Many clients think that having a mortgage pre approval puts them in a position to write offers on properties without inserting a ‘condition to receiving and approving financing’ clause.
Nothing could be further from the truth.
Being ‘pre-approved’ can all too easily create a false sense of security.
Although going through the pre-approval process is itself important the actual term ‘pre-approval’ is not exactly accurate. In fact it should at the very least be called a ‘conditional pre approval’ or more accurately still a ‘rate hold’.
Here is a typical lender response following submission of a file for Pre-Approval;
“Thank you for choosing TD Canada Trust, please note that a rate hold only has been approved at this time. The Rate of X.XX% with a term of X years has been processed. Once clients have a valid signed purchase and sale agreement in place, please resubmit for full credit adjudication and decision. Rate will be held for 120 days. Current credit bureaus will be required at time of re-submission.”
An important point to be clear on is although you may be pre-approved at a certain rate (which is typically held for 120 days from the date of application), not much else other than this rate has any degree of certainty. There remain a number of conditions to be met as well as variables which can enter into the equation when you actually write an offer on a specific property and as such it is imperative that one always includes a condition clause in their offer along the lines of ‘subject to receiving and approving financing’.
Often clients are reluctant to write an offer on a property without feeling that they are 100% pre-approved. Although this is an understandable desire, and in some cases clients may be led to believe that this is the case by their lenders, the fact remains that until the lender reviews all related documents not just those that come from the client but also those that come from the appraiser and the Realtor, there is no 100% certainty of approval.
This would be why we always try to insist that clients include, arguably the single most important condition clause in their Offer to Purchase ‘subject to receiving and approving financing’. (I am being repetitive with this statement for a reason)
The preapproval process should be considered more of a pre-screening process than anything. It should always involve review and analysis of the client’s current credit report, it should also include a list for the client of all documents that will be required in the event that an offer is written and accepted, (ideally all of those documents should be reviewed and approved by your mortgage broker in advance of the offer being written). Clients should also come away from this process with a clear understanding of the maximum mortgage amount they qualify for along with the various related costs involved in their specific real estate transaction. In the Province of Ontario, the Land Transfer Tax is an important one. Equally as important; with the completed application, the broker is able to lock in rates for up to 120 days. One specific advantage of an independent Mortgage Broker being that your rate can be locked in with a few different lenders giving you a safety net of one lender has an issue with the property, perhaps over an illegal suite, restrictive covenant, etc.
Why is the lender not fully underwriting my application?
With the Banks, Credit Unions, etc. the actual conversion rate of pre-approvals to ‘actual mortgages is less than 10%. It is for this reason that an actual live underwriter very rarely completely reviews a pre-approval application. It is not an efficient use of resources. Therefore the bottom line is that the client is really only getting the opinion of the front-line individual with whom they are directly speaking. That individual will not be the same person that underwrites and approves the actual transaction. This is true of every mainstream “A” lender channel that I can think of.
It is due to this disconnect between intake of application and actual underwriting of a live application that the ‘subject to receiving and approving financing’ clause in the purchase/sale agreement is so vital.
Another significant factor which over the past four years, and in particular since Nov 1st, 2016 has undermined the solidity of a client pre-approval is the relentless pace of change with regard to lending guidelines and policies implemented not only by the Federal Government, OFSI, but also by the lenders themselves. In other words it is very easy to walk out of a lenders with a pre-approval for a certain mortgage amount only to have it rendered meaningless a few days later when the banks change internal underwriting guidelines with no warning and very little notice to the general public.
Setting aside these concerns there still exists the general concept that although the client may have excellent credit, an excellent job, and a strong down payment –the bank still needs to approve of the property which the clients wish to purchase. Is it on lease land, is it an age restricted building, was there a significant special assessment within the previous five years, have there been building envelope issues, is the property it remediated former marijuana grow-op, is the ‘economic life’ of the dwelling too short to meet lender guidelines, is the property subject to a current rezoning or development application, is the home in a floodplain, is it sitting on a log foundation, the list goes on.
This is perhaps the simplest point I can make – perhaps you the client are ‘pre-approved’ but most certainly the subject property is not – and there are several properties that a lender will not touch these days.
Take nobodies word that you are pre-approved, look for an email from your broker stating ‘File Complete’ which should arrive no later than your condition removal date ideally.
Written by Dustan Woodhouse.
Posted and edited to reflect mortgage lending in Ontario by Steven Porter, Mortgage Agent, Mortgage Architects. Steven can be reached at 905-875-2582 or by email at Steven@1800Mortgages.ca