Going behind the scenes for lenders on real estate property

Published in the API Magazine – December 2006 issue on Pages 75 – 76. Most borrowers like the reassurance of having detailed knowledge of their lending institution and its financial reputation. Taking one step back, you first need to determine your level of understanding of the business of money exchange. There’s a significant difference in the risks associated with borrowing and investing and the information you should be aware of in each case.

Mortgage Shopping
There’s a lot more involved in selecting a mortgage than merely enquiring about interest rate and product flexibilities. Past articles have covered the intricacies of these topics, but how important is it to understand your real estate lender’s business?

A real estate lender’s reputation is an important criterion you should consider when taking out a loan for a real estate investment property. If you’re using a broker, they’ll usually have an opinion on the real estate lender. This opinion will often cover such things as credit policy, processing efficiency and in some cases, effectiveness in resolving disputes.

Particularly in the case of a real estate lender, you know nothing about, a little research is needed on your part to determine how long the lender has been in business for real estate investment lending and their ability to provide a consistent product.

Ask about the interest rate offered. Is it a special rate or a standard rate? This is more relevant when you’re considering a fixed rate product. There are some real estate lenders who may have a special rate advertised at the time you’re looking for a loan on your property but this rate may change significantly afterwards. It may well be a good deal to start with but when the fixed rate period is over, it may be a different matter.

Variable rate interest for real estate properties isn’t totally reliable either. Most institutions move their variable rate in line with the Reserve Bank cash rate. However, it’s not a rule that’s set in concrete and your bank lender can certainly change the interest rate, even when there’s no official cash rate adjustment. Ask about their policy on this. Is the variable interest loan written with a specific margin to reference rate (such as a standard variable) or is it unlinked?

Service: Mild, Medium or Hot?
In many cases service is a major factor when shopping for the right loan. Matching your needs with a big institution practices can be relatively easy.

With an unknown lender, however, you simply need to be a little more inquisitive. Is the service they provide perfect? Before you make up your mind, look outside the square.

Ask yourself, will they continue to provide good service after the sale, or will it grind to a halt once you sign on the dotted line? And does the company employ enough people to answer your queries in the future? A small company previously unknown to you is not necessarily to be dismissed, particularly if it meets your loan criteria.

Investing: a different kettle of fish
Many of us invest cash in the forms of term deposits, online accounts, cash management trusts, shares or managed funds. Here, the fundamental rule of investing is king – risk-return equation.

It’s usually easy to see the trade-off between the interest rate paid and the company’s financial background, especially on term deposit and debenture products. You’ll quite often see a 3 or 4 per cent gap on interest rate paid on term deposits by major banks and debenture products from small investment companies.

When considering putting your hard-earned cash into an investment company, you need to be more astute about the institution and its financial reputation. Ask yourself about the company’s ability to pay interest promised, as well as the principal when needed by you.

The newspapers may report the current cash rate of 6.25 per cent (at the time of writing), yet your company can offer an attractive 9 or 10 per cent. You should expect a higher level of risk associated with this type of investment.

It may be that your money is invested into mezzanine funds which banks are unwilling to lend against. In the unfortunate event of the investment company going belly-up, you must realise that banks have first claim against the assets, with you, as a private investor, coming in on the secondary level.

Security versus Reputation
As we can see, different assessments are required when you’re investing your cash and borrowing some funds for your property. Most mortgage originators securitise their loans so most of their assets are transferable if the real estate lender goes out of business for whatever reason. They’ll simply sell off their loan portfolio to another lender or investor (such as an insurance company or mortgage trust) or secure their portfolio as a mortgage-backed security (MBS).

MBS is an asset-backed security whose cash flows are backed by the principal and interest payment of a set of mortgages. These payments are typically made monthly over the lifetime of the underlying loans.

When your loan is administered by a new lender, they may reconsider the products structure and may offer you a new product as a substitute for your current product. This can become a hassle for you if there are significant changes in pricing and flexibilities of the new product offered. However, the mortgage lending arena in Australia is highly regulated, with many areas of legislation ensuring the rights of the consumer are met.

As an overall, when we look at security versus reputation, we clearly see that major banks offer both. Even though you may not be sure about a lender’s security, you can’t afford not to research the lending institution’s reputation.

The Facts and Breakdown of Mortgages and Pre-Approval for Mortgages

Another useful article written for the New Home Buyers Guide (HomeBase.ca magazine in the Lower Mainland), this breakdown goes through the different types of mortgages available on the market these days for home buyers, first time purchasers and how to get the best pre-approval for your home buying situation and how to secure your mortgages with banks. Originally presented in the December 08, 2006 to January 05, 2007 edition of the New Home Buyers Guide, you can read more about current real estate developments and mortgage bank information online at the www.homebase.ca HomeBase website today.

There is no such thing as “just a mortgage” these days. Today’s home owners have a special needs and widely varied financial circumstances. Because of this, there are numerous types of mortgages, mortgage pre-approvals and bank payment options designed to meet the unique requirements of every home owner. In addition to the HomeBase.ca definitions, we have also include the Real Estate Board of Greater Vancouver mortgage definitions too. The fundamental components of a bank mortgage wherever you live include:

Mortgage Principal
The amount of money you need to borrow, usually the difference between the selling price of the real estate property and the down payment. The bank mortgage is the amount initially borrowed or the portion still owing on the mortgage. Interest is calculated on the principal amount.

Interest
The amount you will pay for borrowing money for your principal real estate amount.

Mortgage Payment
A regular instalment, usually made up of principal and interest, by which you repay the mortgage over its term to maturity.

Amortization Period
The actual number of years it will take you to repay the entire mortgage, generally a period anywhere between fifteen and twenty five years. A table showing the amounts of principal and of interest comprising each level payment due at regular intervals and the outstanding principal balance of the loan after each level payment is made.

Amortized Mortgage
A bank mortgage requiring periodic payments which include both a partial repayment of the debt and interest on the outstanding balance.

Mortgage Term
The length of time which a specific mortgage agreement covers generally being between six month and twenty years (although twenty five year terms have recently been introduced). When the term matures or expires, the balance of the mortgage is generally renegotiated for another term at prevailing rates and conditions in effect at that time.

Home Equity
The value of the real estate property over and above all claims, generally being the different between market value and the outstanding principal of all mortgages relating to the property. Essentially the difference between the price of which a real estate property can be sold and the mortgage(s) on the property. Home equity is the owner’s stake in the property.

Conventional Mortgage
A mortgage loan that is seventy five per cent or less of the loan to value ratio; and does not require insurance by CMHC or other private insurer.

Debt Service Ratio
The percentage of a borrower’s income that can be sued for housing costs.

Gross Deb Service (GDS) Ratio
The amount that a lender will permit a borrower to use from his/her gross income in order to qualify for a loan for housing costs, including mortgage payment and taxes (and condominium fees, when applicable).

Total Debt Service (TDS) Ratio
The maximum percentage of a borrower’s income that a lender will consider for all debt repayment (other loans and credit cards, ect.) including a mortgage.

High-Ratio Mortgage
A bank mortgage that exceeds seventy five percent of the loan to value ratio; must be insured by either the Canada Mortgage and Housing Corporation (in Canada also known as CMHC) or a private insurer (in the United States and Canada) to protect the lender against default by the borrower who has less equity invested in the property.

Mortgage Insurance
Government backed or private-backed insurance protecting the lender against the borrower’s default on high-ratio (and other types of) mortgages.

Open Mortgage
A mortgage that can be prepaid or renegotiated at any time and in any amount, without penalty.

Variable Rate Mortgage
A bank mortgage for which payments are fixed, but whose interest rate changes in relationship to fluctuating market interest rates. If mortgage rates go up, a larger portion of th epyament goes to interest. If the rate goes down, a larger portion of the payment is applied to the principal.

These definitions and information on mortgages is brought to you by HomeBase.ca and the Real Estate Board of Greater Vancouver.