MONTREAL - Homebuyers are being urged to read the fine print and to recognize the potential consequences of tying their mortgage to a grossly inflated secure line of credit - an increasingly common practice that's only now raising eyebrows as people review their finances in tough economic times.
Recently divorced and just two days away from closing on her new home, Sherryl Nickel was shocked when she arrived at her credit union to sign the paperwork and realized the institution had registered a home equity line of credit worth $750,000 when she'd requested and been approved for $200,000.
"They just said, 'It's complete. It's done. We're doing this as a service to you' when I questioned it," said the Vancouver retiree, noting the home was worth only $535,000.
"You don't have time to say, 'Whoa, whoa, whoa, send this back to your head office and get the paperwork redone.' You just don't have that opportunity."
Her lawyer later told her the practice is common and is billed as a boon for consumers who won't have to go through the process of hiring a lawyer again should they need additional credit down the road.
But the practice is also raising questions about the impact it might have on one's creditworthiness and ability to shop around with other lending institutions.
In times of economic uncertainty, it also raises concerns for those considering bankruptcy as a way out, credit counsellor Margaret Johnson said, adding the practice is about a decade old but seems to be occurring more often among her cash-strapped clients.
The founder of Solutions Credit Counselling Service Inc. said secured debt can't be written off in bankruptcy and that many of these "loan master" agreements factor in credit cards and other unsecured loans one might have with a particular lending institution.
"It's all rolled into the mortgage or secured lending so you don't really have an overdraft anymore or you don't really have a Visa product anymore," she said.
"It's all covered under the agreement attached to your house."
It's another reason why Johnson believes consumers ought to diversify their finances and bank with a variety of institutions, another thing such mortgage agreements prevent.
Because the registered amount meets or exceeds the value of the property, Johnson said there's no equity left in the home to offer another lender in exchange for credit.
"What it does is it makes you a prisoner of the financial institution that's got your mortgage," she said.
Paul Grewal, a mortgage lender with Toronto-based Street Capital Financial Corp., doesn't deal in these types of mortgages but believes those who do ought to be forthright with customers.
"The banks need to provide more clarity to the borrower about how much they're actually borrowing and how much is being registered against their home," he said.
The pitch that it simplifies future borrowing also isn't completely accurate, he said, noting borrowers aren't automatically pre-approved for the additional funds registered against their property and may be disappointed if they come in seeking cash due to financial troubles.
Lenders admit it's a way to keep customers.
"Lots of caisses (credit unions) did it already because they realized all this was good for retaining clients," said Nathalie Genest, a spokeswoman for Desjardins Group, adding her company is among the last to widely adopt the practice.
"We register a higher amount simply because every year, when the home appreciates, if we have to refinance or renew the mortgage four or five years later, it avoids having to return to the notary to seek additional funds.
She said there's no limit on the amount that can be registered and that it won't affect a person's credit file.
TD Bank Financial Group said it gives customers the option between a standard mortgage and a larger home equity line of credit as a way of saving both time and money should the client want more credit.
"We offer this option early in our discussions with the customer and only proceed if the customer agrees to it," spokeswoman Kelly Hechler said in an email.
She insisted it does not affect customers' credit ratings or their ability to borrow elsewhere.
RBC spokeswoman Stephanie Lu said the bank does provide such mortgages to "avoid the need to complete additional paperwork, appraisals and registrations at a later date" but that the amount registered would never exceed the appraised value of the home.
Michael Lofquist, a spokesman for consumer credit reporting company Equifax, said while a standard mortgage won't have any effect on one's credit worthiness, a home equity loan will.
While the extent of the impact isn't clear, Lofquist said it will appear on one's credit history and could be a deterrent to other lenders who might see it.
Steven Katz of TransUnion, another consumer credit reporting company, said it comes down to understanding what you've agreed to.
He said the only thing that should show up on a credit report is available credit, regardless of whether it is being used.
"Know what you're signing up for, read the fine print and check your credit report on a regular basis to make sure it accurately reflects what you know to be the credit history that you've earned."
Queen's University finance professor Louis Gagnon suggested it's in a bank's best interest to put as hefty a lien on one's property as possible. He said it also offers protection to clients.
"In this market environment, facing a barrier to leverage is actually a pretty good thing," said the former RBC senior manager who hadn't thought much about the practice until it happened to him.
"Cash is king and people have to pay down their debt... It helps people be a bit more conservative."