Purchasing your first home is an exciting milestone, but it can also be daunting. With this guide, you’ll gain an understanding of the home-buying process in Canada, from initial preparations to closing on your new home.
You’ve probably asked “what is a mortgage”, “how much mortgage can I afford” and many more. By following these steps, your questions will be answered and you’ll be well-prepared to make informed decisions and knowing what is to come on this exciting journey!
Step 1 – Am I ready to buy a house?
Before diving into the housing market, you need a clear picture of your financial situation. Here are the key areas to consider:
Income and Employment Stability: Lenders prefer borrowers with stable incomes. If you’ve been with your employer for over two years, it strengthens your financial profile.
Debt-to-Income Ratio (DTI): Lenders will evaluate how much of your monthly income goes towards debt payments. Typically, your DTI should be under 40% to qualify for a mortgage.
Credit Score: In Canada, credit scores range from 300 to 900. A higher score can secure better mortgage terms. Aim for a score of 680 or higher to access more favourable rates.
Savings: You’ll need a down payment and funds for closing costs, property taxes, home insurance, and moving expenses.
Step 2: Determine your budget
Calculating an affordable price range is essential. Mortgage lenders use two main affordability ratios to determine the amount you qualify for:
Gross Debt Service (GDS): No more than 39% of your gross income should go toward housing costs (mortgage payments, property taxes, heating, and half of condo fees).
Total Debt Service (TDS): No more than 44% of your income should go toward all debt obligations, including housing costs, car loans, and credit card payments.
Step 3: Explore mortgage options – what are they and how do they work?
Choosing the right mortgage is crucial. Familiarize yourself with different mortgage types, payment schedules, and rates.
Fixed-Rate Mortgage: The interest rate remains the same throughout the term.
Variable-Rate Mortgage: The interest rate fluctuates with the prime rate, which could lead to lower or higher payments over time.
Mortgage Term and Amortization:
Term: The duration of your mortgage contract (usually 1-5 years).
Amortization: The time it will take to repay the mortgage (typically 25 years).
Interest Rates:
Fixed: Rate remains consistent, offering stability in budgeting.
Variable: Rate changes with the market, potentially leading to lower payments.
Repayment
Closed Mortgage: Generally cannot be paid off in full before the term ends without incurring prepayment penalties, unless specified exceptions are included in the mortgage agreement.
Open Mortgage: Allows you to pay off your mortgage in full or in part at any time without penalty, though it typically comes with higher interest rates.
Step 4- Mortgage pre-approval and pre-qualification process
Pre-approval and pre-qualification – they’re the same, aren’t they? No, these two are not the same but here is what will set them apart.
Mortgage Pre-Qualification:
Mortgage pre-qualification is the first step in getting a mortgage. It’s when information has been provided by a borrower but is not yet verified. You supply your overall financial picture, but there is no analysis of your credit report.
Pre-Approval:
Getting a pre-approval gives you an estimate of how much a lender will lend you, based on your financial situation. Benefits include:
Knowing your budget
Strengthening your offer when bidding
Locking in an interest rate for 60-120 days (depending on the lender)
Note: Pre-approval doesn’t guarantee final approval, as it depends on the property you choose and your financial situation at the time of purchase.
Step 5- Mortgage amount, what do I qualify for?
In general, your credit score and the size of your down payment influence the interest rate a lender will offer. If your credit score is low (below 700 on a scale from 300 to 900), the lender may require a larger down payment to qualify for a mortgage than they would with a higher credit score.
The mortgage amount you’re eligible for is based on:
Your ability to manage monthly mortgage payments comfortably.
The lender’s confidence in your creditworthiness, as reflected by your credit score, which influences the interest rate they’re likely to offer.
The size of your down payment, which affects the amount you’ll need to borrow to cover the remaining property cost.
To maintain affordability, your total monthly expenses, including the mortgage, should ideally be manageable within 50 percent of your monthly income. This aligns with the 50:30:20 monthly income budgeting rule:
50% - Necessities (mortgage, utilities, groceries, transportation, etc)
30% - Wants (entertainment, shopping, entertainment)
20% - Savings (financial goals, paying debt, retirement savings)
Step 6 – Downpayment & CMHC
The down payment is essential, and the minimum amount depends on the property price:
5% for homes under $500,000
10% on the portion between $500,000 and $999,999
20% for homes priced at $1,000,000 or more
If you put down less than 20%, you’ll need mortgage insurance through the Canada Mortgage and Housing Corporation (CMHC), which protects lenders if you default on payments.
In addition to the down payment, expect to pay closing costs, which are typically 1.5-4% of the home’s purchase price. These include:
Legal fees
Home inspection
Property Appraisal
Title insurance
Land transfer tax (often covered in part by rebates for first-time home buyers)
Step 7 -How Are Mortgage Rates Determined?
Mortgage interest rates in Canada are based on the prime rate, a benchmark rate used by banks to set interest rates for variable-rate loans, lines of credit, and mortgages. Each financial institution sets its own prime rate; however, when one major institution adjusts its rate, others typically follow within a day or two, aligning with the new rate.
Who Sets the Prime Rate?
The prime rate is influenced by the Bank of Canada (BoC) overnight target rate, which is the rate at which banks borrow funds from the BoC. This target rate serves as a guide for banks when setting their prime rates.
How Does the Prime Rate Affect My Mortgage Rate?
Your mortgage rate is influenced by various factors, including the prime rate. Lenders may adjust the rate they offer based on their current loan and mortgage growth targets, the security of the loan, and your credit history. In a competitive lending environment or when loan demand is lower, lenders may offer rates close to or just above the prime rate, benefiting borrowers. If the mortgage is secured, some lenders may even offer rates below prime.
As a First Time Home Buyer, What can I afford using My Mortgage Calculator?
Navigating the world of mortgages as a first-time home buyer can feel complex, but understanding the basics of mortgage rates, saving for a down payment, and the importance of pre-approval and pre-qualification can set you on the path to success. At The Mortgage Collective, we’re here to guide you every step of the way, helping you make informed decisions tailored to your financial goals and unique circumstances. Whether you're preparing to secure a favourable rate or optimizing your savings strategy, our goal is to support you as you take these exciting first steps toward homeownership.
Remember, with the right preparation and a trusted mortgage broker in Red Deer, your dream home is within reach!
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