Financial Friday #98: Misunderstanding your Mortgage a Costly but Common Mistake
A recent survey
found that one third of Canadians spent more time planning their next vacation than investigating the options, details, and possible outcomes of their mortgage agreement! Quite shocking considering it is a long-term, legally-binding financial commitment that is critical to your financial and overall well-being.
Mortgages are in the news a lot these days as home prices soar, but there is a lot more to look at than just the size of your mortgage. Here are five things worth digging into if you are renewing your mortgage or in the market for your first home.
1. The choice of a fixed vs variable rate
The two factors at play here are your risk tolerance and future interest rates. Fixed rates lock in your monthly payment for the duration of the agreement and terms of 5 to 25 years are available. The catch is you pay more for that security.
Advertised 5-year fixed rates at the “big banks” are around 3% right now, whereas variable rates are hovering around half that at just 1.5%. If the Bank of Canada (BOC) implements several 0.25% rate hikes as expected this year (possibly starting with their next announcement on March 2), that gap could narrow significantly in just one year as variable mortgage rates rise in lockstep with BOC rate hikes.
It seems certain that interest rates are heading north in 2022. The problem is few economists agree on how fast or by how much, and even fewer agree which way they will go over the next five years. It's really up to you whether you want to roll the dice on a variable mortgage.
2. Renewing? Don’t trade convenience for anything!
Renewing your mortgage with your current lender is a great time-saver, but make sure to shop around and compare rates as well as adjust any terms and conditions to reflect changes in your lifestyle. It isn’t only about the rate, and keep in mind that the lowest rates often come with the least flexibility.
Going forward, you may want to switch from variable to fixed, add payment flexibility or portability, or some other features. Failure to get the mortgage product with the options you need will leave you with more than a little regret, it may also leave you on the hook for all sorts of fees and penalties if you need to modify or break the terms of your mortgage.
3. Get a rate hold.
Getting pre-approved is a no-brainer considering how fast you have to move in today's housing market, but make sure to also confirm how long any rate offers will last. Lenders usually hold an offered rate between 60 and 120 days. The longer the rate hold, the more time you will have to keep shopping for your dream home with the security of a locked in rate.
4. Using your mortgage for debt consolidation or borrowing your equity?
The great thing about a mortgage is the low rates can save you thousands in interest charges versus other borrowing options. Credit cards can have rates 15 times higher, so if you have a credit card balance and equity in your home, you should check out a home equity loan (make sure to cut up that card first!). Don't forget that equity can come and go quickly as house prices fluctuate, so your ability to pay back that money (it’s not free!) should be the deciding factor. If you borrow to invest or for a home renovation that you can afford and will add to the value of your house, definitely look into financing with your equity.
5. Should I pay it off early?
If this is on your mind, the first thing you need to do is confirm what sort of accelerated payments you are allowed to make? There may be limitations on the amount or timing of payments or a number of other rules in your mortgage agreement. The other consideration is what else would you do with that extra money? If you lack discipline and would spend it, pay off the house! If you would invest it, get out your calculator and start crunching some numbers!
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