Canadians with variable rate mortgages have surely noticed that their monthly payments have climbed over the last year. In 2018, the Bank of Canada increased its overnight rate by three times, from 1 percent to 1.75 percent, causing variable rates payments, which rise and fall based on the BoC’s rate, to jump.
“If you’re in year four or five of the term, you might want to wait until it ends to renew. But if you’re in year two, switching could save you a lot of money.”
Say you have a $1 million home with a $400,000 mortgage and had a 3 percent variable rate in January 2018 – that payment, which could already be pushing north of $2000 a month depending on your amortization period, would now cost $160 more per month. If the BoC raises rates two more times in 2019, then you’ll end up paying $260 more per month than you did at the beginning of last year.
No matter the household income level, rising rates can put pressure on people’s cash flows, especially in Vancouver and Toronto, where housing costs having climbed as interest rates have risen, says Joel Wolodarsky, Assistant Vice-President of mortgage lending at IG Wealth Management.
With rates potentially continuing to climb, some homeowners are likely thinking about whether they should lock into a fixed term or continue to stay on the variable rate ride. “This is a very basic question that comes up often among clients,” says Wolodarsky.
The decision, he says, often boils down to an individual’s appetite for risk. “For some, it really makes them comfortable knowing the interest costs they’re paying for the next five years will remain the same,” he says. “They like knowing their expenses won’t change month to month.”
Switching, though, isn’t quite that clear-cut. In most cases, going from variable to fixed will require you to break your current mortgage, which can come with additional costs. Borrowers could end up paying an extra three months in mortgage interest costs, says Wolodarsky. Some companies, including IG Wealth Management, will waive this charge for clients who want to convert their variable mortgage to a fixed rate of equal or longer term.
Depending on how much time you have left on your term, converting may or may not be worth the cost. “If you’re in year four or five of the term, you might want to wait until it ends to renew,” he says. “But if you’re in year two, switching could save you a lot of money.” However, if variable rates decline, then you could end up spending even more than you anticipated.
Something else to consider: While variable rates can move higher than fixed rates over time, in the short-term the fixed rate will be pricier than your variable rate, so plan for additional costs.
There are options other than just straight variable and fixed, says Wolodarsky. It’s possible to set up a variable rate mortgage with a fixed payment. If rates rise you would pay more in interest than principal and vice-versa if they fall. This can be a good option for people who pay more per month than required. “While the interest rate on your mortgage may rise and fall, your payment remains fixed for the length of the term,” he says.
When it comes to mortgages, working with a mortgage professional can help you map out the implications of each option in the context of your long-term goals.
They may also be able to find other solutions. Borrowers can tailor a mortgage to suit their needs, says Wolodarsky, including having longer amortizations, shorter mortgage terms or higher frequency payments. There are also hybrid mortgages, where a portion of the mortgage can be set up as a variable rate and some as a fixed rate. “You have plenty of options,” he says. “So, you’ll want to pick the best one to suit your needs.”