The Risk You Didn’t Think of Before Lending to a Foreign National (hint – it’s not fraud!)
Canada has a worldwide reputation for being a great place to invest in real estate. Growth in our economy and rising housing prices are fueled by foreign investment and of course, immigration.
Our banks all have “New to Canada” mortgage products designed to encourage this activity, but one can only qualify if they have direct ties to Canada – things like a SIN number and a bank account. Foreign nationals that do not have any business or personal ties to Canada are usually forced into the private mortgage market and don’t mind paying the premiums that investors command which, on the surface, appears like a marriage made in heaven. But many amateur private mortgage investors make one common oversight when lending to foreigners and it can mean the difference between delay and disaster in a default situation.
I’ve spoken in real estate investment clubs all over the country and they attract all kinds of investors and agents looking to create a niche. One of the most popular is helping other people find money to invest with so its not uncommon to find club members lending to each other or to each other’s clients without a tremendous amount of experience. Membership tends to make the environment feel safer and more insulated from things like mortgage fraud and other forms of illegal activity and that’s what most investors worry about most when considering a loan to a foreigner. But that’s not the biggest threat to their security.
When a foreigner who owns a property in Canada decides to sell it, the proceeds are subject to withholding taxes and these taxes are significant. If the property is owner occupied, the withholding taxes are a staggering 50%, and if the property is a rental the withholding taxes are 25%. This is a huge threat to a lender’s security so you must take it into consideration when setting your policies regarding your maximum loan to value ratio (LTV).
At Magnetic we will lend up to 80% LTV on a qualifying property in Ontario. But if the borrower is a foreign national, we automatically reduce the effective value by 50% and lend no more than 80% of that number instead. Why? Because that’s the only way we can be sure that on a sale at fair market value our Investors can get all of their money back irrespective of the (up to 50%) withholding taxes required to be paid by the Borrower when they sell.
It’s a little thing, but a big reason why so many Canadian mortgage Investors prefer working with a knowledgeable, experienced mortgage Administrator like Magnetic. First priority always has to be preservation of capital and withholding taxes rarely cross the mind of an amateur private mortgage Investor, but neither does the trigger when the mouse is solely focused on getting the cheese. Beware of the withholding tax trap.