How to keep your current home as a rental and buy a new home
We have many clients who have decided to buy a new home while at the same time keep their current home as a rental. Clients typically do this for a couple of reasons:
*Their current home does not have sufficient equity to make it advantageous to sell
*They have decided that they would like to build a rental property portfolio as a part of their investment strategy.
In much the same way as lenders have very different guidelines for rental property qualification, they also have very different guidelines for keeping your home as a rental. Most of the Canadian banks will use the “rental add back method”, which tends to make qualification for our clients very challenging. The other method that we tend to employ for our clients is the “rental offset method”, this allows our clients much more purchasing power and greater options for their new home purchase.
The two qualification methods explained:
Rental add back method – This is the most punitive method that lenders use and unfortunately this is currently the method that most lenders are using. The calculation for this lenders will usually use 50% of your gross annual rental income and add it to your personal income and then they will use 100% of your new property liability and add it to your liability column. The problem with this method is that within the debt servicing calculations liabilities count against you much more than income counts for you. For example if you have a rental property with $1200 rental income and $1000 liabilities a common sense person would agree that the home covers it self and it should not count against you. However in this example with the rental add back method, you will receive an increase in your annual income of $6000 however your liabilities will also increase by $1000 and have the same effect negative qualifying effect as if you had a $30 000 balance on your credit card.
Rental offset method – This used to be the most prevalent method used by lenders and now is one of the least common. It can be a very favourable calculation for our clients, with most lenders using an 80% offset. If we go back to our previous example we would have a $1200 per month rent x 80% = $960 and then subtract our monthly property liabilities from this amount of $1000 to end up with a net minus $40 per month. This negative amount per month has a very minimal affect on your qualification and is the same as having a $1333 balance on your credit card.
We have included below an example to illustrate how we can help:
*Assuming you have an income of $60 000, rental property mortgage payments of $1200, and rental income of $1500.
*Based upon these rough numbers, to a common sense person your rental property covers its expenses and should not count against you – unfortunately the banks don’t see it this way.
With the “rental add back method” that most banks employ you would be qualified for a new mortgage of about $200 000. However based upon the “Rental offset method” we are able to approve you for a mortgage of around $300 000.
This is a staggering difference, with an increase of 50% in mortgage approval amount and could make the difference between buying your new home and not.
When you are purchasing a new home and keeping your existing it is very important to ensure you have a mortgage professional working with you who is experienced, knowledgeable, and creative to ensure you receive the best mortgage fit for you and your family.
Please feel free to connect with us on the phone, online contact form, or by applying online.