Things to think about when choosing a mortgage
It’s important to consider these topics when choosing a mortgage:
- Fixed or variable interest rate
- Amortization period
- Length of term
- Open or closed
That first big down payment
A big down payment could be a great way to reduce the size of a mortgage.
But people who don’t have a lot of money saved – and don’t want to wait to save up a larger down payment – can take on a high-ratio mortgage.
Borrowers in Canada with less than a 20 per cent down payment must purchase mortgage insurance, which protects the lender in case of default. How much you’ll need to pay for mortgage default insurance will depend on how much you put towards a down payment.
Variable rate risks
For small increases in the variable rate, your payments may remain the same. The only difference would be an increase in the amount going to pay the interest portion.
However, if rates increase significantly, the lender may increase your payments.
Before deciding on a variable rate, make sure the lender explains all the possible scenarios. Specifically, find out what interest rate changes will lead to higher payments. You may be able to include the option to lock into a fixed-rate mortgage at any time, but keep in mind that by then the longer-term rates may have changed.
Fortunately, you can use a mortgage calculator to help determine the savings of going variable versus fixed. You may decide that the advantage isn’t enough to pass up the certainty provided by a fixed-rate mortgage.
Advantages of an open mortgage
Fixed-rate mortgages are generally closed. They typically allow for yearly lump-sum pre-payments up to 20 per cent of the original mortgage, depending on the lender – a very important detail you should confirm before signing.
You may also be able to increase your regular payments, as much as doubling them – perfect for people with steadily rising incomes.
Paying off the mortgage all at once or breaking it up to get a better rate often results in financial penalties.
Some lenders do offer open mortgages, which allow borrowers to pay off some, or all, of the loan at any time. However, there’s a catch: the interest rate may be significantly higher.
If there’s a chance you’ll come into some money or sell the mortgaged home before the term expires, an open mortgage could make more sense.
If you plan to move before the term expires, a portable mortgage (one that can be transferred to your next home) may also be an option worth considering.
Choosing an amortization period
Of all the variables to choose from, a shorter amortization period offers the fastest route to paying off your mortgage completely.
By law, Canadians can negotiate a mortgage that extends to 30 years. Long amortization periods are popular, especially with first-time homebuyers, since they could lower the amount of each mortgage payment. However, those lower payments could come with a price – higher interest rate costs.
Anyone taking out a mortgage should become very familiar with a mortgage calculator. Try plugging in shorter amortization periods and compare the increase in payments with the drop in interest costs.
The sweet spot is often around 20 years, where the increase in payments isn’t so big but the savings in interest costs could be significant.
Paying off your mortgage faster
Accelerated payments could help you pay off your mortgage faster.
You can pick weekly, bi-weekly and monthly payments, depending on the lender. More frequent payments will mean you’ll pay less interest over the life of the mortgage with the same interest rate.
You can also opt for “accelerated” payments that shave time off your total amortization period. While giving your lender payments a few days earlier doesn’t save much interest, accelerated payments can increase the total payments you make each year - helping you pay off your mortgage faster.
If you value simplicity, increase your total annual payments but add them up and divide by 12 to see the equivalent monthly payment.