Have you ever wondered what factors lenders consider to determine if you qualify? Or why it is lenders ask for so much paperwork?

Long gone are the days when bankers knew their clients personally and loans were approved with a handshake. The prevalence of fraud and sheer volume of transactions has required lenders to implement a more reliable and secure method to ensure funds lent out will have a high likelihood of repayment.

Understanding how lenders qualify clients is the first step towards ensuring a successful result when applying for a mortgage.

All lenders underwrite and approve mortgage loans using the same criteria, otherwise known as the 5 C’s of credit; Capacity, Capital, Collateral, Credit and Character.

Capacity

This is your capacity or ability to manage the payments. Lenders use debt ratios to determine your ability to manage the payments.

Debt ratios are calculated by dividing your monthly debt by your monthly before tax income to ensure there is sufficient income to repay the loan.

The documents that lenders want to see help them gain insight into your income situation. Are you self employed or salaried? What is your employment history? Is your income stable or does it fluctuate – i.e. bonus, commission income?

Capital

What have you paid? This is specifically looking at the equity you personally put into the deal, the more you put towards your down payment, the less likely you will default on the loan and the more secure the lender will feel.

Mortgage default insurance (i.e. CMHC) helps mitigate the lender’s risk but adds another layer of scrutiny and policies to the application. Government anti money-laundering regulations also require lenders to know the source of the down payment (i.e. savings, investments, gift).

Generally speaking, the less CAPACITY you have, the more CAPITAL a lender will require on the deal.

Collateral

What if you don’t pay? This refers to the property itself.

The lender will want to know that the property has good marketability should you default on the loan. How has the property value been determined? Is it a private sale or is it being sold by a realtor? Are there previous or current legal issues with the property (foreclosures, grow-ops, etc.)?

Credit

How have you been paying? This refers to your credit history and, more importantly, your repayment history? How long have you had credit? D o you pay your bills on time? Do you make more than the minimum payments? Do you keep balances low and credit limits realistic?

Your credit history is essentially the only way the lender can predict your propensity to make future payments.

Character

Will you pay? This relates to your reputation and integrity and can be difficult to quantify.

Lenders look for consistency in the information that is submitted to them. Does what you report on your application correspond to what has been reported on their credit bureau and within the supporting documentation? Do you have stable employment? Tenure in the same industry?

Assets, net worth etc. all play into a stronger application and if you have weak/new credit, lenders may ask for additional guarantees (i.e. co-signor, larger down payment).

Just because you fall short in one of the “C”s doesn’t mean you won’t get a loan. If you’re strong in one area, it may compensate for weakness in another area. It is my job as a mortgage broker’s to ensure a client’s strengths are highlighted for the lender. I also ensure that there is sufficient paper work to explain anything that might be considered a red flag.

If you have credit issues or want to understand more about what appears on your credit bureau, Richard Moxley has written a great book on credit for the “Average Joe”. He also provides consultations for borrowers looking to get their credit straightened out but don’t even know where to begin. Check out his website – Average Joe Education.

For more information about the 5 C’s of Credit, check out my website.