Fixed vs Variable Rate
Fixed vs Variable rate? One of the great debates is on which type of mortgage is the best type to get. The answer is yes to both, depending on your situation. Lets start by looking at the difference between the two.
A fixed mortgage rate means that your payments will be exactly the same for the term of your mortgage, usually between 1 and 5 years. Although 7 and 10 year mortgage terms are available, the rates are so high that they become unattractive to most buyers. When you sign your mortgage, you will be given a monthly payment amount and this will not change, regardless of what happens in the market and the prime lending rate.
Variable rates are set to the prime lending rate set by the Bank of Canada. usually, your rate is set at .65 to .70 points less than the prime rate. For example, if the current prime lending rate is 2.7% and you negotiated a rate .70 points less than prime, your rate would be 2.0%. At the start of your mortgage, you will be given a monthly payment. But the prime rate could change at anytime, upwards or downwards and will affect your monthly payment.
The advantages of a Fixed Rate:
If you are a first time home buyer, and only putting 5% down payment, carry a lot of other debt or if your GDS and TDS ratios are near the maximum, a fixed mortgage rate is your best option and sometimes your only option. This allows you to budget your income and expenses related to your mortgage with no surprise increase in monthly payments. If you do have extra cash, you can put it towards your mortgage in a lump sum or increase your monthly payments. If you don’t like risk and like the peace of mind that a fixed payment gives you, than a fixed rate is for you.
The advantage of a Variable Rate:
The biggest advantage of a variable rate is that it is usually .50 to .60 points less than a fixed rate mortgage. This can save you thousands of dollars in interest payments a year. But you have to be able to afford fluctuations in your monthly payment. For example, on a $400,000 mortgage at 2%, your payments would be $1639 per month. A small .25% increase in the prime rate would mean a payment increase of $103 bringing your monthly payment up to $1742. One other advantage of a variable rate mortgage is in how penalties are calculated if you ever have to break a mortgage. On a fixed rate mortgage, your penalty is calculated with what is know as IRD (interest rate differential) or 3 months payments, whichever is higher. With a variable rate, the penalty to break a mortgage is usually just 3 months interest payments. However to qualify for a variable rate mortgage, your GDS and TDS ratios must still be acceptable using the “Qualifying Rate”. This rate is also set by the Bank of Canada and is usually about 2% higher than the fixed rate.
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Fixed vs Variable Rate | Getting a mortgage can be hard, we make it easy® | Mortgage Broker Lic # M14000543 / Brokerage Lic #12136 | 647-773-9001 | info@RedDogFinancial.ca | www.RedDogFinancial.ca | Aug 16, 2015