Income The Misunderstood Element

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In our evolving explanation of the elements required to secure a mortgage, we come to one of the most misunderstood elements in the group. Income can be derived from various sources. Because of that reason banks will treat different sources of income differently. To understand this we must first understand what happens behind the scenes when a bank or a mortgage broker inputs your revenue into a mortgage application. The income is run through a series of calculations that end with your receiving a metric that is used to determine your indebtedness ratio.

The two ratios that are used by mortgage brokers and banks alike are called your GDS & TDS ratios. Both measure your debt load but they each differ in what they calculate.

GDS Ratio (Gross Debt Service)

The GDS ratio looks at your gross annual revenue and based on this limits the amount of money you can spend annual on expenses related to the purchase that you are about to make. The expenses that are implicated in the calculation of your GDS ratio are heating cost, Municipal tax, School tax, Condo fees and mortgage payment. Your credit score will determine the maximum that you are allowed to spend out of your gross revenues. CMHC has guidelines that are used by banks to determine these maximum numbers. If your credit score is <680 the maximum GDS that you can have is 35%. This means that if you earn an income of $100,000 the max that can be used for expenses related to your home are $35,000. If your Credit score is +680 then you will be allowed to go as high as 39% in this calculation. This means in the same example as we used earlier you would be able to spend $39,000.

TDS Ratio (Total Debt Service)

The TDS ratio as well focuses on your gross annual income and it determines the maximum that you are allowed to spend on all expenses related to debts you might hold. These debts include those used in the GDS calculation, as well your payments that are made to your credit cards, Lines of Credit, Car payments and any other liabilities you might have. The TDS calculation as well has its limits that are affected by your credit score. If your score is <680 the max TDS you can have is 42% however if you are +680 then you will be allowed to go as high as 44%. Using the same example as previous this means that you will be allowed to spend $42,000 bellow 680 and $44,000 above 680.

Various types of income

Depending on the source of income that you have banks will require that you supply different types of proof. In some cases, they will even request the backup of the proof you have given. In the scope of this post, we will focus on Employment Income next blog post I will break down the other sources of income that are used.

Typically when you are applying for a mortgage the lender will ask for two supporting documents to prove the revenues of the individual. If you are a Full-time permanent employee of a company you will be requested to produce a letter of employment that is signed by your boss or HR department. This letter must indicate if you are on probation, the length of time you have been employed and your annual income. Further to this, they will ask for you to supply a pay stub to confirm the accurateness of the letter.

If you are a part-time employee you will be requested to provide those two documents mentioned above as well provide two years Notice of Assesment from both the Federal and provincial government if you live in any other part of Canada other than Quebec You will only be asked to provide the Federal assessment.

Commission income and bonuses can also be used to help you qualify for your mortgage however you must be able to supply proof that you have received it for two consecutive years. The best and easiest way to do this is by supplying the lender with two years of your Notice of Assessment.

As always I am available for questions or comments. Thank you for taking the time to read.

Terry Kilakos

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