Lenders love to make the process of qualifying for a mortgage very complicated and mysterious. However, it doesn’t have to be. The mortgage process is quite simple providing you understand the three basic principles of credit, income, and equity (the latter sometimes referred to as down payment).
The first part of the mortgage process is credit history, which is gauged by a scoring system commonly called a beacon score. Many lenders use the beacon score to determine your credit worthiness and whether your credit is good enough to qualify for a mortgage. Lenders rely on the scoring system because it removes the human element from deciding if someone has good credit and replaces it with a mathematical probability of default that is very accurate.
Items that impact your credit score are length of time you have been on the credit system, how much credit you have, how high your balance is, how you make your payments, whether you have any collections or bankruptcy, how often you apply for credit, and so on. The credit evaluation counts for about 60% of the approval process.
The second part of the mortgage process is income and job stability. Job stability is very important and, since there is no guarantee that your job will continue, the lenders look to see how long you have been on your current job. For the most part they want to see that you have had your job for at least one year. Less than one year is also acceptable if you have changed jobs, providing that your current position is similar to your previous job, and you are past your probation.
Certain types of incomes such as business for self, contract work, part time work, and overtime can qualify but the lender wants to see a two year average to see some consistency in your earnings level.
On the income side, the lenders generally use two ratios to determine how much of a mortgage you can afford known as Gross Debt Service (GDS) and Total Debt Service (TDS). In other words, the principal and interest payments plus the property taxes and heat (commonly known as PITH) divided into your gross income (this is your income before deductions) can’t exceed your gross income ratio of 32%. In addition to the PITH and any fixed payments such as car payments and credit card payments, these cannot exceed the TDS of 40%. There are some exceptions to this rule but, generally, this is the accepted norm. Income and job stability account for 30% of the mortgage process.
So if your credit is good with a decent credit score, you can prove your job stability, and your ratios are in line you would more than likely qualify for a prime mortgage at most financial institutions with as little as 5% down payment. However, if one of the above items is impaired in any way, you may not be able to qualify for a prime mortgage. You may still qualify for a mortgage, though, if you have a larger down payment, but you will generally have to pay a higher interest rate.
The Bank Act requires mortgages greater than 80% of the purchase price or value of the home (High Ratio Mortgage) be insured so that if you default on your mortgage the banks are guaranteed all their money. This insurance is generally provided by one of the insurers in Canada but the most common one is Canada Mortgage and Housing Corporation (CMHC) and, for the most part, they set the rules regarding credit, incomes, job stability, and down payment. If CMHC or one of the insurers will not provide you the insurance then you simply are out of luck. The banks have no say in a high ratio mortgage. Quite frankly, if the insurer would provide the insurance then almost any banks will give you the mortgage. If they won’t then you are out of luck unless you have more down payment. These are the rules that govern most of the mortgages and there are no mysterious processes seeing as all the banks and brokers operate under these particular guidelines.