How to avoid the 8 most commonly made mistakes of homebuyers

by REICO on 29 August 2015

There are many factors to consider once a family has made the decision to purchase a home. Unfortunately, many homebuyers only focus on the mortgage interest rate and features that they would like to have in the home. But these ‘other factors’ can have serious consequences if they are not taken into consideration. They not only impact their ability to purchase the home they also affect the household’s long term cash flow and the homeowners’ ability to avoid thousands of dollars of interest that could have easily been avoided. To help renters, who have made the ‘big’ decision to purchase a home; we’ve put together a list of eight of the most common pitfalls, which our financing experts at REICO can help you to avoid.

1. 1. Not knowing your credit score

A credit score is a number that tells lenders about your past credit history, current financial situation and financial habits. This number will be between 300 – 900, and in the eyes of the Banks and Lenders, it reflects your ability to pay back the mortgage. As a rule of thumb, a score of 680 and higher will allow you to get a mortgage at a great rate. Every financial institution has its own minimum credit score guidelines. However, many financial institutions will not give you a mortgage for credit scores below 620. If you start looking for a home without knowing your credit score, which can be achieved by obtaining a pre-approval or credit check, then you risk incurring expenses and losing time. In extreme circumstances you could face serious financial liabilities and/or a law suit if you sign an offer without including a financing clause and were declined a mortgage.

We can guide you through the ‘credit check’ process to determine your credit rating. If your credit score needs to be improved before you can qualify for a mortgage, there are several strategies that you can do immediately that will improve your credit rating. One of our top recommendations to our clients is to always make at least the minimum payments on their credit cards, loans or utility bills on time.

(TIP: Checking your history is easy! You can simply go to www.equifax.ca to obtain a copy of your credit score and report.)

2. 2. Thinking you won’t qualify for a mortgage

 Many people with ‘bruised credit’ naturally assume that they won’t qualify for a mortgage to buy a home.

These individuals usually fall into one of the following categories,

• ~Self employed, with low ‘reported’ income
• ~Recently discharged from bankruptcy
• ~Recently completed a credit proposal
• ~Low credit score
• ~Recently established credit

But they are only partially correct. The banks, which are ‘A’ lenders, will typically decline a mortgage for individuals who fall into the categories mentioned above. ‘A’ lenders usually only approve applicants who are full time employees, have good credit and have not claimed bankruptcy or completed a consumer proposal recently. Subprime or ‘B’ lenders usually have financing solutions for families who are declined by the banks. ‘B’ lenders have specially designed products for families who want to buy a home and have no other alternatives. Homeowners enjoy more freedom, security and savings in the form of equity and appreciation, so it would be worth your time to see if you qualify.

3. 3. Not knowing all the down payment choices

 There are different options available depending on how much of a down payment you can afford. The minimum down payment is usually 5%. Sometimes lenders have special promotional offers where your down payment is effectively 0%. However, to qualify for these types of mortgages a high credit score is required and the applicants are usually employees of a company. Conventional mortgages require that the purchaser make a 20% down payment. In some instances down payments have been as high as 35%. A popular option is the federal government’s Home Buyer’s Plan, where first-time homebuyers are eligible to use up to $25,000 in RRSP savings per person ($50,000 for couples) for a down payment on a home. Withdrawals are not taxable as long as you repay it within a 15-year period. To qualify, the RRSP funds you plan to use must have been in your RRSP for at least 90 days.

4. 4. Not choosing your own mortgage payments schedule

Which is better, to pay your mortgage weekly, bi-weekly or monthly? The answer is…it depends! Theoretically, it is better to pay off your mortgage as soon as possible because if you were to make monthly payments on a 25 year mortgage at the posted interest rate, then at the end of the amortization period (the total time it takes to pay off the entire mortgage), you would have paid 2-3 times the original purchase price of the house. Paying off your mortgage sooner saves you compounded interest costs. This can be done by paying your mortgage weekly or bi-weekly. However, the option to pay off the mortgage sooner depends on how much you can afford. It might not make sense to make unnecessary sacrifices and/or prolong other expenses and debts just to reduce your mortgage by 5-10 years. Paying your mortgage a little slower or choosing a longer amortization period reduces your regular monthly mortgage payments and gives you more room to manage your cash flow. However, an extended amortization schedule means increased interest costs and paying down a mortgage more slowly, so this option isn’t for everyone. From a practical standpoint, it may be wise to create a household budget then subtract all of your necessary expenses and debts from your household income to determine your available (disposable) income.

REICO’s mortgage broker partners will help you to determine all of your available mortgage payment options that allow you to select the most appropriate choice that takes both your desired lifestyle and the day that you will be ‘mortgage free’ into consideration.

5. 5. Focusing too much on the interest rate, rather than the overall solution

 Most homebuyers give more thought to interest rates than the mortgage solution itself. The misconception is that the interest rate will determine how fast they can pay off their mortgage. They believe that a lower interest rate means that more of their money will be decreasing their principal faster, therefore the less interest they will have to pay. While this is a valid point it does not always give the homeowner the maximum savings that they were hoping for. A strategy that takes into account the different types of mortgages, their pre-payment structures, terms and flexibility will have a much greater impact on the overall cost of homeownership.

Fixed rate mortgages’ interest rates stay the same during the term of the mortgage. You know exactly how much of your payment is applied to principal and how much goes to the interest. Fixed rate mortgages are great types of mortgages to get when interest rates are low and are expected to go up!

Variable rate mortgages can have payments that remain the same and when the rates go down, more of your payment goes to pay the principal and less to interest, enabling you to pay off your mortgage sooner. When rates go up however less of your payment goes toward the principal and more goes to interest. Historically, variable rate mortgages offer the greatest potential for long-term savings on interest costs than fixed rate mortgages.

Pre-payment Options have a significant impact on paying off your mortgage quicker. The ability to pay an extra 10%, 15% or 20% has the biggest effect on your mortgage interest costs. Different mortgage lenders and banks have different pre-payment privileges so if your mortgage decision exclusively relies on the rate then you may be missing out on great pre-payment options.

Mortgage Terms are the duration of time (1, 3, 5, 7 or 10 years) that you have the certain interest rate, mortgage features and conditions with a particular lender. The biggest danger is if you choose a short term mortgage based upon a low interest rate and then the interest rates rise in the future just before it is time to renew your mortgage!

The best way to pay less interest and pay off your mortgage quicker is to strategize with REICO’s mortgage broker partner to create a plan which takes all of the factors that we have mentioned into consideration to MAXIMIZE your cost savings!

6. 6. Not considering a mortgage pre-approval

 A pre-approval has many advantages;

• ~It lets you know the price range of houses that you can afford. Thereby, saving you time, money and heart ache.
• ~It lets real estate agents know that you are a serious buyer, which encourages them to spend more time with you and serve you better.
• ~It identifies any problems with your credit that could prevent you from getting a mortgage.
• ~It ensures that you get the lowest interest rate. A pre-approval guarantees you a particular interest rate. If the interest rates change in the weeks or months that you are searching for a home then you have the option of getting the interest rate quoted on the pre-approval or the lowest rate available from the mortgage lender or Bank at that time.

While a pre-approval does not guarantee that you will get a mortgage, it better prepares you for homeownership.

7. 7. Being unrealistic about how much you can afford to pay for your home 

You may be thinking that you may not be able to afford a mortgage because of all of the ‘other’ associated homeownership expenses, such as taxes and utilities. However, when interest rates are low, you may be pleasantly surprised as to how manageable the costs of homeownership can be. A few minutes with a mortgage calculator may lead to a lifetime of homeownership.

8. 8. Forgetting about closing costs

 Closing costs are the fees, taxes and expenses that are required to be paid before the real estate purchase will close and you can get the keys to your new home. This step is after you have fallen in love with the house, your offer is accepted and the mortgage is conditionally approved. Planning for these costs in advance will minimize any last minute complications. When calculating closing costs, it’s fairly safe to assume you’ll need an additional 3% of the purchase price to cover such things as,

• ~Professional home inspection
• ~Lawyer or notary fees
• ~Land transfer tax
• ~Property tax/utility bill adjustments
• ~Property insurance

The best way to ensure that you will have the closing costs available is to ensure that you have at least 8% (5% down payment & 3% closing) of the purchase price of the house before you obtain a mortgage pre-approval.