As a mortgage broker, I work with many lenders. All of them offer second mortgages in one form or another. When people ask me about second mortgages, they are not typically asking about a mortgage from a big bank. Most people asking about a second mortgage and how to qualify are looking for private financing.
To qualify for a second mortgage in Canada through a private lender, the main qualifying criteria is the equity you have in your home. The lender will potentially finance up to 90% of your home's value. They will look at your credit and income, but these will not play a major role in the qualifying decision.
Before I go into more detail about the qualification requirements for a second mortgage, let me first review the three classifications of lenders and how they are different. I will also review how each class of lender qualifies you for their second mortgage programs.
There are Three Lender Classifications:
- "A" Lenders, which would include the major banks in Canada, Trust companies, Credit Unions, and Monoline Lenders. For example, RBC, TD, BNS, MCAP, ManuLife Bank, etc.
- Alternate Lenders, which would include large institutional lenders like Home Trust, Equitable Bank, Olympia Trust, etc.
- Private Lenders, which would include mortgage investment corporations, private corporations and private individuals
"A" Lender Qualification Requirements
"A" Lenders will offer second mortgage in the form of home equity lines of credit. Most of these lenders would prefer to refinance your home instead of set up a second mortgage. They will set up a home equity line of credit behind your first mortgage as an alternative to refinancing your home.
For these lenders, interest rates are relatively low and there are fairly stringent qualifying criteria. These lenders are also limited to financing a maximum of 80% of your homes value.
The "A" Lenders are governed by an organization called OSFI (Office of the Superintendent of Financial Institutions). OSFI regulates much of the mortgage qualification process.
Most "A" lenders will not offer you a second mortgage. They have many years ago, but today it's unlikely. If you spoke with one of these lenders, they options they would offer would be to refinance your current mortgage, pay a penalty and get financing up to 80% of the value of your home.
The other option would be to set up a home equity line of credit. This would be registered on the title of your home behind your current first mortgage.
To qualify for a home equity line of credit in second position, you will need good credit. A credit score of above 680. You will need to confirm your income. An employment letter and pay stub or 2 years of your income tax returns. No more than 44% (in some cases 35%) of your income can be used to pay all your current outstanding debt plus your mortgage and this new home equity line of credit.
If you have good credit and confirm-able income and you only need to get financing up to 80% of the value of your home, then this is the best option for a second mortgage. This offers the lowest interest rate and the most flexibility.
Before we chat about the next class of lender, let's look at how to calculate the total amount available for financing on a second mortgage.
Let's assume a client owns a home worth $500,000. They have a mortgage of $300,000 on the mortgage. The maximum financing this client could finance on their home with an "A" Lender would be 80% of the value.
80% of $500,000 is $400,000. They already owe $300,000. This client could only access the difference between $400,000 and the amount they owe already, $300,000. Therefore, they could set up a second mortgage, in the form of a home equity line of credit for $100,000.
Alternate Lender Qualification Requirements
Like the big banks mentioned above, most Alternate lenders are governed by OSFI as well. This means that they can only provide financing up to 80% of your home's value.
Alternate lenders will be more lenient with credit and income during the qualifying process. For an alternate lender, you could have a beacon score under 600. Some will allow credit scores close to 500. These lender will offer you an interest rate relative to your credit score. The lower your credit score, the higher the interest rate you will pay.
To qualify for a second mortgage with an alternate lender in Canada, you can only finance up to 80% of the value of your home. You can have bruised or even bad credit and they will accept non-traditional sources of income. For example, you could provide them with business bank statements for 3 months to confirm your income. They will also use traditional sources if income if you have them.
When I talk about traditional sources or income, I am referring to an employment letter and recent pay stub. If you are self employed or casual or salaried with bonuses or commissioned, then 2 years of income tax returns, and/or 2 years of T4's and 2 years of Notice of Assessments would be used.
When you arrange financing with an alternate lender there will be more fees. In addition to the standard fees to arrange a mortgage which include appraisal fees and legal fees, there could be lender fees and broker fees.
The interest rates offered by alternate lenders are going to be higher than the "A" lenders that I mentioned in the previous section. Mortgage interest rates for second mortgages with alternate lenders could range from 8% to 12%
If you have bruised credit or non-traditional income and only need financing up to 80% of the value of your home, then financing with an alternate lender is your best option. The interest rates and costs are more than with "A" lenders but less than with private lenders.
Private Mortgage Qualification Requirements
Private lenders would the third class of lenders who offer second mortgage financing. These would include private individuals, mortgage investment corporations or private corporations.
Each private lender will have their own unique qualification requirement and risk tolerance. Each private lender will price, offer rates and fees, based on how much risk they associate with the second mortgage requested.
When it comes to dealing with private lenders, you will want to work with a mortgage broker. They will have access to a wide variety of different private lenders with a wide range of costs and interest rates.
Private lenders do not have to follow government regulations because they are not regulated by the same governing body as the banks are. I work with some private lenders who will only finance large projects, they will only lend up to 65% of the total project value.
I have other lenders who will finance up to 90% of the value of a home and will ask for very few documents. Most of these lenders evaluate each case individually and let me know what they are willing to finance and at what cost and interest rate. Some will negotiate with me, others will offer me their best and not negotiate.
The cost to set up a second mortgage with a private lender would include legal fees, appraisal fees, a lender fee and broker fees. These vary depending on the situation, therefore it's best to connect with us and we can give you a much better idea of the cost.
The interest rate for a second mortgage will range from 12% to 17%. Many are closed mortgages, which means you will pay a penalty to pay it out early. The penalty is most often calculated as 3 months interest. An interest only payment is the norm for private mortgages.
If you set up a second mortgage with a private lender, then you are going to want an exit strategy. This type of mortgage provides an interim solution while you are in the process of fixing something or doing something. If you don't have an exit strategy, then it may be better for you to sell your home instead arrange financing.
This financing can be expensive and it's designed to help you better your situation. Let's look at some examples!
Qualification Requirements for a Second Mortgage for Debt Consolidation
A client is a professional. Was not working for over 1 year. Has accumulated debt in excess of $120,000. Home is worth $500,000. Mortgage balance is $275,000. Many credit card payments have been late, therefore credit score isn't great. Credit score is 525. Returned to work now earning $125,000 salaried position with bonuses.
For this client, improving his credit score is the goal over the next year. His first mortgage is at a good interest rate and is in good standing. He sets up a second mortgage to pay off all the credit card and loan debt.
He has enough income to make the payments on the mortgage and the new second mortgage. He will have no credit card or loans to pay anymore. The second mortgage is set up for a 1 year term.
His credit score will improve over the next year, likely over 620, as long as he keeps making his payments on time. After 1 year, he will qualify for a new mortgage at an alternate lender at a much lower rate than he is paying with the private lender. If his credit is good enough, he may even qualify with an "A" lender to refinance both into one mortgage at a good interest rate and one low payment.
To qualify for this second mortgage, the lender would order an appraisal. The lender would look at his income to make sure he can afford the payments. The lender doesn't want to foreclose. The lender will look at his credit and ask for an explanation of all the missed payments, etc.
This client has an exit strategy. He will improve his credit. His income is good and he will be able to qualify with an "A" lender if his credit score improves.
Let's look at another example.
Qualification Requirements for a Second Mortgage for Self Employed Client
A client is recently self employed, 7 months ago. His home is worth $500,000. He has a current mortgage of $325,000. With his business, his clients typically pay for work done after 4 months, however his vendors require payment within 30 days. He has come to a point where he needs cash to pay for material for contracts he has signed.
His business has been growing rapidly and there is more opportunity than he has funds to bid for. His credit is good and he is in the process of arranging financing but they want more history before they will approve him.
This client sets up a second mortgage for $100,000. He can inject this into his business so that he can pay for the materials that are needed for signed contracts. This amount will also give him a buffer of cash to bid on some new opportunities coming up.
He will set this mortgage up for 18 months. His first mortgage is maturing in 18 months. There will be legal fees, lender fees and broker fees. At the end of the term, he will qualify to refinance the mortgage to 80% with an alternate lender and may even qualify with an "A" lender.
He will also have time to arrange commercial financing with his business to cover the 4 months between job completion and full payment.
To qualify for this second mortgage, the client had good credit. He was self employed and provided business statements showing steady growth. The lender ordered an appraisal and approved financing up to 90% of the value of his home. The lender also offered financing up to 85% of the home's value at lower rates. The client opted for 85%.
This client had an exit strategy and used the second mortgage to generate more income for his business. This solution provided this client with an alternative that no other lender was willing to offer. The client was very happy with the outcome.
When you are looking for a second mortgage, it's best to look at your options. As you move from "A" lenders to private lenders, the costs increase. If you can find a solution that is less expensive, then that's what you should do. Don't automatically assume that you will need a private mortgage. Sometimes, you may qualify for a less expensive choice.
When I work with clients, we go through the process so that you are getting what you need at the best possible price. Always make sure that you have an exit strategy. Things don't always work out as planned, but having a plan in place is better than having no plan at all.
Connect with us if you have questions about how second mortgages work or if you have more specific questions about your situation.