Scared and Want to Lock in Your Variable Rate Mortgage?

If you have a variable rate mortgage and recent economic news has you thinking about locking into a fixed rate, you may want to think again. You can expect to pay a higher interest rate over the remainder of your term, and you could end up paying a significantly higher mortgage penalty, should you need to break your mortgage before the end of your term.

Interest rates on fixed rate mortgages

Fixed rate mortgages come with a higher interest rate than variable rate mortgages. If you’re a variable rate mortgage holder, this is likely the primary reason you chose a variable; to secure the lower rate.  Currently 5 year fixed rates are ranging from 4.25% and 4.75%.

The perception is that fixed rates are somewhat “safe” while variable rates are “uncertain.”  And while it’s true that, because the variable rate is tied to prime, it can increase, (or decrease), within your term, there are controls in place to ensure that rates don’t take a roller coaster ride. The Bank of Canada has eight prescheduled rate announcements per year, where they rarely move more than 0.25% per announcement. The recent rate increase of half a percent is the largest increase in over 20 years, quite unusual.  What this means is it is impossible for your variable rate to double overnight.

Penalties on fixed rate mortgages

Each lender has a different way of calculating the cost to break a mortgage.  However, generally speaking, breaking a variable rate mortgage will cost roughly three months of interest, or approximately 0.5% of the total mortgage balance. Comparatively, breaking a fixed rate mortgage could cost upwards of 4% of the total mortgage balance, if you are required to pay an interest rate differential penalty.

For example, on a $500k mortgage balance, the cost to break your variable rate would be roughly $2500.  The cost to break the same mortgage at a fixed rate could be as high as $20,000, eight times more, depending on the lender and how they calculate their interest rate differential penalty.

This flexibility is likely another reason you initially chose a variable rate product.

Breaking your mortgage contract

Nearly 60% of Canadians will break their mortgage at an average of 38 months.  While you may intend to stay stay with your existing mortgage for the whole term, life happens, and you might need to make a change.

Locking your variable rate mortgage into a fixed rate is choosing to voluntarily pay more interest to the lender, while giving up some of the flexibility you might need to break your mortgage. That being said, it still may be the right decision for you.  As we like to say, if your mortgage rate is going to keep you up at night and give you grey hair, by all means, lock it in!  However, if you can stand the fluctuations, we still think the variable product is the way to go. 

If you have any questions or would like to discuss this in greater detail, please feel free to contact me by phone or email. I'm lways here to help!