Times are tough. There’s no denying it. Interest rates are continuing to go up and there is absolutely no indication that they will be coming down any time soon. Even the banks are feeling it and are being extra careful about lending money. So if you are in the market for your first home, but your credit is bad what can you do? Is it even possible to qualify for a first time mortgage with bad credit?
Having helped a multitude of people in this exact situation, we at Auxilium Mortgage have a few ideas on how to get around bad credit so you can realize your dream of owning your own home. But first of all, what exactly is a bad credit score?
A credit score is calculated by one of two agencies in Canada: TransUnion and Equifax. They consider a number of factors to assess how good you are at paying back loans. Specifically, they look at if you pay your bills on time and the amount of debt you’re carrying. Credit scores range from 300 to 900, with the following assessments:
Note that people who don’t have a history of using credit are in almost the same boat as those with a bad credit score. These are people who haven’t had time to build up a credit history — perhaps they are too young, or they are new to Canada — or people who don’t use credit cards or who haven’t borrowed money. If you don’t have a credit history, a lender won’t know how responsible you are with your money and will have a harder time assessing how risky it would be to lend you money. There are, however, other aspects of your financial history they can take into consideration when making their assessment that could mitigate the consequences of a bad credit rating.
While your credit score may not be the best or might be nonexistent, there are other important aspects of your financial life and history that you may be able to use to offset your poor showing in the credit score area. Be aware, however, that banks or other federally regulated lenders will use what is called a stress test when making their determination. This means that, when making their assessment, they will use a higher interest rate than what they might ultimately offer you — usually 2% higher. So, for example if they are going to offer you a mortgage at 4.5%, they will test to see how your financial situation would handle a 6.5% rate.
How much money do you have right now that you can put towards a down payment? Since the down payment is deducted from the purchase cost, with the mortgage covering what is left, a higher down payment makes it easier to qualify for a mortgage. This is especially pertinent for those with bad or no credit score; if you don’t qualify for a great mortgage, but you have a lot of available cash, you could conceivably lower the difference enough to be able to qualify for a smaller mortgage.
This would mean offering a higher amount as a down payment than what is required by law. The minimum down payment is calculated as a percentage of the purchase cost of the home. In 2023, in Canada, if the home you have your eye on is under $500,000 you will need to put down at least 5%. For homes between $500,000 and $999,999 you will need 5% for the first $500,000, and 10% on the portion above $500,000. If you live in some areas of Canada, such as Vancouver or Toronto and increasingly even smaller cities such as Victoria, it will be hard to find a home under $1M. In this case, you will need a down payment of at least 20% of the purchase price.
The down payment generally must come from your own funds. However, gifted funds from family are fine, as are borrowed funds such as a personal line of credit or a personal loan, as long as you can debt service this payment as well as the mortgage. If you are offering a down payment of less than 20% – no matter the purchase cost, you’ll need to buy mortgage loan insurance as well, however, you don’t need to come up with the funds for this as it will be added to your mortgage.
Lenders will look at your income and employment history to determine if you have enough regular incoming money to be able to pay them back consistently over a number of years. Your employment history will indicate if you are able to hold down a job.
They will also consider your debt-to-income history to see what portion of your income is available to go towards paying off a mortgage after paying all your other debts.
You can see that there are a number of pieces that go into an assessment, and there is some leeway in each of these pieces. Where you might be lacking in some area, you could conceivably gain ground in another.
Lenders are first determining if they will approve you for a mortgage, and if you pass that hurdle they will assess the amount of the mortgage they will approve you for and at what interest rate. The higher the risk you are, the more likely it is that you won’t get approved or alternatively you might get approved for a smaller mortgage at a higher interest rate.
To improve your chances of getting approved for a mortgage there are a number of things you can do.
If you have a good relationship with a trustworthy person who has an excellent credit score and is willing to partner with you so you can buy your first home, this is a good option to consider. The co-signer or co-borrower could be a family member of course, such as mom or dad.
In this scenario, you both have equal rights to the house. There are some risks to this approach: the other person may want out at some point, and you will need to buy them out or sell the property.
Check to see what sort of loans are available for first time buyers. Such as The First Time Home Buyers Plan (RRSPs), government grants and incentives, flex equity or vendor take backs.
If you can’t get approval through a bank, you might consider a B-lender or private lender who will have lower requirements but at a higher mortgage rate. As well, minimum down payment for these types of lenders is 20% down. Provincially regulated private lenders aren’t required to use the stress test, so the entry is easier. These mortgages are usually short term loans, and by showing that you can meet the payments, they can help you build back your credit score. Once you have rebuilt or improved your financial situation, you could be eligible for a mortgage with a traditional A lender.
Now that you know what lenders will be looking for, you can make concerted efforts to improve your financial situation. Using a credit card regularly and paying it off promptly is an excellent method of building a good credit score. Saving up for a substantial down payment is also an excellent move as is paying down your debt. Finding stable employment will enable you to get your finances in order.
So you see there are plenty of options available. Even if you have bad credit, have been previously bankrupt or have had a foreclosure, there are still options depending on the circumstances that led to these situations as well where things stand today.
The best option will always be specific to your particular situation. As we mentioned, there are a number of pieces at play. Feel free to contact one of our professionals here at Auxilium Mortgage. We can help you assess your situation for the best solution towards home ownership.