Sunday, May 1, 2011

Buying: show me the money

I'll detail, some details anyway, the process that led to us buying our home (we aren't in it yet, but the subjects are off the sale agreement). It's a bit much to deal with in one post, so I'm going to break it up into several blog posts and intersperse those into the regularly scheduled state of the market updates we do around here.

Today it's all about the mortgage pre-approval. If you're shopping without one, I have to ask why? It seems entirely illogical to me to not know what the bank thinks of you before heading down the long drawn out path of purchasing a home.

When we began our house hunt, over four years ago, we had a period of about 6 months where we were "covered" by a pre-approval. I don't recall what our TDS (total debt service) ratio was back then so unfortunately I won't be able to compare the changes between then and now. We let the last pre-approval lapse in the fall of 2007 as we'd decided we weren't seriously shopping for a home in those market conditions.

Last fall, we undertook the process again. Financially speaking, the HHVs were in an entirely different place from 2007. The mortgage approval reflected this. And I was shocked, as was my wife. TDS was approved at over 42%. I nodded to the mortgage officer and said "I guess this explains the high prices eh?"

Since day one, we've had a total dollar figure target that we felt was a reasonable amount of debt to carry. Back on the day we made "the call" that dollar amount was representative of 3.25 times our annual income.  Even as prices rose, we'd resolved ourselves to stick with that number -- it simply meant we'd have to save more before we bought if prices didn't drop. The amount of money the bank was willing to give us was around 40% more than what we felt we should spend. Another shocker. But once we got over the bank wanting to make us debt slaves to them, we realized if we stuck to our plan of spending considerably less it meant we could do it on one income and further insulate ourselves from interest rate and employment changes.

Our original locked-in rate offer was over 5%. I think it was around 5.4% or so. This time around, last fall, we were offered 3.24% for 5 years. When we renewed that locked-in pre-approval, it had risen to 3.49%.

We didn't use a mortgage broker. Not that we have anything against them. But the connections in our lives led us directly into a retail branch of a big 5 bank and we were happy with the product offering and the service we were provided. Our mortgage contract allows us to double the payments and make 15% lump sum payments annually. What this means is, if our mortgage amount was $100,000, we could drop $15,000 extra onto the principle each year AND if our monthly payment was $400, we could double it to $800 effectively allowing us to pay almost 20% extra off the principle annually without any penalties. Is that a great product comparatively to what else is out there? I'll let the experts judge, but it works for us.

We took out a 30 year amortization. The only reason we did so is because of the perceived flexibility it offers us to adjust payments based on what's occurring in our world financially. We'll be paying on a rapid bi-weekly schedule and adding 15% extra to every payment. That puts us on an 18-year amortization schedule effectively. We may end up making extra lump sum payments onto the mortgage each year depending on how our other savings vehicles perform. None of our regular savings efforts will need to be adjusted because of the mortgage. In other words, the TFSA and RRSP installments continue as is -- it would have been a deal breaker for us if we'd have to compromise these savings efforts.

We had all this sorted out before we even went in to get pre-approved. But the process necessitates you to make these decisions once you have an actual property purchase agreement in place, so these kinds of discussions may not occur with your lender until you've gotten to that stage. 

13 comments:

a simple man said...

It is stunning how much banks will lend - We are pre-approved for almost four times what we would feel comfortable with borrowing.

Talking with my younger sister, she says that almost all of her friends take the maximum amount the bank will lend them and try to buy as close as they can to the top number and only worry about carrying costs. Works for ever-appreciating houses and with very low interest rates - fails otherwise.

We are in for a ride downward. Financial literacy is a lost skill.

omc said...

should be interesting tomorrow with the sales so low. I wonder if the Vancouver rumours are true.

Phil said...

House prices are clearly a reflection of how much banks will lend and not how much people are making.

The banks don't care if a hairdresser or barista borrows 300K for a condo, as long as it's insured by the CMHC (taxpayer). I lay the blame squarely at the feet of the government for getting into bed with the devil (banks).

Victoria said...

I miss seeing all of these comments. Can someone volunteer to setup a blog to keep these threads going on the Victoria BC market.

HouseHuntVictoria said...

@Victoria, this blog will continue.

DavidL said...

@HHV

Taking the time and care to assess your financial situation and determine your "comfort zone" for a mortgage was a smart move. All to often, people spend the maximum offered by the lending institution.

My wife and I could qualify for close to $1M, but the thought of being so heavy indebted would cause me sleepless nights and marital stress. Additionally, I plan to retire in 20 years (or less). If I had such a huge mortgage - what the heck would I retire on?

Now that there is no longer mandatory retirement at 65, the banks are quite happy to offer 30-year amortizations to someone in their 50's - without the expectation that it will ever be fully paid off. I know a number of seniors in this position who are desperately trying to sell as they can no longer make their payments.

Marko said...

Monday May 2, 2011 8:15am:

Apr Apr
2011 2010
Net Unconditional Sales: 574 756
New Listings: 1,577 1,783
Active Listings: 4,561 4,229

Please Note

•Left Column: stats for the entire month from this year
•Right Column: stats for the entire month from last year

Just Jack said...

Your age should have nothing to do with obtaining a mortgage as the lender is backing the loan with the asset.

Someone who is 96 years old can get a 30 year mortgage.

One of the problems of the last decade or so is that the lenders have switched from using the actual house as collateral to one of risk management by using one's ability to repay the mortgage. This allows the lenders to give out massive mortgages based on a person's salary while skirting the issue of collateral.

This is how people received loans before the great depression of 1929. The great depression brought in rules for lending which included sufficient collateral.

Now that we follow risk management, CMHC, has become the collateral for the mortgage not the value of the house.

And we have all seen how this has worked out.

DavidL said...

Thanks for the stats, Marco. Sales are a little higher than I expected - but still down 24% from April last year (which was an exceptional month).

DavidL said...

@ Just Jack wrote: Your age should have nothing to do with obtaining a mortgage as the lender is backing the loan with the asset.

That's fine, as long as the value of the asset does not depreciate ... in which case "ability to repay" should be considered.

I maintain that CHMC should only be able to insure 80% of the assessed value (at time of sale), and the lending institution must assume the risk for the remaining 20%. I belive that this would [1] cause the banks to ensure that the borrower is fully qualified (including examining ability to repay) and [2] cool down market speculation as there would be less focus on percieved future value.

DavidL said...

Whoops! Sorry for the typos.

HouseHuntVictoria said...

@DavidL,

CHMC is rarely on the hook for more than 20% of the total value of a product. They insure the "sub-prime" portion of the down payment. Without that insurance, the banks wouldn't finance anyone who doesn't have a 20% down payment. CMHC insurance covers the spread between market value of the home at time of sale and the amount owed on the insured-mortgage.

Just Jack said...

The banks would finance someone with less than 20 percent down. The first 80 percent of the mortgage would be at regular rates and the balance would be at a substantially higher rate.

Most prospective buyers would avoid that scenario like the plague and would wait longer to build up a 20 percent down payment. Today's 5% down on a condominium can be put on your credit card and you pay the regular interest rate.


----------------
CMHC can easily take a bath on the sale of the home. While the market may fall 10 percent, a home under foreclosure can fall a lot more than 10 percent.

Firstly, because when the banks gets conduct of sale, the owner is usually long gone. So the court acts as the "seller". Then prospective buyers can't have "subject to ... conditions". All offers are final and unconditional. And lastly you accept the condition of the property on the day the title is transferred, appliances and other portable property are not included in the sale, the previous owner has the right to them.

And these properties are generally run down and neglected by the time the bank has gotten conduct of sale. Some have even been vandalized.

Too bad CMHC started insuring jumbo loans, their exposure on high price homes is ridiculous.
For example, suppose a well known hockey player's $14,000,000 house went into foreclosure and had to sell in 90 days. I'd bet that your highest offer might only be at half that amount. If you even got an offer in that time.

My opinion, is that CMHC should go back to insuring home owners. Not secondary homes, not recreational properties, not rental properties, and not millionaires with jumbo loans.


Maybe the next time I'm at the massage parlor, I'll ask Jack if I can oversee the changes to CMHC.