?

• Identification (usually two pieces of government-issued identification with your photo)
• Current pay stub/proof of employment, along with a letter from your school board (to help substantiate your employment/income)
• Recent financial statements (to show you can cover down payment and closing costs)
• List of assets (vehicles, investments, etc.) and liabilities (credit card balances, car/student loans, lines of credit, etc.)
• Completed Credit Application

What questions should you ask during the pre-approval process?

• “How long is the pre-approval good for?”
• “What information is included in the pre-approval?”
• “Will the pre-approval list conditions I may need to meet? When will I need to meet those conditions?”
• “Can the pre-approval be extended?

A few other things to keep in mind about a mortgage pre-approval:

• A pre-approval does not guarantee that you will get the mortgage loan
• Once you have a specific home in mind, the lender will want to verify that the property meets certain standards (such as the market value or condition of the home) before approving your loan
• If certain standards aren’t met, the lender could decide to refuse your mortgage application (regardless of whether you were pre-approved for a certain amount)

#3: Learn your ‘GDS’ from your ‘TDS’

Mortgage lenders use two financial formulas when determining how much mortgage to approve you for:

Gross Debt Service (GDS) ratio: This is the percentage of your gross income before deductions (such as income tax) that would be required to cover home-related costs such as mortgage payments, property taxes, heating, and condo fees.

As a general rule of thumb, the GDS ratio should not be more than 32% of your gross income.

Total Debt Service (TDS) ratio: This is the percentage of gross income required to cover home-related costs including mortgage payments, property taxes, heating, and condo fees, if applicable—plus all of your other debts, such as credit card payments, car/student loans, lines of credit, child or spousal support payments, etc.

Generally, the TDS ratio should not be more than 40% of your gross income.

#4: Educate yourself on your mortgage options

Fixed rate or variable. Open vs. closed. The power of choice is a good thing. But if you don’t know even what your mortgage options are, or what differences exist between them—you could end up making the wrong choice.

 To choose the mortgage that’s right for you, it’s important to first become familiar with your interest rate alternatives.

• Fixed interest rate: With this option, the interest rate remains set for the entire term, as does the amount of your regular mortgage payments (which means you’ll know in advance how much of the original loan amount will be paid off during the term)
• Variable interest rate: With this option, the interest rate can increase or decrease during the term according to changes in market/Bank of Canada interest rates

Next, learn more about the types of mortgages.

Most lenders offer two types of mortgages: open and closed.

The main difference between these types of mortgages is the amount of flexibility you have in making extra payments (also known as ‘prepayments’) on the principal, or in paying off the mortgage completely.

• Open mortgage: With this option, you can make prepayments at any time during the term, or even pay the mortgage off completely before the end of the term, without having to pay a prepayment penalty
• Closed mortgage: With this option, the interest rate is usually lower than that of an open mortgage. However, if you want to change your mortgage agreement during the term (e.g., make more than the maximum prepayments allowed per year to take advantage of lower interest rates), you will usually have to pay a penalty charge to break your mortgage agreement

Excel at doing your pre-mortgage homework by checking out our A to Z mortgage glossary.

At the end of the day, the most important lesson when it comes to the home-buying process: the more pre-mortgage homework you do, the better off you’ll be.

That’s where Educators Financial Group can help. We take the guesswork out of the mortgage application process by going over all of your options. That way you’ll end up with a mortgage that best suits your needs, goals, and budget. No matter where you are on the pay grid, or what your income is in retirement.

Need help with your mortgage homework? Reach out to us. We can answer your questions and even customize a mortgage with your specific needs in mind.

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