Q. My husband and I have saved $12,000 towards the down payment of a new home. We are concerned about qualifying for a mortgage from the bank because we both have a bad credit rating. Any advice? – Jannes C.
A. Your question raises two points – the significance of a $12,000 down payment and the effect of having bad credit on obtaining a mortgage.
$12,000 Down Payment
Under the rules that govern mortgage lending, down payments of 25% or greater of the purchase price of your home will qualify for a conventional or uninsured mortgage. A down payment of less than 25% requires that your mortgage be insured by Canada Mortgage and Housing Corporation (CMHC) or Genworth Financial. This can cost up to 2.75% of the purchase price of the home.
If the $12,000 equals 25% or more of the purchase price, then you require a conventional or uninsured mortgage. As such, only the credit requirements of the lender would apply. With a down payment of 25% or greater, you have a more significant stake in the property and therefore have more to lose in the event of a default on the payments. In general, lenders will place less significance, or may excuse past credit problems, with a larger down payment.
In most areas, $12,000 would be less than 25% down payment, and in fact may only satisfy the minimum 5% down payment required for an insured mortgage. In this case, applicants must then satisfy the credit requirements of both the lender and the mortgage insurer. The smaller down payment would not be assessed as positively on the mortgage application and therefore may be insufficient to overcome your issue of bad credit.
Bad Credit:
I need to clarify what is meant by ‘bad credit.’ A ‘bad credit rating’ could arise through late payments on loans or credit cards or, more seriously, due to problems such as: repossessions, accounts written off by creditors as uncollectible, past mortgage defaults, or bankruptcy. Minor late payments in the past, if explained, will usually have no negative effect. On the other hand, major defaults and bankruptcy constitute ‘bad credit’ that will impede the ability to obtain a mortgage.
To overcome the negative effect of major ‘bad credit,’ an applicant should demonstrate the following:
-approximately two years (and sometimes as much as six years) to have passed from the date of bankruptcy discharge, before a mortgage request will be considered. This much time is considered necessary to re-establish stability of income, overcome the reasons for the bankruptcy, or to re-establish credit or demonstrate the financial discipline to accumulate a pattern of savings.
-the reasons for the bankruptcy no longer exist.
-the mortgage lender would be looking for demonstrations of re-established financial responsibility over a reasonable time, in general at least a year or longer.
Bev Moir is a financial planner with The Moir Team at ScotiaMcLeod in Toronto.
This article is for information purposes only. It is recommended that individuals consult with their own financial or tax advisor before acting on any information contained in this article. The opinions stated are not necessarily those of Scotia Capital or The Bank of Nova Scotia.
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