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Should You Break Your Mortgage For a Lower Rate?



This is a guest post by regular reader, and personal finance enthusiast, Sampson.  After discussing my mortgage situation, I had many questions from readers about their own.  Sampson tries to answer the most common question, should you break your mortgage for a lower rate?

The recent nosedive in fixed rate mortgages has gotten many, including myself, to reassess their current mortgage contracts. Whether you have one of those wonderful Prime-minus variable rates, or locked in a fixed rate a few years ago, the current record low fixed rates have many asking themselves whether breaking their existing contracts would be advantageous.

There’s no simple answer, you first have to know why you would like to break your existing contract.

  • Do you want to pay off your mortgage faster?
  • Do you want better monthly cash flow?
  • Are you worried about the potential of future inflation?

Factors to consider

1. Penalty for breaking existing mortgage

  • call your current lender to get this figure
  • can you pay it with cash, or will you roll it into the new mortgage?

2. Fees associated with transferring mortgage, land titles, and other legal fees

  • make sure to negotiate with the new lender, they will often cover these expenses

3. Flexibility of the new mortgage

  • what are the maximum prepayment amounts
  • what are the penalties if you break the new mortgage

4. Penalties

  • Most penalties are now calculated using an interest rate differential (IRD) calculation. This method of calculating the penalty was designed so that banks could recuperate nearly all the lost interest they would have earned if you stayed with their institution at your current interest rate.

So in most cases if you go to a lower rate you typically MUST maintain your old monthly payment to have a lower remaining principal balance at the end of the term.

What Numbers Should be Compared?

  • Principal balance – important if paying your mortgage off sooner is critical
  • Minimum payment – important if job security, or future income is in question
  • Cash flow differential – important for rental properties

Alternatives to Pay Down The Mortgage Sooner

  1. Biweekly payments – you do this right? If not start today.
  2. Maximize prepayment options
  3. Increase biweekly payments (anywhere from 0-20%)
  4. Make annual lump sum payments

An Example

Here is an example of the potential savings (without considering the penalty)

Assumptions:

  • Current rate = 5.5%
  • 1.35 years into the mortgage
  • Biweekly payments maintained at current amounts
  • One annual lump sum payment in the amount of 1 months payment

Interest rate differential: (Old rate)-(New rate)
Initial Mortgage 0.5% 1.0% 1.5% 2.0% 2.5%
$100,000 $1,796 $3,563 $5,301 $7,010 $8,690
$200,000 $3,593 $7,126 $10,602 $14,019 $17,380
$300,000 $5,389 $10,690 $15,903 $21,029 $26,070
$400,000 $7,186 $14,253 $21,203 $28,039 $34,761
$500,000 $8,982 $17,816 $26,504 $35,048 $43,451
> $500,000 Hire a financial planner!  ;-)

The Mortgage Calculator

I’ve been using a mortgage comparison calculator my wife made in excel. Hopefully you’ll be able to use it to help you compare different scenarios.

If you determine that paying the penalty for breaking your exiting contract make sure you have the discipline to stick to your new plan. If you determine that you need to maximize your top up amounts to benefit, make sure you stick with it otherwise you may be better off in your old contract and using your prepayment options.

Good luck and happy mortgage hunting!

Here’s another opinion by Colourful Money.





42 Comments, Comment or Ping

  1. 1. DavidV

    The example: the savings you see there is for how long? If that’s over a 25 year term, that’s a whole different ball of wax than if you’re saving that over a 5 year term.

  2. 2. NFLD'er

    I have a questions… Scotia Bank is now offers a 10yr mortgage @ 5.25%… we set to move in to our new house in a month or so… Should we lock in for this 10yrs or take a variable rate?

  3. 3. Sampson

    DavidV – the savings posted in the table are for the 3.7 years remaing (in the example – one is already 1.3 years into the current mortgage) – Over 5 years, the savings would be greater.

    The problem now adays is that the IRD penalties are huge – many people are dealing with $15-20K penalties. If you look through the excel file, all the amortization tables are included, so you can see exactly how long it would take to save X amount of dollars.

    NFLD’er: If you want the assurance/security of a 10year term, I think 4.99% is available somewhere. – This article wasn’t meant to address whether a fixed vs variable rate is better – bu FT has a few good articles that might help you decide.

  4. 4. Scott

    How timely.
    I was at my bank (RBC) yesterday to see about just this thing.
    I have a 5-yr 4.72% fixed with approx. 2 years remaining.
    Refinancing at a 5-yr 3.95% fixed would have cost me a $4400 penalty, but I would save $4800 in interest with the new mortgage.
    (Simple calculations, no compounding etc figured in.)

    Since the penalty would be immediate, and the interest saving would be gradual ($37 bi-weekly, over 5 years), the bank suggested I take the “penalty money” out of my LoC (at prime) and put it on the mortgage as a lump-sum payment. Essentially paying down the higher rate with a rate even lower than a new mortgage. That sounds a little weird now that I think about it.

    I think I’m in a good position right now, with BoC looking to leave rates where they are into 2010 (hopefully bonds don’t go nuts!). I might be able to get another sub-5% term when mine is up for renewal.

    @ NFLD’er: take the variable.

  5. 5. M Hawk

    A quick question: is there any benefit to paying weekly versus biweekly? I understand the biweekly versus bimonthly payment and how that works…. but just wondering if there is any use in paying weekly.

    I’m new to this mortgage thing….

  6. 6. Davina

    We called ING and refinanced, from 5.79 to 5.16 (not a huge difference, but every bit helps, right?). There was no fee, and we can continue to make additional prepayments every month, which are applied directly to the principal.

    If we had ‘broken’ out mortgage to refinance to the posted rate of 3.89%, it would have cost us about $15 000 upfront.

  7. 7. nobleea

    I have a prime minus variable open mortgage. I made my own spreadsheet up to see if it made sense to switch to fixed. With the BoC’s sommentary that they won’t raise rates for another year, it really won’t make sense to go fixed. Fixed rates would have to be in the 2.5-2.7% range for it to make sense.

  8. 8. DAvid

    M Hawk,
    No advantage. You can confirm here:
    http://www.dinkytown.net/java/CACompareMortgage.html
    http://www.dinkytown.net/java/CAMortgagePayoff.html

    Best advice is to have your mortgage paid on payday.

    DAvid

  9. 9. DAvid

    Scott,
    You could just make a few additional pre-payments, and be ahead. If you put the $4400 you would pay in penalties against your mortgage, you would also see considerable savings in interest over the life of your mortgage.

    DAvid

  10. 10. martyfitz

    We currently double or monthly mortgage payment with TD and the term is up in 2 years. The question I have is at the end of the term is there “costs” to paying off the reaming dept with cash? Our mortgage payments and balances are very low but I can’t find a way to pay it off faster. With double monthly payment (max allowed) and 15% annual it still not fast enough, what can I do? Paying interest to the bank is almost as painful as paying Quebec tax

  11. 11. Elbyron

    martyfitz,
    Once the term is up you can pay off the entire debt without having any IRD fee. The only cost will be to discharge the mortgage and have it removed from your title. You’ll have to ask TD for an exact amount, but at most they’ll charge you a hundred or two. Then just a quick trip to your local land titles office, and a small fee to them as well.
    Since you’ve maximized your pre-payment options, I don’t think there’s much you can do until the term is up, besides paying the huge IRD fees.

  12. I busted out of my mortgage back in October(ish?) after doing a bunch of Manulife One research. I know that the benefits of Manulife One aren’t really embraced by all [FT - I know you don't like the $14 fee! :)], but I still feel that mathematically, and as far as convenience goes, nothing really compares. Using it as part of my own Smith Manoeuvre strategy has worked really well – even in only 6 months.

    I’ll agree that it isn’t for people who don’t know how to manage their money (e.g. “Oh look, I have a $50,000 available balance! Time to go buy a boat!) – but for frugal folks, or people that can budget well, I think it’s an excellent product.

    This post inspired me to finish writing an article on it that I’ve had saved as a draft for quite a while – you can read it here:

    http://wintschel.com/2009/05/07/manulife-one-or-what-i-like-to-call-the-5001-gic/

    If you see any errors or disagree with anything, I’d love to hear your feedback.

  13. As part of my move in a couple weeks, I will be breaking my current mortgage with a penalty of about $4200 and paying $5000 less over 5 years on the new mortgage.

    The difference in savings wasn’t the motivator, more for convenience. It gives me one mortgage balance instead of two and keeps the bi-weekly payments lower while the wife is on maternity leave starting this fall.

    As far as the penalty, it gets included with the principle balance and it will be covered by some of the gain on the sale of my current place, so I won’t really notice this money I never had.

  14. 14. lindahfx

    I was laid off of my job in February although I have been kept on for a special project until approximately July. My husband and I reviewed our finances and determined that if I was unsuccessful in finding another job (I have not found another job to date) by the time I finished this contract job, our money would be VERY tight, even with me drawing EI. We went to see our financial advisor and he recommended Manulife One. We looked in to it and I read up on it as much as possible (including posts by FT). At the end of the day, it made sense for us. If need be, we can make sure that we cover the interest payment only for a couple of months until we get back on our feet. We consolidated all of our debt including our mortgage which was 5.2% for 5 years with 1.7 years to go. The penalty was only $3k to move it to M1. They covered all other fees including property valuation, etc. Yes, there is a $14 month fee but my husband and I both have separate chequing accounts at separate financial institutions that we are both paying in the $12/mth range so once we close these, we will be saving monthly fees. As Daniel Wintschel stated, you have to be diligent in paying it down. We have had our challenges in the past with debt but I think that having everything in one account and seeing the balance going down every month will be an incentive to pay it off asap. For us, this made the most sense at this time in our lives. If, after awhile we realize that it is not for us or the variable rates start climbing enough that we want to lock it in, we only have to pay $100 to close the account.

  15. 15. Sampson

    For us: the benefit is huge. We’ve got two mortgages, both locked in at Very high rates. 5.79% and 5.63%. We’ll be locking at 3.9%, and basically getting our penalties paid for from an incentive cash back offer.

    Made a lot of sense for us and we should be saving >$25k in 3.5 yrs on each property. (lower balance for the residence – and cash in hand from the rental)

    The key is to actually run a few scenarios because you never know – I think lenders often have fear working in their favor. I think when most people find out their penalties are $15k+ they don’t bother with running the numbers.

  16. 16. Finance_Addict

    I feel that paying any penalty to the banklender to get a better rate is a bad move. I could not imagine giving the bank one extra cent on top of the spread they already make. The banks have even gone so far as to make the break fee more painful…why? It’s pure profit for them to hike that penalty. Like all investing decisions good or bad, the decision to lock in long, short or variable is one you make and live with.

    I did a 5 year term about 5 years ago at 4.9% that was the going rate back then. Historically it was then and still is now a decent 5 year rate. Sure I would love to have done the prime-minus stuff that no longer exists but that FT and others currently enjoy. However, I simply more than made up the gap by using strong savingdiscipline no 2nd paycheck or big salary and made numerous lump sum payments over the course of the 5 years term. I assure you that I more than made up the rate gap over the 5 year term. No way am I throwing money away to the bank because I was not lucky or smart enough to go variable and have a global financial meltdown bring prime lending rates to one in a lifetime level.

    Live with the rate and term deal you have. Especially if it’s 5 years or less. Let it run it’s course and save up and deploy lump sum payments. Don’t worry about the current rate gap. And don’t pay no penalty!

  17. 17. ethan

    One way to reduce the penalty is to maximize your prepayment privileges before switching.
    ie
    penalty will be calculated against your 300k mortgage,
    PCF allows a 25% prepayment,
    arrange to borrow 75k from the bank where you will get your new mortgage, tell them that you will use it to lower your penalty and have them automatically pay it back when the mortgage is switched.
    prepay your original mortgage
    make the switch
    now the penalty will be calculated on 300k-75k = 225k

  18. 18. Lakedweller

    The diference of opinion among responses shows how emotional mortgage issues can be.
    There is so much fine print with many of the companies offering 5 year fixed rates under 4%. Be careful!
    If you have a young mortgage (less than 10 years into a 25, 35 or 40 year mortgage) then a rate switch is made less attractive by the large penalty. But like Sampson says, it pays to do the math.
    Remember that the benefit of switching has to be realized in the length of time left in the old mortgage. In Sampson’s example of 3.65 years left in the term the financial benefit of switching needs to be realized in that amount of time, or it doesn’t make sense to pay the penalty.

  19. Well written Samson! A significant amount of money can definitely be saved.

    We have an article of our own, that supplements this one at http://colourfulmoney.com/insurance/mortgage-insurance/should-i-break-your-mortgage-rate-for-a-better-rate/

    A toast to better mortgage rates!

  20. 20. Saheb

    I have closed fixed @ 5.1% mortgage, completing its term in May/10. As a lump sum payment any one can pay 10% of initial amount of his mortgage. I just took out 30,000 from my home equity and paid as lump sum. Next year on my renewal I will borrow plus 30,000 on my mortgage.

  21. 21. Neil

    Hi

    Thanks for a very informative post. I’m on a 6.2% (ouch!) fix until October this year. After that my mortgage will revert (based on vurrent base rate of 0.5%) to 2.3%!! I can’t wait for that day, and I’m hoping that interest rates haven’t gone up too much by then.

    Unfortunately not possible to break the contract because there is a 12,000 penalty.

  22. 22. cannon_fodder

    Daniel,

    If I compared your M1 product with my BMO Readiline mortgage, you would see that my rate is much lower than yours – 1.5% since it is variable at P – 0.75%.

    If I took the same $10,000 that was stuck in a “high” interest savings account (these days, 1.5% probably is high) and applied it to my mortgage I would save a lot less than you did because my interest rate is a lot lower.

    By your reasoning, the M1 is better because its higher interest rate can ‘save’ you more money.

    Does that sound right to you?

    You would still have -$190,000 at 3.25% while I would have a mortgage rate at 1.5%. If M1 came to you and said, no strings attached, we can reduce your rate to 1.5% from 3.25% would you say no?

    I agree that having the money sit in a savings account generating 1.5% before tax is not as efficient as applying it to non-deductible debt at 3.25%. But, I don’t agree that the M1 can achieve any significant savings over a traditional mortgage unless the mortgagee’s behaviour is significantly different – at which point there is risk that the freedom of money in an M1 could lead to overspending.

  23. Nice article on switching to a new mortgage. I would certainly advise on learning about any fees you might incur in the case that you close out your old mortgage for a lower yielding one. Just make sure that you would be better off financially with the breaking of the mortgage compared to doing nothing.

  24. 24. cannon_fodder

    DGI,

    Or, applying that penalty to your current mortgage balance as a prepayment and then comparing it to breaking the mortgage. I’d bet that this option comes out on top 9 times out of 10.

  25. 25. DAvid

    Daniel,
    Just about any mortgage these days will allow you to retrieve additional payments you make to it. While it may not be as easy to access that cash (possibly a good thing?) as M1 allows, there is less need to worry about not being able to access those funds than many would believe. Thus anyone with an extra $10,000 in savings could put it against their mortgage, enjoy the same benefit as you describe, and access it if necessary.

    The $300 per month interest differential on a $200,000 mortgage between 3.25%, and 1.5% cannot be recouped by putting every penny of your income against the mortgage, unless you chose a very, very, very, long amortization period.

    So, as always, other things being equal, the lowest interest rate is the best!

    Hope you’re enjoying the Kool-aid.

    DAvid

  26. 26. Sampson

    cannon_fodder,

    I agree if you can pay for the penalty up front – you are likely better off applying it directly as a lump sum payment – this is only because of the newer IRD calculation. But each institution is different. With my lender, going through the IRD estimate calculation on our contract – we estimated $19k penalties, but when we actually contacted the lender to get the real amount – it was roughly $7k.

    Of course there are other reasons, aside from paying off the mortgage sooner to get a lower rate such as better cash flow and protection against inflation.

  27. cannon_fodder (and DAvid),

    I agree that I’d take a 1.5% over a 3.25% rate, and M1 definitely can’t compare to all traditional mortgages (1.5% is a great rate) – and the M1 calculator dilly-o will tell you as much if you punch in numbers that aren’t going to end up saving you any money.

    Readiline / Merix / other HELOC stuff can definitely be great products when the rate is right. And M1 is definitely not a good product for those prone to overspending. I still think that for people with high cash flow, M1 can be better than a lower rate traditional mortgage – everyone has to do their own DD to figure out what’s best for their particular situation.

    DAvid – I agree with you that the rate difference between 1.5 and 3.25 is significant, but the lower rate isn’t -always- better (although it seems to be in this case). On the flip-side, my Smith portfolio is churning out about $550/month which is smacking down my principal nicely. Would it still work out better applying that $550 against a 1.5% traditional mortgage instead of a 3.25% M1? Could be, but I don’t have the brainpower left to do the math on that.

    Yes, I’m enjoying the Kool-Aid, thanks. :)

  28. 28. cannon_fodder

    Daniel,

    I’m not sure which scenarios where a lower rate wouldn’t be better – perhaps you could provide some so I can wrap my head around that.

    It is fallacy to think paying down your M1 by $550/month might not be worse than paying down a 1.5% traditional mortgage. The reason why the interest benefits would be larger on the M1 is because… it costs more to service!

    It would be almost like saying that if I got a 10% discount on a $20,000 car that I’m worse off than getting 10% discount on a $100,000 car – yes, I ‘saved’ $10k vs. $2k but the end cost is $90k vs. $18k.

    In defense of the M1, I think right now the M1 might be offered at a variable rate that is lower than a traditional variable rate mortgage because I’ve heard of P+1 as pretty common. So, at this point in time it might actually be a better choice if the best you can get is a 3.5% variable mortgage.

  29. 29. Sampson

    c_f

    HSBC is offering VR mortgages at 2.75% now – Prime + 0.5%, RBC offered me Prime + 0.8%.

    My take of the M1 is that it COULD work if the mortgagee does not get tempted by the access to the loan. However, if you are that disciplined, you might as well just get a lower rate on a traditional mortgage, and pump all cash against it. The limited prepayment amounts still allow most closed mortgages to be paid off in 5 years – I’d hazard to guess the average time to pay of an M1 is longer than that.

  30. c_f

    I’m just going to concede the point, that all other things being equal, the lower rate is better. That concession in place, I still believe that the M1 offers significant benefits (rates being equal) in several cases including:

    1) Those who need to consolidate debt (if debt is your thing).
    2) People with high monthly cash flow.
    3) People with substantial short-term savings (e.g. for myself, I pay income tax in installments, so I like having all my tax money paying down my M1 until the last possible moment when CRA kicks me in the face :P).
    4) Convenience – I love not having to deal with a ‘fixed’ mortgage payment – I like the straight up interest payment.
    5) Still have to take into account the fact that for any short-term or even long-term savings – having the cash deposited into M1 does pay down the principal owing, which directly results in lower interest costs. I know that how much this actually saves a person is going to vary wildly based on personal circumstance, which is again why people need to look at their own situation to decide what’s best for them. I’m also aware that if you have a HELOC style mortgage you can pretty much do the same thing. I just happen to use M1.

    Happy Friday.

  31. 31. DAvid

    Daniel,

    In the first year of a $200,000 mortgage at 3.25 % with a 20 year amortization, you would reduce your principal by $13,935 by adding the $550 per month to it.

    Same mortgage at 1.5% reduces principal by $15,290. The $1355 is the additional annual interest cost paid to Manulife for the privilege of using their product. The same $550 will handily reduce ANY mortgage, but would likely be far better left invested to build the portfolio..

    Daniel also said: “I still believe that the M1 offers significant benefits (rates being equal) in several cases including:”
    Rates usually aren’t equal, but…..

    1) Those who need to consolidate debt (if debt is your thing).
    Could be done with any HELOC, and needs the same diligence with all, so as not to increase your debt.

    2) People with high monthly cash flow.
    If you mean people with a highly variable cash flow, or if they can manage a HUGE sweep account in the thousands or tens of thousands of dollars, then yes. Large amounts of money held in the account for short periods could reduce your costs. a special benefit if it were someone else’s money you could use for a short time.

    3) People with substantial short-term savings (e.g. for myself, I pay income tax in installments, so I like having all my tax money paying down my M1 until the last possible moment when CRA kicks me in the face :P).
    You could put all your tax for the first quarter against your (cheaper) mortgage then pay the taxes out of HELOC at prime. Pay down the HELOC as quickly as possible, to reduce interest costs. Continue to use the HELOC for short term borrowing to pay your taxes. The money is still available in your mortgage should you need it.

    4) Convenience – I love not having to deal with a ‘fixed’ mortgage payment – I like the straight up interest payment.
    Yes, there are few options that are more convenient, but it comes at a price. Each time you make an interest-only payment, you lose the benefit or interest reduction as you did not reduce your principal, so you pay the same interest amount the following month..

    5) Still have to take into account the fact that for any short-term or even long-term savings – having the cash deposited into M1 does pay down the principal owing, which directly results in lower interest costs.
    Long term savings could be placed against the mortgage & retrieved, while short term savings could be managed in a HELOC as described above for taxes. There would be some manipulation to do this.

    For instance, my paycheque was deposited today. I took 4 or 5 minutes to log into my banking site, check the upcoming bill payments for the next two weeks (about $300), and transferred the difference to my savings. If, instead, I was reducing my mortgage, the 5 minutes, twice a month to save $300 monthly in the early period of a mortgage (see post 25) is a pretty good return for 10 minutes of effort.

    Lowest interest rate is the best choice.

    DAvid

  32. 32. cannon_fodder

    DAvid,

    Great points. I didn’t see anything that is attributed to the M1 that I couldn’t do with a typical readvanceable mortgage.

    Even if I put thousands down against my mortgage temporarily and then withdraw it from my HELOC, my current rate of HELOC at 2.5% is still 0.75% lower than the M1.

    Now, according to Sampson above, someone trying to get a mortgage today would not realise this interest rate benefit over the M1 as Manulife actually is cheaper for new borrowers.

    As I was fortunate to renew my mortgage just 3 months before this unusual situation reared its head, I am better off in my current position.

    The M1 could actually be better for new borrowers if they have a high ratio of HELOC borrowing vs. mortgage balance. (I’m assuming that if you mortgages are being offered as low as P+0.5 then the HELOC portion is P+1.25 which would be 0.25 higher than M1′s reported 3.25% rate.

  33. 33. DAvid

    cannon_fodder,
    Brokered variable mortgages are now available at 2.75%, and RBC advertises Prime +0.8 (likely negotiable), and fixed rates are below 4% (also negotiable). The other big banks should be matching, so there should be many opportunities for folks to start to find good rates.

    The unanswered question is: How long will variable mortgages remain below some of the locked-in options?

    DAvid

  34. 34. cannon_fodder

    DAvid,

    That depends on WHEN you entered into your variable mortgage. I predict it won’t be until late 2011 at the very earliest before my P-0.75% mortgage reaches 4% at which point I should be mortgage free (but not HELOC free).

    For those getting into 2.75% now, I think there are still a good 2 years before rates creep up to 4%.

    Jobs are still being lost – the pace of those losses is starting to decline (or is it that people are falling off the unemployment rolls because they’ve been on them so long?). Just last week, our company chopped 5% of staff for the 2nd time in just over a year.

  35. 35. Sampson

    DAvid, c_f,

    The HELOCs I looked into all offer Prime +1%, so the M1 offers no advantages (unless Manulife plans to not increase their prime rate in accordance to BofC rate movements).

  36. 36. nobleea

    I believe national bank has their All in one, which is similar to M1 available to engineers for Prime. i don’t know if they have the monthly fees that M1 does. i think the only stipulation was that you had to pay for their gold mastercard for a year ($75)

  37. 37. cannon_fodder

    Sampson/nobleea,

    Thanks for that. I just checked Canadian Tire’s answer to Manulife’s M1 and NatBank’s All-in-one and their variable portion interest rate is 3.25% as well.

    I’m not sure how flexible the readvanceable mortgage lenders such as BMO are, but their posted rate for a 3 year open is 3.75% and a 5 year closed is 3.05%. That means this is the highest that they would go and you might be able to do better. I can’t see that the HELOC portion would be lower than this. When I signed up last year in the summer, we received HELOC at Prime when the mortgages were P – 0.75.

  38. breaking your mortgage for a lower rate is always good – the only downside is sometimes you may have to pay a small fee, but in most cases this doesn’t happen.

  39. 39. cannon_fodder

    Ms Save Money,

    My experience has been that it has never been in my best interests to break a mortgage for a lower rate because the penalties outweighed the potential benefits.

    It might be worthwhile for a bank to give you a break on a portion of the fees if you were moving from a short term mortgage to a long term one, especially if the short term was open and the long term was closed.

    I think it is safe to say that if the bank is willing to do it, then it is in terms more likely better for the bank than it is for you.

  40. 40. Ed Rempel

    Hi Cannon & Ms Save Money,

    We have found it often worthwhile to break a mortgage for a lower rate, especially now. Today, we are often finding that savings in year 1 are as much as the entire penalty.

    We are big believers in always staying short term (1-year fixed) or variable, and have been recommending 1-year fixed mortgages now. This is what produces a lot of the savings. In addition to the lower rate, you can save more by converting to a 1-year fixed at the same time.

    Today, we are running into a lot of people with mortgages at 4-5%, often with several years left. When we convert them to a 1-year fixed at 2.4%, the savings are 2% or more per year. This is a lot more than the penalty in almost all cases, even when there is a significant penalty.

    By sticking with 1-year or variable mortgages, our clients have been getting rates between 4-5% for almost all of the last 15 years. To now be able to get 2.4% is a great savings, even if it is only for one year.

    Ed

  41. 41. corinne

    My fiancé and I currently have a fixed open mortgage at over 5% for 40 years and we`re contemplating changing banks (we don`t like the service at our current bank) and taking on a variable mortgage at 25 or 30 years, as well as adding one of our cars to the payments. The penalty for this is 10 000$.

    First, I would like to know what other fees may be included that the banks didn`t mention (we are new homeowners and still haven`t quite figured it all out)

    Second, I would like to find a bank that offers a good cash incentive to transfer your mortgage to them to help us cover our penalty. Any suggestions?

    Last, I noticed that rates are higher for open mortgages, is there an advantage to choosing this over closed if right now we don`t have extra money to put down?

    Thanks!

    Cor

  42. 42. Ed Rempel

    Hi Corinne,

    5% is a relatively high mortgage rate. Rates have been lower than that for nearly all of the last decade. However, you would have to calculate whether or not it is worth it to pay the penalty.

    We are recommending 1-year mortgages today and are getting 2.35%. You can get a lower rate with a variable, but we are recommending to take a 1-year fixed and wait until we can get bigger discounts on a variable. Variable mortgages were at prime -.85% for years before this crisis, and are only about prime -.5 now.

    If there will be a $10,000 penalty, then you have a closed mortgage, not an open mortgage. 40 years is your amortization (how long it will take to pay off with your current payment), not the term of your mortgage.

    Your bank will also charge a discharge fee to transfer out the mortgage ($25-300), plus the new bank might charge legal and appraisal fees. Sometimes they cover these.

    We would recommend not to take a cash incentive. They are called “cash back”. You usually only get them if you sign up for a long term closed fixed-rate mortgage at a high rate. If you negotiate the lowest possible rate, there is usually no cash back.

    Cash back also usually only comes with long term fixed mortgages. We are recommending to generally to stick with variable or 1-year mortgages, and preferring 1-year fixed today.

    Ed

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