Financing the Second Suite
Devon and Aisha have a gross household income of $128,000 and $45,000 saved. They want to buy a duplex in Dartmouth for $615,000 and live in one unit while renting the other. Their lender pre-approves them for a high-ratio insured mortgage at 4.9 percent over twenty-five years. Devon also carries a $410 monthly car payment and a $22,000 line of credit with a $180 minimum payment; Aisha has $9,000 in student loans at $130 monthly. Property taxes are estimated at $4,300 annually, heating at $2,400, and half of the $2,900 annual insurance. The lender will use 50 percent of the projected $1,650 monthly rent from the second unit. The buyers' agent tells them the rental income will "easily cover the mortgage" and that they should waive financing to win a bidding war.
1. Calculate whether the buyers can reasonably qualify, showing your work, and identify the key risks in the agent's advice.
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Use gross debt service and total debt service ratios. Monthly housing costs: mortgage principal and interest on $615,000 at 4.9 percent over 25 years is roughly $3,560. Property tax is $4,300/12 = $358. Heating is $2,400/12 = $200. Half of insurance is $1,450/12 = $121. Total housing cost = about $4,239. The lender credits 50 percent of $1,650 rent = $825, reducing the effective housing cost to about $3,414.
GDS = $3,414 / ($128,000/12 = $10,667) = about 32 percent, which is within a typical 32 to 39 percent guideline.
Other debts: car $410 + line of credit $180 + student loan $130 = $720. TDS = ($3,414 + $720) / $10,667 = $4,134 / $10,667 = about 39 percent, at the upper edge of typical limits.
The numbers are tight but may work on paper. The real problems are: the rent is projected, not proven, and lenders may require a lease or appraiser's market rent estimate; the mortgage is high-ratio, so default insurance premiums increase the balance; the buyers have only $45,000 saved, which must cover a minimum down payment plus closing costs, land transfer tax, legal fees, and adjustments. A 5 percent down payment on $615,000 is $30,750, leaving very little cushion.
The agent's advice is dangerous. Advising buyers to waive financing to win a bidding war exposes them to losing their deposit if financing fails. Telling them rent will "easily cover the mortgage" overstates a projection as a certainty and ignores vacancy, repairs, and the months before a tenant is found. The agent should recommend a financing condition or a pre-approval letter with a verified rental assessment.
2. If the buyers proceed, what should the agreement of purchase and sale include to protect them, and what should the agent document?
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The agreement should include a financing condition with a firm date and a specified lender and terms, so the buyers can exit if the commitment does not materialize. It should also include a condition permitting the buyers to review any existing leases, rent rolls, and the status of the second unit, and to confirm that the unit is a legal, conforming second dwelling under municipal rules.
Because the buyers intend to rely on rental income, they should verify the unit's compliance, separate utilities and meters, and any required registration or licensing. The agreement should address what happens to existing tenancies and security deposits, and should include a seller representation about the legality of the unit and any permits.
The agent should document: the pre-approval terms and any conditions; the rental estimate source and that it is a projection, not a guarantee; the buyers' instructions about the financing condition; and any discussion about waiving conditions, including the risks explained. If the buyers insist on waiving financing, the agent should confirm the instruction in writing and recommend independent advice. The agent should avoid giving lending or tax advice and should refer the buyers to a mortgage broker and an accountant regarding rental income treatment and principal residence issues.