Do Subprime Mortgage Lenders Add Value? Our Answer May Surprise You

In recent years, the Canadian housing market has seen a surge in subprime mortgages. According to a report by the Canada Mortgage and Housing Corporation (CMHC), the proportion of new mortgages issued to borrowers with a credit score below 600 increased from 8% in 2014 to 12% in 2018. Additionally, the report found that the average credit score for new borrowers has been declining steadily since 2013.?

Canada's housing bonanza is increasingly driving homebuyers to seek mortgages from private lenders. Ontario, unsurprisingly, accumulated the highest rate of subprime borrowers. Subprime borrowing is up to 5x higher in smaller cities, for which there are many social economic reasons. In 2021, Windsor took the top spot, where 6.8% of buyers had a subprime credit rating. Half of the top ten markets with the highest share of subprime buyers were in Ontario.?

Presently, over 12% of Canadians are subprime borrowers as per the recent study done by TransUnion Canada (Source: WOWA). TransUnion also estimated in 2020 that about a third of Canadians have a "below-prime" credit score.??

So in 2023, should home buyers still be turning to the subprime lenders? We say yes, absolutely! With the housing market barely slowing down over winter, the rising prices are still a trend. While market analysists predict housing prices to drop in the Q2 of 2023, the GTA and Vancouver markets are not going to be affected. The supply is so scarce that even with Bank of Canada hiking the rates, the high prices will remain sustained for the foreseeable future.

Subprime borrowers still need a way to finance their home purchase, and this is where the “B Lenders” come into play in Canada. In fact, with home prices soaring, it is natural that many borrowers are turning to subprime lenders to afford a home.?

Subprime mortgage lenders, commonly known as “B Lenders” and private mortgage lenders, play an important role in real estate financing in Canada. You can typically access subprime lenders with a mortgage broker. B Lenders and private lenders fill the gap left behind by “A Lenders”, which include the major banks, as A Lenders have stricter requirements due to government regulations. Subprime mortgage lenders are not directly regulated by the government, which allows them to offer bad credit mortgages to borrowers that might otherwise be denied by a bank or credit union.

Relaxed mortgage rules for subprime mortgages include the possibility of an amortization period as long as 40 years and a down payment as little as 10% (or a loan-to-value (LTV) ratio of 90%). However, some private lenders may require a larger down payment, or they might have a lower maximum LTV ratio.

However, the subprime borrowers may be at a higher risk of defaulting on their mortgage payments, which could lead to a wave of foreclosures and a decline in property values.?

If you are considering a home purchase with the assistance of a B lender, it is crucial to remember that subprime mortgages are only meant as a temporary solution until the borrower improves their credit and can qualify for a regular mortgage with the A Lender. For example, the typical subprime mortgage term ranges from 6 months to 24 months. Since the average subprime mortgage rate is 6.5% to 15%, you wouldn’t want to have to pay this interest rate for very long!?

It is also very important to understand the nuances of the private loans. One big issue that’s materialized here is that people don’t really understand these loans. A survey by the FSRA recently found that most Canadians, up to 54%, believe private mortgage payments cover both principal and interest. In reality, since these are temporary solutions, many of these products are interest only payments. Many people that borrow from private lenders know that a private lender can turn down a renewal, at which point you’re stuck without financing if you didn’t make other plans.?

Back in early 2000’s, many people in the States, for example, found themselves stuck in these high-interest loans in the United States, and when the housing market crashed in 2007, they were left underwater on their mortgages. Being underwater on a mortgage means that you owe more on your mortgage than the home is actually worth. This led to a wave of foreclosures and further instability in the housing market.

Lenders in Canada have since tightened up their standards for issuing subprime mortgages, but there are still some people who may benefit from this type of loan.?

Again, the eventual goal for subprime borrowers would be to qualify for a mortgage from one of the Big 5 with a lower interest rate. If you are considering a subprime mortgage, make sure you understand the risks involved and that you have a strong plan in place to shore up your finances.

Are there ways for the borrowers to avoid the pitfalls of the private loans, and find a solid B Lender? Of course, here are some tips to help you choose a good subprime mortgage lender with a solid track record:

Research lender reputation: I always start my search for any service provider by asking my relatives, friends and colleagues for referrals. Second best option is to look for reviews and ratings from other borrowers to get a sense of a lender's reputation. You can also check with the Better Business Bureau to see if any complaints have been filed against the lender.

Consider lender experience: Look for a lender with experience in subprime lending. The lender should have a track record of working with borrowers with low credit scores and helping them secure affordable mortgages.

Look for personalized service: Choose a lender that is willing to work with you and provide personalized service. A good subprime lender should be able to answer your questions and guide you through the mortgage process.

Check for pre-approval options: Consider a lender that offers pre-approval options, as this can help you determine how much you can afford and make the home buying process smoother.

Check for additional services: Look for lenders that offer additional services, such as financial planning or mortgage advice, to help you make informed decisions about your mortgage.

Carefully review the mortgage terms: Can't empathize this one enough. Carefully review the terms of the subprime mortgage, including the interest rate, repayment schedule, and any fees or penalties. Make sure you understand the terms before signing the mortgage agreement.

Work with a mortgage broker: Consider working with a mortgage broker who can help you find the best subprime mortgage lender for your needs. A broker can help you compare rates and terms from multiple lenders, and provide advice and guidance throughout the mortgage process.

With the assistance of reputable B Lenders, borrowers have more options of securing the necessary financing. Borrowers who take time to perform due diligence and learn about subprime mortgage lending may enter the real estate market sooner and rip the benefits of owning the property in this ever booming housing market.