When considering purchasing a property, there are many different factors to take into consideration, including location, size, and affordability. The last of these, affordability, is also something that the lender will deliberate when you decide to take the last step in the purchase of your property and apply for a mortgage.
To a lender, affordability translates into two things, TDS and GDS. Gross Debt Service Ratio (GDS) and Total Debt Service Ratio (TDS) are two mortgage formula that lenders use to determine exactly how much money they are willing to lend you. Let’s explore what each of these ratios mean and how exactly what the mortgage calculation formula is.
GDS - Gross Debt Service Ratio
This is the percentage of your income needed to pay all monthly housing costs, which include your mortgage, property taxes, heat and 50 per cent of your condo fees, if applicable. The majority of lenders abide by a general standard of 32 per cent. This means your GDS should be lower than that to qualify for a mortgage.
Calculating your GDS (Gross Debt Service Ratio)
Add all of your monthly housing-related costs (principal, interest, property taxes and heating) calculated on an annual basis), then divide the total by your gross income. The sum is then multiplied by 100 to give your GDS ratio.
TDS - Total Debt Service Ratio
Your TDS is calculated next. The debt ratio formula calculation is very similar to that of the GDS, except all of your monthly debts are taken into consideration. This includes car payments, credit cards, alimony, and any loans. The industry standard for a TDS ratio (total debt service ratio) is 40 per cent.
Calculating your TDS (Total Debt Service Ratio)
In addition to the total monthly housing expenses, you now must add payments such as credit cards and car payments. Once you have added all of these expenses, divide the figure by your gross income, multiple by 100 and the result will be your TDS calculation.
What if my ratios are higher than the industry standard?
The first thing to remember is that these ratio percentages are simply industry standards and vary from lender to lender (banks vs. non-depository lenders, B lenders and private lenders). Therefore, they are not set in stone.
Some lenders will emphasize other factors when determining the validity of an applicant. For instance, the loan-to-value (LTV) is much more important to B lenders, as they are lending based on equity and income can be stated to alter the TDS/GDS ratios.
In another case, the loan may be high-ratio (high ratio mortgage: less than 20 per cent down payment), which requires it to be insured by the CMHC, Genworth or Canada Guaranty. In the case of insured loans, the GDS or TDS can be as high as 39 to 44 per cent with a credit score of at least 680.
According to the CMHC, it’s important to note “Debt service flexibilities are based on an assessment of the strength of the overall application. Satisfying the minimum credit score alone does not automatically entitle the borrower to debt service flexibilities.”
Remember, there are also ways to decrease your ratios, such as paying off some of your debt load or increasing your down payment or add back/offsetting with rental income. Additionally, including your spouse on the application or choosing a property that is less expensive are also options to consider.
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