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Lowest interest rates don’t always make best mortgages

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In today’s competitive mortgage market, low interest rates are advertised across the board, but while many lenders offer rock-bottom rates, reviewing all of the terms and conditions in a mortgage contract is imperative before signing the dotted line.

Let’s focus on the three Ps of a mortgage contract: prepayment privileges, portability, and penalties. Sometimes the difference between lender A’s and lender B’s interest rates could be a few fancy coffees a month. But that difference could cost you thousands of dollars over the term of your agreement, so let’s dig in.

Prepayment provisions

This section covers the frequency and maximum allowable amount that you are able to pay down on your mortgage annually. It might be written as “10/10” terms, “15/15” terms, etc. For example, a 10/10 prepayment term typically means that you’re able to increase your regularly scheduled payment up to a maximum of 10%, or that you can make a lump sum payment of up to 10% of the original principal amount. Be sure to look for lenders that are flexible on when you can pay lump sums down.

Portability

This portion of your mortgage contract refers to your ability to move (port) that mortgage to a new property without triggering a penalty. It involves taking your existing mortgage amount, terms, rate, etc., and moving it from one home to another. This is especially important to keep an eye on if you think you may not be in your home for the full length of your term. I see this quite often with military borrowers and people on temporary assignments. Always make sure that your contract has the ability to port your mortgage, otherwise you could incur costly break penalties. It’s equally as important to review the restrictions on your portability terms, too.

Penalties

Penalties can be triggered if you make a change to your mortgage—this includes refinancing your mortgage, requesting a line of credit, or even fully paying off the mortgage—before your term is up. Since the majority of Canadians will make a change before the end of their term, it’s very important to pay attention to the break penalties. It’s a pretty simple calculation on variable rate mortgages (VRMs). Regardless of when you break a VRM, your penalty is just three months of interest payments, which is much lower than its fixed rate counterpart. Understanding how each bank calculates their fixed rate penalty (also known as an interest rate differential or IRD penalty) is equally as important. Some lenders will calculate that penalty based on your contract rate (the rate on your mortgage approval) while others use the posted rate on their website. So, getting a rock-bottom rate but having a higher posted rate actually means your penalties are substantially higher than a contract rate calculated penalty, and that could cost you thousands of dollars more.

When determining which lender to agree with, it’s always important to review the full terms and conditions of your mortgage contract. If something doesn’t seem right, or you don’t understand or agree with it, bring it up with your banker or mortgage broker before signing it. Oftentimes, changes can be negotiated in the contract before it’s signed, and, again, that can potentially save you thousands of dollars.

About the Author

Daniel Johanis is the founder and principal broker of Pekoe Mortgages, a boutique digital mortgage brokerage that focuses on financial education and finding custom tailored solutions for borrowers. Johanis, in addition to being ranked Toronto’s top broker since 2016, holds a bachelor degree in economics and has been featured in various media outlets both nationally and internationally.

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