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The Limitations of a Pre-Approval – why you should have a condition of finance.
May 31, 2024 | Posted by: Amanda Bible
As I mentioned in a previous post unless you have the funds to pay for the purchase of your house in full a condition of finance is well advised.
You see even if you have done everything right have great credit, saved your down payment, and had a full and thorough pre-approval there are limitations.
When we complete a pre-approval, some items are, simply put, our best guess. The ratios used to equate your pre-approval amount include heating costs, condo fees (if applicable), and property taxes. As you haven’t chosen the property yet there is no way to know for sure the size of the house, so we estimate the cost of the heating. The same goes for the property taxes and condo fees some mortgage professionals use an estimate based on the area you are looking in; others will use a percentage of the purchase price. As these are only estimates they can change when you choose a home and that will change your ratios. If you are stretching to the very top end of your pre-approval amount this could be a deal breaker.
Another possible deal breaker is the property itself. If you are purchasing with less than 20% of the purchase price as your down payment, then you will need to have default insurance. This is arranged through the lender but can’t be arranged until there is an accepted offer. Default insurance is available through three providers in Canada, (CMHC, Canada Guaranty, and Sagen) and they have their guidelines. While we can make sure that you and your finances meet those requirements before sending you off to house shop the property is reviewed by the insurer as well and they may find a reason to decline the property.
Even if you don’t need to be default insured there is the chance that the property won’t meet the lender's requirements, things like water damage or a crack in the foundation identified during an appraisal can cause issues with getting financing. Another possibility is that the appraised value of the house might be lower than your purchase price, as the lender will give a mortgage based on the purchase price or appraised value of the house whichever is lower this could mean you would need to increase your down payment to complete the purchase.
Some of the limitations, I can deal with before the offer is submitted by asking for the listing to do a final crunch of the numbers but some I can’t deal with until there is an actual accepted offer. (appraisal, insurer approval).
That’s why I recommend a minimum 5-day condition of finance. This allows me time to ensure everything has been properly reviewed, have the insurer approve (if needed), and have an appraisal completed (if needed). Once you have a commitment issued and have met the requirements of financing you can have much more confidence in your ability to complete the purchase and choose to lift your condition.
Should you submit an offer without a condition of finance, and you are unable to secure financing you may have to walk away from the purchase. There are risks and consequences of this which could include loss of your deposit or potentially being sued. Discuss these risks and consequences with your realtor, lawyer and your mortgage professional being sure to make an informed decision before proceeding.
