Jesse Smith

Thinking about my own new years resolutions, I started to think about how I could help others with theirs in the upcoming year. Is buying your first home on your NYR list this year? Maybe someone you know? Here is a free E book I can offer you that’s a quick read, tailored down to the basics of getting your first mortgage with valuable, usable information such as:

-How down payments work

-What you need to qualify

-Paperwork that’s required

-Questions you may be asked during the process

Give yourself a head start by having all the information you need to get started in one place.

Click here to download: https://jessersmith.com/wp-content/uploads/2020/12/A-guide-to-getting-your-first-mortgage.-Ebook.zip

One of the best things about investing in real estate is the number of options investors have for financing a rental property. Investment real estate can be funded via a conventional mortgage or private funding. But in addition to these, homeowners can buy a new home with the equity on their primary residence.



That’s because if a substantial part of your mortgage is paid-off, lenders will let you borrow money on your home equity. This is a far easier way for would-be property investors to get started in the rental property business. How does this process work?



What is home equity?


The equity on your home is the difference between the home’s market value and the amount you owe on the mortgage. When you take a home loan, lenders always require that you pay a portion of the purchase price for the property.



If this amount is 20%, the lender will provide the other 80% to complete the home’s purchase. With this arrangement, the lender owns 80% of the house, and you own 20%. That 20% is your equity in the home.



Over time, however, that equity starts to grow as you make the monthly mortgage payments or as your property value goes up. These payments allow you to slowly transfer ownership from the lender to yourself.



The longer you pay the mortgage, the more equity you earn. Home equity can also grow as a result of value appreciation. When the property’s value increases, the mortgage amount stays the same, but the owner’s equity grows.



When you refinance you have access to a maximum of 80% of the total value of your home. For instance, if you paid $560,000 to buy your home and you owe $290,000 on the mortgage, your usable equity in the property would be $158,000. But if the house has appreciated and its market value is now $610,000, you have even more equity. The combination of mortgage payments and value appreciation will bring your usable equity in the property from $158,000 to $198,000. This amount is what you have available for financing your rental property.



How to leverage your home equity


There are three ways to use home equity to finance a rental property.



Cash-out refinancing
With this option, you first have your primary home revalued, and then you take a new mortgage on the home based on its current value. This new mortgage is used to pay off the outstanding amount on the old mortgage.



Doing this frees up the equity you have built upon the home. You can cash-out on this equity to finance a new property. Although refinancing your home creates a new loan, it also provides cash for further investment.



There are some costs to you as the borrower by doing a refinance, including the new appraisal of your property, lawyer or FCT fees for changing the mortgage on title, and any applicable payout penalty if you are breaking your current mortgage term early. So it is important to know these costs, especially the mortgage payout penalty, before committing to a refinance as they can dictate whether it is worth doing or not.



Home equity loan
The second way to use home equity to finance a rental property is through a home equity loan. This extends a loan to you up to a certain percentage of your home equity. In Canada, this can be as much as 65% of the home’s value, as long as the loan amount and outstanding mortgage do not exceed 80% of the home’s value. Home equity loans come in two variants:



Traditional Home Equity Loan; This is a fixed loan amount paid to you in one lump sum. It adds a second loan to your primary mortgage and is regarded as a second mortgage. This second loan is subordinate to the first loan; in case of default and foreclosure, the first loan will be settled before the second.



Because traditional home equity loans pay out a large sum at once, they work best when you need to make significant one-time payments on a property.



Home Equity Line of Credit (HELOC); A HELOC does not make lump sum payments; it puts a portion of your home equity at your disposal. It is similar to a credit card loan because you can repeatedly borrow and repay all or part of the money.



Furthermore, you only pay interest on the amount you draw. This option is best when investing in things, like, a pre-construction condo. Your interest payment is limited to the money you use.



Why you should leverage home equity for real estate investing


-Firstly, using the equity in your home relives you of the burden of finding new cash for a new mortgage. And because the new property immediately starts to accumulate equity, you can repeat this process repeatedly until you build a sizable property portfolio.


-With a HELOC, you have access to a loan with an indefinite term – most HELOCs in Canada have an indefinite term. And with HELOCs, you only have to pay the interest on the loan every month.

What qualifies, or disqualifies someone for a mortgage?

When a bank say they can, or cannot, make the numbers work, what numbers are they talking about? The majority of people have no idea, they either get pre-qualified just to know how much they can get approved for, or make a wild guess and put an offer on a house and worry about making it work later. So, what makes the numbers work? I hope to shed some light on the subject by explaining the two most important things that mortgage approvals are based on so that you can be a more informed shopper.

The first is the Gross Debt Service (GDS) Ratio, this states that your mortgage payments (principle and interest), your property taxes, heat bill and if applicable 50% of condo fees cannot exceed 39% of your total annual gross income. These are the basics costs of home ownership and a lower ratio makes the lenders more comfortable that you can keep up with paying the bills.

The second is the Total Debt Service (TDS) Ratio. This is everything included in the GDS ratio, plus all other monthly debt obligations like car payments and credit card bills. This ratio cannot exceed 44% of your gross annual income. This is the ratio that kills the most mortgage approvals, especially when it comes to vehicle loans, some vehicle loan payments are so large you may as well be applying for 2 mortgages!
Lets looks at an example, for easy numbers lets say you make $100,000 a year, and your car payment is $1000, That’s already 12% of your income taken up by that one payment, so if you are close on the GDS ratio that payment alone would put you over the TDS ratio. These ratios are federally mandated to the large ‘well known’ banks (or ‘A’ lenders) as a way to protect the Canadian real estate market and all of the industries that are connected to it.

There are two types of Alternative Lenders known as ‘B lenders’ and ‘Private Equity Lenders’ which are not mandated by the government and can therefore work around those ratios mentioned earlier.

Most B lenders are willing to go to 49% GDS and 49% TDS, while Private Equity Lenders are less interested in income than they are in the equity of the property. Both of these lenders will however require bigger down payments and higher interest rates that you would otherwise be paying with an ‘A’ lender, along with any applicable fees they may charge.

We all know owning a second rental property is a great way to invest and build your wealth portfolio. Unfortunately, a lot of homeowners sitting on plenty of equity are afraid to use that money for a down payment to purchase a rental or investment property. The idea of a second or third mortgage tends to spook people away. While there are always financial risks in any investment, there’s a little-known incentive that might make you take the leap from homeowner to real estate mogul.

You can expense the interest on a mortgage as long as the INTENT for the funds are used on an investment property.

Thus, when you’re refinancing or taking equity, you can pull money from your existing owner-occupied home and use the funds on a rental property. Now the interest on the money you pulled out (and only that money, not any existing money) can be written off or expensed against your rental income.

You could expense your rental income down to a negative which in turn lowers your overall taxable income. Putting even more money back into your pocket.

It might only lead to a savings of a few hundred dollars a month, but not many people know it’s an option and is an extra incentive to consider.

You’ll definitely want to talk to your accountant and your mortgage broker to get more details.

There are also a few things to consider if you’re going down this route for an investment property.

You must claim your rental income on your tax return. It’s tax evasion if you don’t.

Mortgage rates are also typically cheaper for owner-occupied homes compared to rental or investment homes. Don’t be tempted to tell your broker or lender the house use will be owner occupied when it will actually be a rental because you want the lower rate. That is mortgage fraud. You could get charged and or the lender could call the balance.

While taking on a second or third mortgage might seem a little daunting, there are some options available to save you money and your mortgage broker can help.

Taken from Dominion Lending November news letter, to sign up for these monthly emailed news letters visit www.jessersmith.com

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