The overview presented a general rule of thumb to decide how much home you can afford, and now it’s time to accurately budget. Lenders generally follow two simple rules to determine the size of mortgage you qualify for:
PITH – monthly housing costs should not exceed 32 per cent of your gross monthly household income. These costs consist of monthly mortgage payments—principal and interest—property taxes and heating expenses (Principal, interest, taxes, heating=PITH).
TDS – Monthly debt should be less than 40 per cent of gross monthly income. This includes PITH from the previous rule in addition to other debt payments, such as credit card payments and car loans. This figure is referred to as Total Debt Service or TDS ratio.
Canadian Mortgage and Housing Corporation’s “Are you Financially Ready” is a complete resource for figuring out home much of a home you can afford. Use their home affordability calculator and other budgeting tools to calculate your monthly household expenses and debt load to determine what you can afford.
Costs of buying a home
Be prepared for a bunch of upfront costs when buying a home. Even if opting for a low down payment of 5 per cent you’ll still have to fork out several thousand dollars between home inspection fees to title insurance before you get the keys to the house. And after unlocking the door to your new home you still face a number of other costs such as gardening equipment, decorations, repairs and moving expenses.
Use this home purchase cost estimate worksheet to sort out what you’ll need to pay and plan accordingly. If you want to add sustainability modifications, such as solar panels or a composting toilet, to your home, remember to add those in to your total home cost on the worksheet. Though buying a home is expensive, you may qualify for rebates (and green homes qualify for even more rebates than conventional homes).
Tax rebates and incentives
- The federal government’s Home Buyers’ Plan lets you withdraw up to $25,000 from your RRSP to buy or build a home, which gives you 15 years to repay that amount tax-free. Visit the Canada Revenue Agency for more details.
- When purchasing an energy-efficient home you could also qualify for a 10 per cent mortgage loan insurance premium refund and extended amortization (if using CMHC-insured financing). Visit CMHC Green Home for more details.
- Look into additional energy-efficiency incentives at the NRCan Office of Energy Efficiency’s Financial Assistance page.
What to do if you can’t afford a home?
If after running through the previous exercises you’ve found that you cannot afford a home, or cannot afford the type of home you want, you have a few options:
- Improve your financial position by saving up, spending less and paying off loans.
- Lower your expectations in a home or look at a cheaper location to live.
- Buy a larger home than your needs dictate (f you can finance it securely) and rent out a part of it to help pay the mortgage and expenses.
- Buy a home as an income property while you rent (or live with family) to save up to buy the home you desire.
- Build your own home or take part in a program in which you can assist in the building.
Assess your credit
Before lenders will approve your mortgage they’ll check your credit history to determine how you’ve used credit in the past and if you’re a risk to them or not. Request a copy of your credit report from one of the leading credit-reporting agencies, such as TransUnion or Equifax. You can request a free credit report online or by calling 1-877-322-8228 in the U.S. In Canada a small fee will be charged for this service.
If you’re in no rush to buy, it’s a wise idea to improve your credit rating in advance of buying a home so that when the time comes to buy, lenders will look more favourably upon you.
If you have no credit rating at all, you can establish a rating by getting a credit card, making some small purchases then paying them off immediately upon receiving the monthly statement.
If you have poor credit, it’s worth talking to a credit counsellor. The Credit Counselling Society offers free credit counselling, bankruptcy and debt consolidation help via phone or online chat. Give them a call at 1-888-527-8999 or visit them online at nomoredebts.org. The good news is that most negative credit history, even bankruptcy, falls off your file after seven years.
Apply for pre-approval
Contact your bank or mortgage broker for pre-approval. By taking this step you’ll know how much you can afford before you go through the process of buying a home. Decide what kind of mortgage you want (i.e. open or closed). Make sure you do a full needs-analysis with your lender to figure out what’s right for you.
Once pre-approved you’ll receive a limited-time written confirmation, approving you for a fixed interest rate. According to CMHC, however, a pre-approved mortgage doesn’t actually guarantee being approved for a mortgage loan. When meeting for a pre-approval, bring your personal documentation and proof of salary, assets and debts with you.