Life is variable, perhaps your mortgage should be, too

Red Deer broker says about 32% of Canadians are in a variable rate mortgage

Approximately 32% of Canadians are in a variable rate mortgage, which with rates effectively declining steadily for the better part of the last 10 years has worked well.

Recent increases trigger questions and concerns, and these questions and concerns are best expressed verbally with a direct call to your independent mortgage expert – not directly with the lender.

There are nuances you may not think to consider before you lock in, and that almost certainly will not be a primary topic for your lender.

Over the last several years there have been headlines warning us of impending doom with both house price implosion, and interest rate explosion, very little of which has come to fruition other than in a very few localized spots and for short periods of time thus far.

Before accepting what a lender may offer as a lock in rate, especially if you are considering freeing up cash for such things as renovations, travel or putting it towards your children’s education, it is best to have your mortgage agent review all your options.

And even if you simply wanted to lock in the existing balance, again the conversation is crucial to have with the right person, as one of the key topics should be prepayment penalties.

In many fixed rate mortgages, the penalty can be quite substantial even when you aren’t very far into your mortgage term. People often assume the penalty for breaking a mortgage amounts to three months’ interest payments, which in the case of 90% of variable rate mortgages is correct.

However, in a fixed rate mortgage, the penalty is the greater of three months’ interest or the interest rate differential (IRD).

The ‘IRD’ calculation is a byzantine formula. One designed by people working specifically in the best interests of shareholders, not the best interests of the client (you). The difference in penalties from a variable to a fixed rate product can be as much as a 900% increase.

The massive penalties are designed for banks to recuperate any losses incurred by clients (you) breaking and renegotiating the mortgage at a lower rate. And so locking into a fixed rate product without careful planning can mean a significant downside.

Keep in mind that penalties vary from lender to lender and there are different penalties for different types of mortgages.

In addition, things like opting for a ‘cash back’ mortgage can influence penalties even more to the negative, with a claw-back of that cash received way back when.

Another consideration is that certain lenders, and thus certain clients, have ‘fixed payment’ variable rate mortgages. Which means that the payment may at this point be artificially low, and locking into a fixed rate may trigger a more significant increase in the payment than expected.

There is no generally ‘correct’ answer to the question of locking in – the type of variable rate mortgage you hold and the potential changes coming up in your life are all important considerations.

There is only a ‘specific-to-you’ answer, and even then – it is a decision made with the best information at hand at the time that it is made.

Having a detailed conversation with the right people is crucial.

It should also be said that a poll of 33 economists just before the recent Bank of Canada rate increase had 27 advising against another increase.

This would suggest that things may have moved too fast too soon as it is, and we may see another period of zero movement. The last time the Bank of Canada pushed the rate to the current level, it sat at this level for nearly five full years.

Life is variable, perhaps your mortgage should be too.

As always, if you have questions about locking in your variable mortgage, or breaking your mortgage to secure a lower rate, or any general mortgage questions, I’m here to help!

Jean-Guy Turcotte is a mortgage broker with Dominion Lending Centres – Regional Mortgage Group in Red Deer.

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