In order to stimulate sales and maintain price points on new properties, sellers (and developers) will offer incentives to buyers versus lowering the price of a piece of property. A common incentive is to include a “decorating allowance”. Decorating allowances can be any amount but common ones are between $5,000 and $10,000. This basically means that the purchaser will be credited on the statement of adjustments the amount of the decorating allowance at the lawyer’s/notary office when closing.
However, decorating allowances can pose a problem with obtaining financing. Often times, the lender will reduce the amount of the mortgage proceeds by the amount of the decorating allowance. This is because the lender will not lend on perceived credit. A decorating allowance is perceived by the lender as credit.
What does this mean? When you apply for a mortgage, you are applying for the full purchase price of the property. If the new property price is $500,000, you are applying for $500,000 plus GST minus the down payment of at least 5% ($25,000). The total mortgage amount to be applied for equals $500,000 (purchase price $500,000 + GST ($25,000) – down payment ($25,000) = $500,000).
However, the lender will not lend on the decorating allowance, so the lender will release the mortgage amount minus the decorating allowance. For example, if the decorating allowance is $5,000, then the mortgage proceeds will be $495,000 instead of the $500,000 originally applied for, which leaves you $5,000 short for the purchase price. The seller will then credit your mortgage $5,000 (decorating allowance) which will make your mortgage $5,000 less (mortgage of $495,000). But keep in mind, you have to provide the full $500,000 as this is the purchase price.
Bottom line…. if you accept a “decorating allowance” it will be a credit to your mortgage and you have to provide the cash for the decorating allowance up front as the lender will not lend on a decorating allowance. If you need more information, GLM Mortgage Group can help!
Written by our very own Wrenetta Sinclair on the DLC blog. Thank you Wrenetta!