Variable mortgage rate likely to go up – what should you do?
There is speculation that the Bank of Canada (BOC) will increase interest rates on July 12th when it once again meets to assess what to do with their Key Overnight rate. The BOC’s key overnight rate influences the Prime rate which is what financial institutions like the big banks, credit unions, and non-bank lenders use to charge consumers for various loans, including Variable rate mortgages.
So if there is a rate increase on July 12th, which would be the first increase in nearly seven years, what should holders of Variable rate mortgages do? With a rate increase of 0.25%, this will translate to approximately $13/month extra interest per 100K in mortgage owing.
The answer is…it’s really a personal decision that depends on your own situation (financially at the moment as well as your future plans). It also depends if the property is a rental property or your primary residence. It also depends on which lender you have your mortgage with now. Here are few options to consider if the cost of carrying your variable rate mortgage goes up.
If you have enough discretionary income and a bump in monthly payment of say $50/month for a typical mortgage of 400K will not break the bank for you and change your lifestyle in any way then you might want to consider doing nothing and just riding out the term of your variable rate mortgage. Depending on how much longer you have on your variable rate term, you may have already saved enough to this point to still come out ahead at the end of the term even if there are a few more rate increases down the road.
Convert to a fixed rate mortgage:
If the thought of having to continually monitor interest rate is not at all appealing to you, you may want to convert to a fixed rate mortgage. It should be free to do this. Depending on your risk tolerance and depending on the length remaining on your current variable rate mortgage and the spread between your current variable rate mortgage (ie. 2.30%) compared to for example the current 2 year or 5 year fixed rate which could range between 2.44 – 2.89% right now, it may make sense for you to consider converting to a fixed rate now for some peace of mind for the remainder of your term. For those who are more budget oriented where you have some financial goals in mind (saving for children’s education), having more certainty with your monthly mortgage payment may be preferable to riding the roller coaster of a variable rate mortgage. However, keep in mind what your future plans are if you convert to a fixed rate mortgage. Are you planning to sell your home before the end of the term perhaps? This could affect the penalty amount you have to pay if you convert to a fixed rate mortgage and then breaking the contract early shortly thereafter.
Is your property a rental property?
Your decision to act or not also should factor in what type of a property you own. If you own a rental property with a Variable rate mortgage – a rate increase will affect your monthly cash flow negatively. However, if you are still in a positive cash flow overall and since interest expense incurred for investment properties are tax-deductible, you could just write off more interest at the end of the year and do nothing instead of converting to a fixed rate right now.
Which lender is you current variable rate mortgage with?
If you have a Variable rate mortgage with TD Bank or a few select credit unions, they do not automatically adjust the monthly payments to reflect the new higher variable rate. Your monthly payment stays the same which some people really like, but the result of that is it stretches out the expected life of your mortgage (ie from 25 years to 27 years). This is because more of your monthly payment now goes towards interest than before and less goes towards principal.
Maybe even switch lenders for a deeper discounted Variable rate mortgage
The penalty to pay out most variable rate mortgages is 3-months interest. As such, switching to a lender that can offer you a significantly lower Variable rate than what you have with your current lender may even make sense. Mind you, you need to factor is potential fees involved when switching lenders such as legal and appraisal fees. However, if the math makes sense where you could still save money in the long run then switching lenders to get a deeper discounted Variable rate mortgage might be worthwhile looking at as well.
As I said at the top of this article, what course of action to take is dependent on many factors and comes down to a personal decision. Everyone’s personal situation is different and there is really no “right” action to take. It comes down to what you are comfortable with (new cash flow, impact on long term plans, & overall risk tolerance).
My name is Danny Duong and I am an Accredited Mortgage Professional (AMP) and service clients across Metro Vancouver. Feel free to connect with me should you have any questions about mortgage financing. I can be reached at firstname.lastname@example.org or directly at 778-998-7142.