A home purchase is likely the biggest purchase you will ever make, which means the financing of the house is very important! When I got my first mortgage I didn’t do much research on whether to choose fixed or variable. I wanted the stability of a fixed rate so it was an easy decision (or so I thought). Choosing a 5 year fixed rate cost me thousands in interest compared to a variable rate. At a time when the prime rate kept falling, those who had a variable rate mortgage saved thousands while those who had a fixed rate (including me) were locked in. The penalty for breaking the mortgage was steep (about $15k) otherwise I would have switched to variable.
There are multiple ways to save money on a mortgage - read the article below to get some tips on how you can save money on yours.
Variable Vs. Fixed Interest Rates: Choose Wisely
When choosing between a fixed and variable rate mortgage there are a few key factors to consider. One of the biggest factors is your appetite for risk. A variable rate tends to be a bit lower than fixed but the potential savings come at a risk: when rates rise your payment could also rise. This could be an issue if you don’t have any flexibility in your budget to handle a higher monthly payment. If you're willing to take the risk, you can potentially save with a variable rate mortgage.
Variable rate mortgages have been proven to be cheaper in the long run. A study done by CIBC showed that they are in fact cheaper than fixed rate mortgages 88% of the time.
Despite the potential savings many people still opt for the fixed rate. A fixed rate mortgage offers the security of knowing the rate (and monthly payments) won't change over the mortgage term. Surprisingly, the appeal of safety and security is so strong that about 75% of borrowers choose to go with a fixed rate. After all, a relatively small upward swing in mortgage rates can mean big changes in the total cost of your mortgage.
When interest rates rise, those with a fixed rate mortgage won’t be affected. Those with a variable rate mortgage might be affected. Variable rate mortgages fall under 3 categories. Their payment either:
- goes up or down based on market rates
- stays the same when rates decrease but increases when rates increase OR
- doesn’t change unless the interest rates increase to a specific level
For most people, their payment will not increase if interest rates rise because most major lenders do not change mortgage payments when this happens. However, more interest will be paid in the long run because your amortization gets longer. This means a variable rate mortgage can offer the stability of predictable monthly payments even if rates do increase along with usually saving you money.
Compare Rates Online
Comparing mortgage rates online can be done by easily using a national rate comparison site.
Some of the most popular sites are RateSupermarket, RateHub, and RateSpy. When comparing rates you'll want to make sure you select your province since rates can vary between the different provinces and some lenders only offer specific rates in certain provinces.
Also, when comparing rates online you'll want to look at the fine print for each one of them. Some of the rates are only available to principal residences and aren’t available for rental properties. Others require at least a 20% minimum down payment (or equity) in the property, while still others are geared towards high ratio (less than 20% equity) mortgages. It's also a good idea to look into the prepayment privileges and penalties. A mortgage rate might be very low but it could have restrictive prepayment options or come with a hefty cancellation penalty.
In general the lower the rate, the more restrictions there are on the deal so it's important to understand ALL the details before you commit.
Use A Mortgage Broker
A mortgage broker is someone who works for the borrower rather than one specific lender. They require some basic financial information about the borrower so that they can use the information to shop around for the best rate among numerous lenders.
Mortgage brokers receive a commission based on the mortgage amount and type, and they don’t work for any one lender.
The biggest advantage of using a mortgage broker is that they aren’t tied to one lender so they can shop around for the lowest rates possible from multiple lenders. Their services are free to the borrower. They can be a great help to anyone who has difficulty obtaining a mortgage through their bank due to a low credit rating, past repayment issues, or anyone who is self-employed.
The main disadvantage of using a mortgage broker is that the lender may not necessarily be your bank, so you might not have the convenience of using one company for your everyday banking and your mortgage.
Also, mortgage brokers receive compensation from the lender and different lenders offer different compensation. This means they might be biased towards placing you with a mortgage that maximizes their own compensation. Therefore, it is a good idea to check with a couple of mortgage brokers just to make sure the first one you pick isn’t giving you a raw deal.
Whether or not you use a mortgage broker it is always a good idea to check the latest mortgage rates online to make sure you are getting the best deal possible.
Negotiate With Banks
If you do choose to use your bank for a mortgage you can usually negotiate to get a lower rate. While some prefer using a mortgage broker to get rock-bottom rates, others prefer to use their current bank for convenience.
When negotiating with your bank you’ll want to consider your overall relationship with the bank – the more products/services you have, the better the odds you’ll be able to get a lower rate. You’ll likely be able to negotiate a lower rate if you have a line of credit, unsecured loan, investment products or multiple bank accounts with the bank. The more products you have, the more you’ll be viewed as a valuable customer that they won’t want to lose.
The best way to start negotiating is to do some quick research online to find the lowest rates currently available. You’ll want to let them know you are looking for the lowest rate possible and that you’re willing to leave to find it (assuming you are). Be sure to mention what makes you valuable as a customer including other products/services you have, how long you’ve been with the bank and if any other family members use the bank as well.
Keep in mind that rates are negotiable and you should never accept their first offer if it seems high (which it usually is).
Consider Refinancing Your Mortgage
Refinancing a mortgage is done when the original terms of the mortgage are changed. This can be done for various reasons and it’s most commonly done to take advantage of lower interest rates or obtain a home equity line of credit (HELOC).
Refinancing might make sense to consolidate debt to a lower interest rate. If you had a large amount of consumer debt such as credit card balances that carry high interest rates, it might make sense to use the equity in your home to pay it off. The debt still exists in the form of a home equity line of credit but it would be at a significantly lower interest rate.
Refinancing involves changing the financing on the title of the property so it will involve legal fees, which can vary in cost but are typically about $1,000. The other cost is the penalty to break the original mortgage which depends on the terms in the mortgage. The penalty for a fixed rate mortgage is the higher of the interest rate differential (IRD) or 3 months interest. The penalty for a variable rate mortgage is 3 months interest.
When considering refinancing a mortgage you’ll want to weigh our options carefully to make sure it’s the best financial decision. There are always costs involved so it’s important to weigh them against the potential benefits.
Pay It Off Quicker
There are other ways to pay down your mortgage faster aside from the regular (usually monthly) payment. Here are a few ways to pay it down faster and consequently saving yourself a lot of money on interest:
- Shortening the amortization of the mortgage. This means the payments will be higher but the mortgage will be paid off faster. On a $350,000 mortgage at 3%, shortening the amortization from 25 years to 22 years increases the payment by $153.
- Changing the payment frequency. If you switch the mortgage payments from monthly to bi-weekly it will mean two extra payments per year will be made that will go straight towards the principal.
- Increase the mortgage payments. Most mortgages allow you to increase the payment amount by up to 20% with the difference going towards the principal.
- Lump sum payments. Most mortgages allow you to put a lump sum annually towards the principal. It’s important to check the terms of the mortgage to make sure this is allowed before making any changes, otherwise there could be penalties incurred.
Click here for a mortgage calculator you can use to see how much you can save on your mortgage.
Bonus Tips To Save More On Your Mortgage
Here are a few easy tips recapping the ways you can save the most money on your mortgage:
- Compare rates online to secure the lowest possible interest rate. This can save you many thousands of dollars!
- In general variable rate mortgages have performed better than fixed rate mortgages over time. If you are willing to take the risk of rates rising in the future, the potential savings can add up by choosing a variable rate mortgage.
- Always be sure to check the penalty clause in the mortgage, as breaking the mortgage could potentially result in a hefty penalty that would need to be paid when the property sells. This is particularly pertinent if the possibility exists of moving sooner rather than later. To reduce the penalty you could try to time your move/home sale with the date of your mortgage renewal.
- Only refinance a mortgage when it makes sense after doing the math. This happens when the interest rate on the consumer debt is significantly higher than the mortgage rate and there is a plan to pay it off within the next 3-5 years.
- Instead of putting a lot of savings into a savings account where interest rates are low and you pay taxes, pay off your mortgage quicker. Your savings will likely be bigger and the interest paid on a mortgage (principal residence) is not deductible for taxes.
- Don’t buy mortgage insurance, it’s a rip-off for many reasons. If you want insurance, get a separate policy in the amount of your mortgage. It will likely be both cheaper and have better terms.
- Save a big enough down payments (minimum 20%) before getting a mortgage so you don’t have to pay for mandatory CMHC insurance.
- Double check rates with one or more brokers to make sure there aren't any better deals to be had.