Understanding your affordability
Your credit score isn't the only factor lenders consider when looking at your financial health. Lenders will want to see a whole list of financial documentation, including:
- Income statements, like tax forms and tax returns. If you're self-employed, you may need to provide two years of tax returns to show the sustainability of your business.
- Assets, like bank account and retirement account balances
- Debts, including credit cards, student loans, and car loans
- Current major expenses, like rent, and ongoing obligations like child support
- Down payment savings and any gifted down payment amounts. If your down payment is less than 20%, you'll need to pay mortgage insurance as part of your mortgage payments. Different lenders have different minimum down payment requirements, but generally require 5%+.
Affordability is based on your income vs your costs with a given mortgage amount. There are two measures used to look at your income vs debt/costs - Gross Debt Servicing (GDS) and Total Debt Servicing (TDS). GDS compares your total monthly housing costs (mortgage, utilities, property taxes) against your gross monthly income. TDS includes all other debt and obligation payments along with your housing costs. GDS should be under 32% and TDS under 42%, but the lower the better.
The fastest way to get a sense of your affordability is to use an online mortgage calculator or affordability calculator. Don't forget about closing costs, which are usually 2-5% of the home price. Your real estate agent will be able to tell you about all the various closing costs and which ones apply to your particular situation.
Note that Canada requires a mortgage stress test for all buyers borrowing through federally regulated lenders (like banks) which means that your affordability will be calculated by lenders based on a higher interest rate than you're actually getting. This amount is your contracted mortgage interest rate plus 2% or 5.25%, whichever is higher. There are some alternative lenders like credit unions that don't use the stress test, but their rates may be higher.
It's important to calculate your affordability using the higher number, both so you can get a better sense of what you'll be approved for by lenders and to make sure you can comfortably pay the higher amount if interest rates increase.