Whether you plan to live in a fancy condo, a newly built subdivision, classic historic home or quaint townhouse, a home is likely the most expensive thing you’ll purchase in your lifetime. One of the most important steps in purchasing a home is getting access to the best mortgage rate you qualify for.
A global poll by banking giant HSBC found that Canadians were the least likely among current and prospective homeowners in 10 countries to have done some research looking for the best mortgage rate. Only half of respondents in Canada said they had shopped around, which is well below the global average of 61%. You shop around for deals on cars, seek out sales on electronics and even price match items as small as a tube of toothpaste at the grocery store, so why not compare prices for the biggest purchase you’ll likely ever make? That being said, it’s important to remember that the lowest rate isn’t always the best deal as there are plenty of factors and options to consider.
As interest rates rise and the housing market gets more competitive, it’s more important than ever to do your homework and put in the time to compare your mortgage rate options.
Factors That Affect Your Mortgage Rate
The rate you’re given depends on a number of important factors that come into play with lenders.
Down payment
Deciding how much of a down payment to make can be the cause of a lot of undue stress. Some will argue to pay as much as you can upfront while others will say to start with a modest 15% – 20%. The reality is that if your down payment is less than 20% of the purchase price (and sometimes even if it’s higher than that), you’ll have to pay for mortgage default insurance (CMHC insurance). While that may seem like an unnecessary extra cost to incur, it will actually result in a lower mortgage rate because your loan becomes less risky for your lender.
Credit Score
The first step toward improving your credit score is to understand it. This number plays a huge role in your overall mortgage experience. If you have bad credit (a low credit score), you may only be able to borrow from a B lender instead of a big bank or credit union. Although these lenders are happy to help people with bad credit get into a home, they will likely charge a higher mortgage rate than you’d find at your standard bank or financial institution. Before you start house hunting, give yourself time to learn more about how your credit score affects your mortgage and take the necessary steps to improve your credit score if needed so that you can get access to better rates.
Amortization
In Canada, insurable mortgages have a maximum amortization period of 25 years. If by chance you find a mortgage with a longer amortization period, you’re likely going to pay a higher interest rate, so keep a close eye on your options.
What Type Of Mortgage You’re Considering
The type of mortgage you’re looking for, may result in different rates. For example, if you’re looking to refinance your mortgage, you’ll be in a different situation than if you were simply renewing your mortgage. If we’re being honest, few people actually understand the difference between each type of mortgage so by doing some research at the start, you can come out ahead by knowing the choice you make with your lender, is best suited for your personal needs.
Open Mortgage
An open mortgage allows the borrower to pay off the mortgage in full anytime during the mortgage term with no penalty. This flexibility does come with a cost though, higher interest rates to be exact. Although, just because the interest rate is higher doesn’t mean it isn’t a viable option for you, as depending on your personal situation, it may be a better fit in some situations.
Closed Mortgage
Closed mortgages are the most common. This simply means that during the term of your mortgage, you can’t pay off the balance in full without being charged a penalty. Even if you make a partial payment beyond what is allowed, you’ll be penalized. This doesn’t necessarily mean closed mortgages aren’t flexible, as most banks will build in pre-payment allowances. That being said, what the closed mortgage gives up in flexibility, it makes up for in interest savings. It’ll almost always have a lower rate than an open mortgage with a comparable term. In turn, this translates into thousands of dollars saved over the long run.
Variable Vs. Fixed Mortgage
These two options are quite different, so it’s very important to understand each one individually and how they differ so you can make the best choice for your personal needs.
With a variable-rate mortgage, the bank assesses its overnight rate eight times each year and as a result, its prime rates change. Having a variable-rate mortgage means that each time the bank does this, there’s a chance your interest rate will change over the course of your mortgage term (typically 3 – 5 years).
The benefit is that you’ll likely save right from the start with a lower interest rate and you’ll have the luxury of choice with far fewer penalties for breaking your mortgage agreement. If you can live with some uncertainty, you desire the flexibility and are focused on saving more money upfront, a variable-rate mortgage may be the best option for you.
A fixed-rate mortgage simply means the rate you get when you sign stays the same throughout your term. The downside with this is that the bank is taking a chance lending you money over a long period of time at a fixed rate, so it needs to factor in the risk and opportunity cost into the rate it offers you. To compensate for rates potentially going up during your term, the bank will charge you a slightly higher fixed interest rate to account for it. This option lets you move forward worry-free. You can sleep peacefully at night knowing your rate is locked in.
It’s important to note that choosing a fixed-rate mortgage is definitely still a risk, as you’re betting that you won’t need to sell or refinance during your term. Most bank’s penalties on fixed-rate mortgages are astronomical, so take that into consideration when you make your choice. It’s more common than you think for people to break their mortgage term.
The Lowest Rate Doesn’t Always Mean The Best Deal
If you’re looking for a reason to be prepared, this is it. The last thing you want to do when you’re applying for a mortgage is jump at the lowest rate thinking it’s the best deal, without realizing that’s not always the case. There are so many factors to consider when choosing a mortgage that’s the right fit for you. Take the time to make a list of what’s important to you, take a look at your budget, consider how much of a down payment you can afford and look into the type of mortgage you want to pursue.
Whether you’re refinancing your mortgage, renewing your mortgage or just shopping around for options, the more you understand about the process, the better position you’ll be in when it comes time to make a big decision.