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Should I lock in my mortgage rate? Review of Short term or long term Mortgages

Question: I am not sure what I should do with the length of the term of my mortgage?  Should I go long or short?

Answer: This is a question asked more than any other.  Everyone wants a definitive answer to it.  Of course, anyone that claims they can predict future interest rates is somewhat foolish or is making it up.  I am neither ... so (as you already know my answer.) it depends.  It depends on YOUR outlook for the future:

If you see a generally low inflation environment in the months ahead then you should stay as short of a term as you can, get the 6 month variable rate at 1.5%.  You save a great deal on interest and the odds are with you  (For if you locked in for five years at say 5.25%, the prime rate would have to rise to over 7.00% from the current 3.75% before you were to pay the same interest as a five year rate.  This could be a huge savings to you over the long term.

If you are not sure whether inflation or deflation are coming in the months ahead, then you may wish to play it safe by getting a variable open maximum flexibility ... or analyze the TD product where you pay ¼% over prime but the maximum interest is capped at 6.25% or so for 5 years.  Other banks offer some such product as well, such as the BOM which offers a 3.65% variable rate capped at 7.15% for 5 years or the long term/short term mortgage from Scotia bank.

If you believe inflation will be back then you may want to go long go for ten years ... Today’s best 10 year rate at about 6.75% is lower than the US - 15 year rate at 7.09% - and you can get out after 5 years (by law) with only a 3 months penalty.  If rates go much higher (in an inflationary environment) or back to previous highs, the long term at this low rate will make your home attractive to future buyers. 

You may see a graph showing the spread between short and long term mortgage interest rates and you will see that the wider the gap the greater the savings in going with a short term mortgage!

Whatever you decide to do, compare different lenders and options point by point and research the market in great detail before signing anything.

This is the advice from the Royal Bank website:

Should you go with a short or long-term mortgage?

A longer-term mortgage is worth considering if you have a busy life and don't have time to watch mortgage rates.  RBC's 4, 5 and 7-year mortgages let you take advantage of today's rates, while enjoying long-term security knowing the rate you sign up for is a sure thing.

If you want to keep your mortgage flexible right now, you can explore a shorter-term mortgage that usually allows you to take advantage of lower rates and save.

The long and short term mortgage from Scotiabank

This is from SecureApp.com

What Type of Mortgage You Should Get If you are buying a home with less than 25% down payment your choices of mortgage products and terms are somewhat limited...3 year fixed rate or longer under the regular CMHC Program and 5 years fixed rate or longer under the 5% down program.

However, if you are not constrained by the insurance requirements of a high-ratio mortgage there are many options available...they are summarized below. (Note: Not all lenders offer all types of mortgages.)

CATEGORIES of mortgages

Fixed-rate 6 month, 1, 2 & 3 year (open, closed and closed-convertible)
4, 5, 7 & 10 year closed.
Variable-rate 3, 4 and 5 year (open, closed, closed-convertible and capped)
Split-term Combination of all possible terms (6 month through 10 years)
Number of portions depends upon lender...3 is most common;
5 is maximum currently available with some financial institutions.
Self-directed RRSP A specialty mortgage - term optional - rate within CMHC guidelines.
Invest your own RRSP funds into all or part of your home mortgage.

Description of the different types of Mortgages and how they apply to you

• Short-term risk and Variable  If rates are low and stable, and/ or you have decided to take the "staying short" strategy regardless...you can generally pay a significantly lower rate (by up to 2%).  This is achieved by simply rolling over your term every 6 months, or having your rate float against prime - with the option of locking in to a longer term at a later date.  This is not for everyone, however, as sudden upward rate movements - not unknown in Canada - can cause severe stress.
• Long-term  Any term 3 years or longer is considered "long term" in today's economy. Because long-term rates are usually higher than short-term rates, many Canadians who have a choice do not select this option. There are many, however, that consider a long term mortgage necessary due to their exposure to rate increases relative to their inability to manage a significantly higher payment.
• Split term A mortgage which allows you to minimize - or hedge - your interest rate risk by splitting your mortgage into 3 to 5 parts.
  For example: A $150,000 mortgage could be split into five $30,000 segments with terms of 6 months, 1, 2, 3 and 5 year terms negotiated at today's best rates.
• The average rate (say, 6.25%) would rise or fall much more slowly than changes in the market, however, as only the shorter terms are affected by even the most volatile rate movements over the first few years.
• Protected Variable In 1993 several Canadian Banks introduced the protected variable rate mortgage, which floats at about prime plus 1%, and is capped at (i.e. will never exceed) about 1/2% above the posted 5 year rate. It does offer a way to reduce the risk of floating, while preserving an acceptable long-term rate. (This type is also known as the "capped" variable rate mortgage).
• Prepayment Options Annual pre payments  - traditionally, 10% to 20% of the original principal balance have been allowed as a lump sum prepayment once a year, often on the "anniversary date". Recently, options of up to 20% of the original balance payable on any payment date have been added to this feature. Finally, the "double-up and skip-a- payment" feature has been included in many offerings. This allows a borrower to "bank" extra mortgage payments for a rainy day, at which time they can just "skip", with the added benefit that, if it never "rains", principal is permanently reduced, along with the interest cost.
• Payment changes Most mortgages now allow the amortization to be adjusted by increasing the payment on closed terms by 10% - 20% per year, once annually.
• Payment Frequency Most mortgages now come with the option to pay your mortgage at a frequency that matches your cash flow - weekly, bi-weekly or semi-monthly. The added benefit of the "accelerated" weekly and bi-weekly payments is that by dividing a regular monthly payment into two or four respectively, and deducting it at the new interval, an extra payment a year is made directly against principal. The surprising effect of this one extra payment a year is to reduce the amortization of the average mortgage by up to 6 years, with enormous savings of cash at the end of the mortgage term.

SUMMARY

If you are risk-avoider...go for a fixed rate long-term mortgage, or hedge your bets with a protected Variable Rate Mortgage.  If you're a risk-taker, simply stay with a short-term mortgage and watch closely for the signal to lock in a longer term deal.  Wherever you can stand the additional cash flow requirement, increase your payment frequency and amount, and prepay principal wherever possible.

Remember ...because mortgage interest is not tax-deductible, every dollar you pay off your mortgage gives you an AFTER TAX RETURN of whatever your rate is, because you're saving interest you'd otherwise have to pay with after-tax dollars!

I've decided that I will begin to dedicate this webpage to some of my past and current clients that I have connected with or that I feel could really benefit from this 'unsolicited' advice above.  They know who they are and some of them I want to give an honorable mention to keep them motivated:

• Iain and Leaha (I wish all my clients were like you two were and wish you many years of success and happiness)
• Sonja and Mark (I wish all of my clients were as excited about buying a home as you were!  You were a real pleasure to work with)
• John and Roodya (I wish all my clients gave me hugs and encouragement like you two did!)
• Fabio and Kelly (I wish you all the best of success and happiness and I hope you stick to your plan)
• Scot and Julia (One of the most enjoyable and fun sale of a house and purchase of a house)
• Marna and Isabel (I hope that this page inspires you to follow your own plan and enjoy your upcoming new life and baby! wish we could have spent more time together)
• Norm and Sue (You have everything under control and I never learned so much as I did from the two of you)
• Mike and Laurie, Steve and Linda, Silvyn, Joerg and Kathrin, Colin and Sharon, Gary M. (what a class guy), Dave and Lorna, Jim and Marcy, Tar and Suneeta, Deb S. just some of my past clients that I reflect upon with such happiness and satisfaction - none of you really know how much I appreciate your business and how happy I am that you were able to sell for top dollar and buy such a great home
• I've reached a point in my career (nearly 20 years) where I can look back at the 100's of families that I have helped and say that it really is truly satisfying to have helped all of you reach your goals, dreams and aspirations.  I am blessed to have been able to work with such nice people as you.

I wish you all much success, good health and happiness always,

Kathy

You may see a graph showing the spread between short and long term rates and you will see that the wider the gap the greater the savings in going with a short term mortgage!

Etobicoke MLS Real Estate Properties & MLS.CA Homes for Sale  All Pages including SiteMap, Etobicoke Real Estate Blog kathy@etobicokehomes4sale.com Copyright © at Etobicoke, Ontario, Canada M9A 3T7 (416) 236-1241  First created - Tuesday, June 6th, 2006, 2006 at 6:06:41 PM -
Last Update of this website: Friday, August 12, 2011 10:14 AM
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