Down Payments and their sources
Every real estate purchase you make will require a down payment. The main purpose of the down payment is to show your intent to buy your new home. Even better if you can prove you have saved for it over time.
Lenders like to see you save for the down payment as mentioned in the 5 C’s of Credit. It helps in getting approved for your new mortgage and home purchase.
Down payments come from a variety of sources:
1) Saved funds in investments, savings and chequing accounts
2) Registered Retirement Saving Plans (RRSP)
3) Gifts from relatives
4) Funds from a company account you own
5) Funds from the sale of an asset
6) Borrowed funds
These are the 6 main categories for down payment sources. Let’s look at them in a bit more detail.
Saved Funds: Investments, savings, chequing accounts
This is an easy one to explain. Lenders look for a 90 day history of where your funds have been sitting.
If in a chequing or savings account, you need to provide the last 3 months bank statements. At least one of those statements must have your name and the account number listed on it. This links you to the account and down payment source.
If you have Guaranteed Certificates or Bonds you will need to prove when they were bought, and the value upon sale for your down payment. You will be asked to prove those funds are deposited into your account after being sold or redeemed.
Registered Retirement Saving Plans:
The government of Canada has a program for saving for your retirement called the RRSP program or Registered Retirement Savings Program. You are allowed to contribute a certain percentage of your income into a plan that defers the income taxes on this income until a future time when you will withdraw it, normally in your retirement years.
To help people buy a home, they allow First Time home buyers or people that have not owned a home in the last 5 years to use up to $25,000 of your RRSP as your down payment.
You can only do this after your RRSP has been on deposit for at least 90 days with a registered savings plan.
You are allowed to withdraw these funds as a loan to yourself. You must use it for the down payment of your new home. You are required to complete a form, normally done by the bank or investment firm that holds your RRSP.
They complete a Homebuyers withdrawal form. This form is sent to the government to let them know you have withdrawn the funds from your RRSP program.
You now have up to 15 years to pay this money back to yourself. Each year you must pay a certain portion back to yourself. You do this by purchasing another RRSP and declaring it each year as your repayment to your Homebuyers program.
You can delay starting payments for up to 2 years. This would mean you must pay the loan back in 13 years so the annual payment to yourself is larger.
If you fail to make your annual payment each year your personal taxes will be reassessed and that payment amount for that year will be added to your income and the taxes will become owed. You may also have a penalty for a late payment of your taxes. A great program if you have RRSP savings
Gifts from Relatives:
Many families want to help their children or even other family members to buy their first home. They do this by providing a gift of the down payment to their family member.
This is acceptable as long as this gift is documented and proven. This is done by all parties signing a gift letter that is dated for the same date that the money being gifted is deposited into the bank account.
The letter should be dated for the same period the money is given to the first time home buyer. The buyer then provides a copy of their bank statement that proves the cash is in their account. It is important that this statement has the buyers name and account number on it so it can be linked to the First Time Home Buyer.
In some cases the lenders will want to see proof of where the gifted funds have been on deposit. The gift giver must than provide the same 90 days proof of where they have had the funds.
Not all lenders require this but it is becoming a more common request with gifts. The reason for this is to help prevent fraud from illegal activities of criminals.
Money laundering is a real issue with lenders and banks and they have government regulations to provide full proof of all large down payments. This is especially true of large gifts from relatives.
The bad guys like to launder their money by buying homes and then selling them in the future.
Gifts are still a practise done every day. Its best to be aware of what will be needed to prove the gift if you will be receiving one.
Funds from a company account that you own:
This source is used by self-employed individuals. Many self-employed people have a great deal of equity and money invested in their business. These funds are normally in a bank account.
Since they are in a bank, the lenders want the same 90 days of bank statements with the company name and account number listed.
The only hitch is that you must now prove that you own the company. This is normally done by incorporation paperwork, business licenses or personal tax returns that show the company name. Anything that can connect you to the ownership of the company can be used as proof you own the company.
Funds from the sale of an asset:
Many people will be selling something to help get the money for their new down payment. Selling homes, cars, boats, motorbikes, even animals and businesses for their new down payment.
When you sell an asset you will normally record this sale on paper or in some form. You will need to provide the full paperwork from the sale of the assets. You then must prove the money is deposited into your bank account with a statement connecting you to that account.
A good tip here is to ensure the sale amount is the amount deposited into your account and close to the date on the sales contract. This is acceptable to the lenders. You may have to explain how lower or larger amounts are deposited into your account if they do not match up to the sales contract you provide as proof.
This is a tricky one, borrowed funds come with a premium if you are putting down less than 20%. There is a premium added by the mortgage insurers on any borrowed down payments. This is normally .20% added to the mortgage insurer’s premium.
In the next chapter and in the 3 types of insurance chapter you will learn about mortgage insurers, how they work and their benefits. Many first time home buyers have less than 20% down payment so mortgage insurers are a critical part of the plan and we have a separate chapter on them.
You can use borrowed funds for your down payment but they must be declared and proven just like all other sources of down payments. You also must debt service the loan payment or credit card payment. This means the lender will include your estimated payment with all your other monthly payments to ensure you can debt service the new mortgage as explained in “Can you afford to buy your new home”.
You will need to provide proof of where you will borrow the funds from and at what interest rate you must repay these funds. You can do this with the most recent statement if you are using a line of credit or credit card account.
The lenders want to see these statements and have proof on file of where the down payments funds are coming from. Lenders will accept borrowed down payments as long as you declare and prove them.
There are other down payment sources
In all my years in the mortgage business I have seen down payments come from many sources some were unique, the sale of animals, dogs, horses and farm stock. I have seen the sale of planes and some rather interesting businesses all in the name of providing people with a down payment for their new home.
The best tip to remember is, make sure you have a complete paper trail of where your down payment is coming from. The more detail you can provide the better.