Governed by the Bankruptcy and Insolvency Act (BIA) — which is regulated by the Office of the Superintendent of Bankruptcy Canada (OSB) —, bankruptcy allows insolvent persons to write off their debts and to have a fresh start. People are obviously very preoccupied by the impact of such a procedure on their credit rating. In Canada, between 70,000 and 75,000 people file for bankruptcy every year. Therefore, all these individuals whose credit rating is damaged may face a tremendous challenge when they afterwards consider buying a house or moving.
This being said, it is not impossible to get a mortgage after being discharged from bankruptcy. However, the terms of such a loan are not then always favourable. First, to get a mortgage under normal terms from a traditional financial institution, it might be possible to have the loan insured by the Canada Mortgage and Housing Corporation (CMHC). But, in such a case, there is an additional premium to pay. Also, the rules specify that the individual must have been discharged from bankruptcy at least 24 months before.
However, since this approach is not suited for everyone, other alternatives may be considered.
Possible solutions to buy a house after bankruptcy
Yes, even after a bankruptcy, it may be possible to purchase a house to call home. But one may then have to rely on a non-traditional mortgage lender.
Some businesses specialise in bridge loans. Typically, the loans they provide are usually spread over a rather short term, that is on a period varying between 3 months and 2 years. Since insolvent persons represent a higher risk for private lenders, their services come at a price:
- generally a down payment of 25%;
- high interest rates between 10 and 20 %.
Main advantage of a private lender
- a quick access to ownership.
Lease with option to purchase
Leasing with an option to purchase (lease-option) is a rather unknown solution, yet relatively easy to understand. As its name suggests, this process involves two steps: the lease, followed by the purchase.
During the first step, the owner of the house and the future purchaser sign a lease for a specified duration. Throughout the term of the lease, the lessee-purchaser pays a rent to the house owner. At the end of the lease, he or she may or not purchase the house for a price previously agreed upon.
It is a rather interesting solution for the lessee-purchaser since he then gets sufficient time to improve his credit rating. It then becomes possible to obtain a mortgage from a traditional financial institution. However, under this process, the lessee-purchaser must make an initial security deposit, which can serve as a down payment should he or she decide to purchase the house. To have some evidence of this deposit, it is recommended to make this transaction through a bank draft, or a notary’s (in Québec) or lawyer’s trust fund.
The home owner remains responsible for the mortgage loan on the house until it is sold. The same applies to municipal and school taxes, even though such charges may be incorporated in the monthly rent. The bills for maintenance and repair costs may incur to either the home owner or the lessee-purchaser. However, it is preferable that an agreement be reached to avoid any misunderstanding.
Main advantages of the lease-option
- a quick access to homeownership;
- a lower deposit (down payment) than what financial institutions require;
- the possibility to raise the rent to have a higher down payment for the purchase;
- an agreement, signed before a notary (in Québec) or a lawyer, which reassures the stakeholders.
Looking for leases with option to purchase
A lease-option offer may be presented to anyone selling their house. Although few, some house owners are specifically looking for lessees interested by this type of arrangement. Moreover, project developers more frequently resort to this sort of arrangements to sell their new homes.
Some precautions to be taken to avoid other debt problems
Even though attractive, the recourse to private lenders or the lease-option can have serious consequences if the terms of the agreement are not met. In such cases, the private lender may seize the house. For is part, the lessee-purchaser risks losing his initial deposit, as well as all the money he invested during the lease.
These solutions are therefore more suited to people who have sufficient revenues to be able to meet their obligations. After a bankruptcy, priority should be to develop healthy financial habits. More specifically, sticking to a budget and avoiding debt traps. It is therefore preferable to defer the purchase of a house if such a project risks to create too much stress on one’s financial situation.
When filing for bankruptcy, a debtor has the opportunity to attend two private budget consultations with his or her trustee in bankruptcy. Using that time to discuss a project such as buying a house would put the debtor in a better position to assess the chances for success. There is no reason why getting sound advice from a professional on that topic should be ignored.
At Ginsberg Gingras, we are always available to give advice, even when the procedures have been completed and a bankruptcy discharge has been obtained. Please do not hesitate to contact our professionals should you have any question related to insolvency and budget management.