How Mortgage Pre-Approvals Work

Second, it locks in their interest rate for 120 days and protects them from increases in mortgage rates. Both of these functions are very important in the home purchase process, but may not be available for much longer.

Unfortunately, although this is a great service for home buyers it is not so great for the banks lending the money and many of them are taking steps to change the process. Why are the banks against pre-approvals? Well, it costs the banks a significant amount of money to hold your rate for 120 days. The site Canadian Mortgage Trends reports that it costs the banks between $900-$1,200 to hold (hedge) a $100,000 mortgage for 120 days. Obviously the higher the pre-approval the more it costs. So before you even sign the mortgage papers, the bank has already spent about $1,000 on you. This wouldn’t be so bad if you actually used that bank for your mortgage, but unfortunately the majority of pre-approvals never actually materialize into a mortgage for the bank.

In fact, some banks only have a 15% conversion rate for pre-approvals to actual mortgages. That means 85% of the people that get a pre-approval end up going elsewhere and this is what hurts the banks profitability. Some lenders are reporting they lose up to $20M a year on pre-approvals that do not turn in to an approved mortgage…..and we all know banks are not in the business of losing money. Hedging costs are not the only expenses they incur to hold your pre-approval. There are also workforce costs.

Your mortgage pre-approval has probably been touched by at least 2 bank employees before it is issued to you. Those employees salaries and benefits need to be included in the equation as well so that $1,000 hedging cost is probably closer to $1,500-$2,000 once we add the additional expenses.

So what are lenders doing to remedy this situation? Well, many lenders have announced over the last couple weeks they are stopping pre-approvals completely and others have announced they are adding a .10% premium to the mortgage rate to help compensate for their hedging costs. Also keep in mind some mortgage brokers and individuals will get pre-approvals at 2 or more lenders. Not only does this cost the lenders money, but also ties up resources and slows down the approval process for others.

The Canadian mortgage industry has seen quite a few changes over the last year and lenders streamlining the pre-approval process is just the next step in the evolution of the industry.

Brad Compton
Mortgage Consultant
Invis Inc - phn: 416-671-2183
bradcompton@invis.ca
www.YourLowMortgage.ca