Getting a Mortgage When in Debt
Owning a home is a dream that many people can relate to.
Being able to move away from renting and dealing with landlords is liberating, but there are a couple of challenges to overcome before you can safely get a mortgage.
One of those is dealing with your debts.
Being in a challenging financial situation can make it hard to get a great deal on a mortgage.
Depending on your credit rating, you might find that your options are limited.
So in this post, we’ll be explaining your options for getting a mortgage if you’re in debt.
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Explaining your financial situation during the pre-approval process
Before anyone can be eligible for a mortgage, lenders will ask you to go through a pre-approval process.
This will be used to examine your financial situation and circumstances to see if you’re a suitable candidate for a mortgage.
This pre-approval process will dive into your financial background, your income and also your debts.
It’s important that you prepare any documents related to your incoming and outgoing money to speed up this process and give a more accurate representation of your financial situation.
Calculating your income
The first step is analyzing your income.
Your lender will ask you to provide proof of income which can include invoices, pay stubs and other formal documents.
You can also provide tax return documents to show how much you’re earning and paying in taxes.
This initial process will determine how much you can borrow from a lender for your mortgage and could also determine a suitable down payment amount.
Calculating your liabilities
The second step is to calculate your liabilities.
This will include all of your unsecured and secured debt obligations including a car financing loan, lines of credit, student loans, child support payments and so on.
You’ll need to provide the documents to show your liabilities.
When combined with the previous step of calculating your income, this will show lenders how much money you have left over to pay for a mortgage.
Calculating how much you can spend on a mortgage
For example, if you’re repaying $400 a month for a personal loan that you took out, then $400 will be deducted from your total income when used in your pre-approval calculation.
For unsecured debts such as a credit card, lenders will typically reduce your income by a small percentage of your current balances.
For instance, if you have a balance of $5,000 in unsecured debt, 3% of it ($150) will be deducted from your income calculations.
The goal here is to show that you have enough money to pay for a mortgage despite your current debt situation.
If you’re unable to show that you have a sufficient amount of income after all your debts have been taken into consideration, there’s a high chance that your application will be declined and you’ll fail the pre-approval process.
The financial stress test
The Office of the Superintendent of Financial Institutions requires lenders to pass a financial stress test in order to be eligible for a mortgage.
When your pre-approval rate is calculated, lenders will calculate a slightly higher interest rate and test it against your income.
This stress test is to ensure that, should you face financial difficulties for a short period of time, you’ll be able to recover and continue paying for your mortgage.
In most cases, this stress test will be 2% higher than your pre-approval rate.
Alternatively, you’ll need to qualify at the Bank of Canada’s five-year benchmark.
If you’re able to pass this financial stress test, you’ll likely be considered for a mortgage despite any debt that you’re currently facing.
What if your debts are too high?
There may be a situation where your debts are too high to be eligible for a mortgage.
In a situation like this, we highly recommend that you focus on overcoming your financial difficulties before you decide to apply for a mortgage.
This will ensure that you have the highest chance of being accepted for a mortgage with a low-interest rate.
Paying your debts can take a long time and you generally don’t want to do anything that could add a negative mark to your credit history.
Having a poor credit rating can lower your chances of being accepted for a mortgage and it’ll take a long time to clean your history.
We highly suggest that you start budgeting seriously to plan ahead for your mortgage.
By paying above the minimum and lowering your personal expenses, you’ll be able to solve your debt problems before you decide to apply for a mortgage, thus raising your chances of being accepted.
The final verdict
To answer the title; yes, you can get a mortgage if you’re in debt.
In fact, it’s very normal to possess some level of debt before you decide to take out a mortgage for a home.
Whether it’s secured debt such as a car loan or unsecured debt such as a credit card balance, it’s completely normal to apply for a loan while in debt.
However, your liabilities will still be taken into consideration and compared against your income before you can be accepted for a mortgage.
The pre-approval process will determine if you make enough money to both pay off your current liabilities and also the proposed debt.
Having more income available after paying off your debt will also ensure that you can pass the financial stress test, and it’ll also help you get a better interest rate.
If you’d like to learn more about getting a mortgage while you’re in debt, don’t hesitate to contact us today for more information.
We understand it can be challenging to cope with a difficult financial situation while searching for a mortgage lender, so we’re more than happy to assist you and offer solid financial advice.