Fixed rate vs variable: making the decision
Unless you have a crystal ball to confer with, knowing whether it’s financially advantageous to choose a variable-rate mortgage over a fixed-rate mortgage can feel like a daunting task.
In fact, according to Andrew Roper, a mortgage broker with Dominion Lending Edge Financial, because the offerings for each product are quite different, deciding which option to take on or renew should always boil down to three main criteria: your income, lifestyle and overall risk tolerance.
While many Canadians tend to favour stable, fixed mortgages — 51 per cent of homeowners opted for a five-year fixed rate in 2015 — a host of economic experts tout the merits of variable mortgages when it comes to offering the biggest long-term advantage, crediting them with being the cheaper option over time.
“It used to be that short-term variable-rate mortgages were by and far the most popular choice for homeowners, but recent changes in interest rates have made fixed rates more competitive, which makes deciding between the two that much more difficult,” Roper says.
And, while so much of the selection process is about personal preference, “the life situations a person or couple are experiencing or will potentially experience — think marriage, having a child, changing jobs, retiring — necessitate securing a mortgage ideally suited to those needs,” he adds. “It’s a process where the pros and cons associated with each mortgage type should be weighed very carefully.”
How can you determine which option is best for you? With variable-rate mortgages, the appeal is that your payments go up or down based on changes to the prime rate, which is currently set at 2.7 per cent by the Bank of Canada. In recent years, interest rates have been lower than that of fixed-rate mortgages, allowing for more of your monthly payment to be applied to the principle of your home. The drawback: Since mortgage payments fluctuate according to the prime rate, this means that a hefty increase in said rate will increase your interest payments, as well.
Fixed rates are a different story. Unlike variable rates, these are set for the length of the agreed upon term of your mortgage. Meaning if you have a five-year fixed rate at 2.5 per cent, you’ll know exactly how much principal and interest you’ll pay on each mortgage payment based on the term chosen. The drawback: Should interest rates drop, you’re locked in to paying the higher rate until your fixed term is completed.
What are your mortgage goals? If you haven’t already, determine what your long- and short-term goals are, how long you plan to live in your house, and if you’re trying to pay off your mortgage quickly, of if having a reliable monthly cash flow is more important to you.
“Talking through these points and then speaking to an expert about them is vital because it puts you in a better position to select which mortgage program is ideal for you,” says Roper. “Having this kind of discussion will also open the door to a host of related topics, such as flexible payment options, yearly additional payments to your mortgage and the guidelines that surround them.”
When deciding up on what type of mortgage is best for you, experts recommend considering three main criteria: lifestyle, income and overall risk tolerance.