Does it Matter Where Your Down Payment Source Is From?

When it comes to purchasing a new property or home, many people focus on the excitement of finding the perfect place, without giving much thought to where the down payment will come from. However, it's crucial to understand that the source of your down payment matters a great deal to the lender, and it can affect your ability to secure a mortgage.

Lenders are required by law to document the source of the down payment for every home purchase. The reason for this is to prevent money laundering, which is a serious crime. The acceptable forms of down payment include money from your resources, borrowed funds through an insured program called FlexDown, or money received as a gift from an immediate family member.

To prove that the funds are from your resources and not from illegal activities, you'll need to provide bank statements showing the money has been in your account for at least 90 days, or that you've accumulated the funds through other acceptable means. If you're borrowing all or part of your down payment, you'll need to include the costs of carrying the payments on the borrowed down payment in your debt service ratios. If you're the recipient of a gift, you'll need to provide a signed gift letter indicating that the funds are a true gift and have no schedule for repayment.

Lenders care about the source of your down payment because it's an indicator of your financial suitability to purchase the property. Showing the lender that your down payment is coming from your resources is the best option, as it demonstrates that you have positive cash flow and that you're able to save money and manage your finances in a way that indicates you'll most likely make your mortgage payments on time. If your down payment is borrowed or from a gift, the lender may scrutinize the rest of your application more closely.

The bigger the down payment, the better it is as far as the lender is concerned. This is because there is a direct correlation between how much money you have as equity and the likelihood that you will or won't default on the mortgage. Essentially, the more equity you have, the less likely you will walk away from the mortgage, which lessens the lender's risk.

Your down payment also establishes the loan-to-value ratio (LTV), which is the percentage of the property's value compared to the mortgage amount. In Canada, a lender cannot lend more than 95% of a property's value. Therefore, if you're buying a home for $400,000, the lender can lend $380,000, and you're responsible for coming up with 5%, or $20,000 in this situation.

The source of your down payment can impact the LTV because any scenario where the buyer isn't coming up with all of the money for the down payment, independent of the seller, can impact the LTV. All details of a real estate transaction must be disclosed to the lender. If there's any money transferring behind the scenes, this impacts the LTV, and the lender won't proceed with financing. Non-disclosure to the lender is considered mortgage fraud.

In conclusion, the down payment source is an essential factor to consider when purchasing a new property or home. Not only is it required by law, but it also tells the lender about your financial situation and can affect your ability to secure a mortgage. By understanding the importance of the source of your down payment, you can make an informed decision and ensure a smooth home buying process.