When it comes to mortgages, you will have a number of options. Mortgage payment options in Canada are not one size fits all but rather can be somewhat tailored to best fit your budget and affordability. There are several things to consider when choosing mortgage payment options so take the time to understand the choices to choose the best mortgage payment option for you.
Fixed Vs Variable Rate Mortgages
When it comes to mortgage options, one of the things you need to decide is whether or not you want a fixed or variable rate mortgage. Both have their pros and cons and what is ‘better’ will vary depending on your personal financial situation.
What is a Fixed Rate Mortgage?
A fixed rate mortgage is when your mortgage stays the same for the total length of your term. Even if interest rates rise or fall, your agreed upon rate and monthly payments will stay the same. Because of this, fixed rates are seen as the safer option. They are a good choice for individuals who want to know exactly what they are paying every month so they can ensure it works for their budget. Fixed rate mortgages are also a good option if you think that rates will rise in the near future. However, because of that added security and consistency, fixed rates are often higher than variable rates.
What is a Variable Rate Mortgage?
Variable rates, on the other hand, can be much more volatile than fixed rates because they can change depending on the market. If interest rates fall during your term, then the interest you are charged on your mortgage will too which means you pay less in interest and more on the principal balance. However, the opposite can also happen. If rates increase then you’ll end up having to pay more in interest and less on the principal. Since variable rates are considered to be a riskier option than fixed rates, they tend to be lower, at least to start.
Open Vs Closed Mortgages
You also need to consider an open vs closed mortgage. Again, both options have their pros and cons and what is best for you will depend on your specific circumstances at the time of shopping for a mortgage.
What is a Closed Mortgage?
With a closed mortgage, once your contract with the mortgage lender has been established all the terms and conditions set within the contract are closed. This means you cannot break or change any of the agreed upon terms unless you want to pay a penalty. Contracts vary in length but 5 years tend to be the most common term.
Oftentimes these closed mortgages do have some flexibility built-in. For example, many will allow you to make prepayments either by adding a lump sum once a year or doubling up on regular payments, but there are limits set in place. Plus, if you want to sell your home and move then that will likely be considered breaking the contract which means you will be charged fees and penalties to break the contract. The amount of the fees and penalties will depend on the calculations your lender uses.
While closed mortgages are more strict, they also tend to have significantly lower interest rates than open mortgages.
What is an Open Mortgage?
An open mortgage offers a lot more flexibility than closed mortgages do which means the interest rates tend to be much higher. The big draw with open mortgages is that you can throw as much money as you want towards your mortgage payments without being penalized for an overpayment fee. If you are expecting a large amount of money at some point, for example, an inheritance, then paying the premium for an open mortgage might be in your best interest. After all, the faster you pay off your mortgage, the less interest you have to pay back over time. While open mortgages do offer a lot more flexibility, there are still some rules in place so always make sure to check terms and conditions.
Mortgage Payment Options
When it comes to mortgage payment options in Canada, you have six different choices for your payment schedule.
- Monthly payments: you make 12 payments per year on the same day every month. This is the default for most mortgages.
- Semi-Monthly payments: You make payments twice a month (usually either on the 1 and 15 or the 16 and end of the month). To calculate semi-monthly you take the monthly amount, multiply it by 12 and divide the answer by 24. The amount you pay each year is the same as if you had a monthly mortgage, you just make smaller and more frequent payments.
- Biweekly payments: You make payments every two weeks. So take the monthly amount, multiply by 12 and divide that number by 26 pay periods. Again, this is the same amount that you would pay annually if you paid monthly, just smaller and more frequent payments.
- Biweekly Accelerated payments: When you take the accelerated option, the math on your payments changes a little. You divide the monthly payment by 2 and then multiply that amount by 26 pay periods which means you end up making about one extra payment each year.
- Weekly payments: Payments will be made every week. Take your monthly amount, multiply by 12 and then divide by 52. The amount adds up to the same as if you were making monthly payments.
- Weekly Accelerated payments: You pay weekly but at the accelerated rate which means you take your monthly payment, divide by 4 and then multiply by 52. This payment amount adds up to the same as bi-weekly accelerated payments which, again, is about 1 payment extra each year.
Now, all of these options are fine. You need to choose what best fits your budget and what you can easiest afford. However, note that the accelerated options that allow you to pay off your mortgage faster can help save you thousands of dollars in interest over time.
How Do I Pay My Mortgage?
Once you have your mortgage payment options Canada figured out you need to decide how you will actually make the payments, as in transfer the money for your mortgage loan. There are a few options on how to do this.
- Online through your online banking or the associated mobile app
- In person at a brach via cheque or a balance transfer from your account
- Over the phone
- Cheque via mail
You technically can pay your mortgage by credit card but it’s not advised as you will often be charged an additional fee. Since the goal here is to pay less, it’s generally not worth it. Keep your money for your mortgage payments saved aside in a separate savings account and transfer the money from there on the due date. You can even set up automatic payments so your payments are always made on time. This way you can avoid any late fees associated with late payments.
How Do Rising Interest Rates Affect Payments?
The Bank of Canada uses the overnight night rate to control inflation. This overnight rate is basically the amount at which financial institutions can lend and borrow money. The overnight rate determines what financial institutions set as their prime rate. The prime rate directly affects variable rate mortgages.
So when the Bank of Canada raises its overnight rate by 50-basis-points, that means the target rate is going up by 0.5%. In turn, if you have a variable rate mortgage, your rate would go up by the same amount. Fixed rate mortgages are determined by the bond market. That’s why you’ll see changes in rates even if the Bank of Canada hasn’t made any policy announcements.
The general rule is that for every 0.50% increase in the interest rate, monthly mortgage payments will increase by about $25 per $100,000 in debt (based on 25-year amortization). Those with variable interest rates will see the result of this immediately. However, that doesn’t necessarily mean that individuals with fixed rates are much safer. Individuals coming out of their term will be in for an unpleasant surprise when it comes time to renew.
For those looking to buy a home or homeowners looking to re-mortgage their home now, there is still no ‘best’ option when it comes to choosing either fixed or variable rate. In the past, it was a safe bet to go with a variable rate mortgage, but rising interest rates, many people are opting for a fixed rate.
While we still expect rates to rise we are unsure how long they will rise for and when they will fall again. Rates could continue to rise steadily or drop drastically at some point mid-term if you choose a fixed rate.
How To Pay Off Your Mortgage Faster
As mentioned above, paying off your mortgage faster can save you thousands of dollars in interest. So, if you are financially able to put down more money on your mortgage, you should. Here are a few ways for how you can do this.
- Increase your payments
- Make a lump sum payment
- Choose accelerated mortgage payment options in Canada
- Consider an open mortgage for more flexibility
Again, remember that each mortgage contract has plenty of terms and conditions that likely include over-payment fees. Take the time to read and understand your contract so that you can follow the correct steps to help pay off your mortgage faster without incurring any additional fees or penalties.
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