"The positives for fixed is that it doesn't matter what is happening around you. Your rate will be locked in, no matter what. The rates could be going up, they could be going down, your rate is going to be fixed for that certain time period, based on the agreement that you sign with your bank. The pros of going with the variable is you mostly likely end up getting a lower rate, because of the fact there's not a safety security issue. When you look at a variable rate, the best thing to look at is see what the discount is off the prime rate."
With the recent interest rate increases, which mortgage would be better for you in 2018: fixed or variable? We build upon our previous video on the differences between fixed and variable mortgage. In this episode, we discuss how to factor the interest rate increases into your decision, if there is a cap for variable rate mortgages, and if variable is still a good option. We also explore qualifying for either variable or fixed with the new mortgage stress test and floating interest rates. Finally, we see if you can turn a variable mortgage into a fixed and vice versa.
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Today I'm joined by Mujtaba Syed, Manager of Mobile Mortgage Specialist, for TD Canada Trust.
The question we're going to answer today is
Fixed term rate versus variable rate mortgage in 2018
First of all, I guess, can you describe what is a fixed term? What is a variable? Then, what are the pros of going with each one?
Absolutely. Yeah, for sure.
Fixed rate mortgage
Let's start off with the fixed rate.
A five year fixed rate just means that you have ... Sorry, not just a five year, but
any fixed rate means that you have now committed to being with the bank for a certain time period, and that's what the term is based on. And the rate is actually guaranteed for that time.
You've got into an agreement with your lender and you have decided to go with a certain term. They have also agreed to guarantee that rate, for you, for that time period.
The positives, or the pro, for that is it doesn't matter what is happening around you. Your rate will be locked in, no matter what.
The rates could be going up, they could be going down, your rate is going to be fixed for that certain time period, based on the agreement that you sign with your bank.
Your payments are fixed. Your rate is fixed. You have no fear of your payments going up, or creeping up, on you, or your interest rates creeping up.
Then it's really good for your monthly budgeting. If you feel like you want to have a strict monthly budget, a fixed rate is the way to go. That way you don't have to worry about impacting your budget and your cost associated with lending.
Variable rate mortgage
Now, a variable rate is very similar. We do have a term attached to that one, as well.
You could have a three-year term or a five-year term. That term is the term that you've agreed to stay with the bank, but the only thing that's different on that side is the rate can vary.
It's actually most variable rates are on a prime minus a discount that, that lender has given you.
For example, if the rates today are 2.45. That most likely means that the bank has given you a prime rate. At that time, let's say, 3.45 and the discount is 1%, minus 1%.
So it doesn't matter what prime is, you're going to get minus one discount for the five year, no matter where it is.
That discount is going to be locked in for five years, or three years, whatever your term is. That is what you agreed to stay with the bank.
The pros of going with the variable is you mostly likely end up getting a lower rate, because of the fact there's not a safety security issue.
But you get a lower rate and it averages, and also if prime doesn't go up, your rate will be a lot lower than the fixed rate available at that time.
But if there's a possibility of rates coming down, you could actually reduce your rate from the time that you've signed it and end up paying less interest.
The other positive, I feel with a variable is, you get the lower rate now, and if you feel that rates are going too quick and you're not comfortable with that, you could always go back to your bank, or to your lender, and see if you can lock in your rates to see what's available.
Most banks have provisions built into the variable where you can actually lock in without being in the variable rate for the whole term.
Once again, a lot of benefits for the variable over the fixed, but fixed is also great depending on what the rate is.
To give you that peace and security and peace of mind.
Watch our previous video to know more about the differences between fixed and variable mortgage:
When we're talking about variables, is there a cap to how high and how low that variable?
For example, interests rates 2%, but then in five years, let's say, it jumped up to 10%. Do you actually, with a variable interest rate, would you eventually end up having to pay that 10%?
Yeah. Unfortunately, there's no provision built in for a cap for a variable.
With a variable, you just stay on top of it. All right. That's really what I recommend to my clients.
If you want to go with a variable, definitely know what you're getting into. Watch where the rates are, because they do go up and there is no cap. You have to watch the rates and you have to be comfortable enough to see that it's going to average.
But on the long term, variable does do a lot better, because the averaging helps you out. But if you're not comfortable with that, I recommend that you go right into a fixed.
A variable is a great product for someone who's got some experience in mortgages. Maybe it's their second term they're going to a renewal and they want to try it out for a bit.
It's a great option, but if it's your first time getting into it, and you feel like you're not going to be on top of your rates, and your budgeting is very, very important to you, maybe go with a five-year fixed, or a two-year fixed, or whatever the fixed was best for your goals. And your lender can be the best to advise you on that.
And, remember, if you want to know more about interest rates and buying a home, check out the video above.
Is a variable rate still a good option, even though the Bank of Canada just recently raised interest rates?
When you look at a variable rate, the best thing to look at is see what the discount is off the prime rate.
Because none of the banks, none of us, can really control prime.
That's based on the Bank of Canada and their overnight lending rate, but what we can take a look at, to see what discount the lender is offering off of prime.
Right now, we're seeing major discounts. We're seeing big discounts off of prime, right now. So watch for that.
If you can get yourself a really big discount, and that you can lock that in for a certain term, it's actually way cheaper for you than a five-year fixed today. Then, yes, it's definitely worth it to go with a variable today.
Sometimes you could be 100 basis points lower than the five-year fixed comparable with the five-year variable. That means that you actually have lots of time, if rates actually did go up, to actually decide what you want to do.
Lock in, or even stay in it, because you're still going to be lower, even with the increase than the fixed rate available.
Once again, a great discussion to have with your institution lender about your monthly budgeting, what you're comfortable with, et cetera, et cetera.
Does a fixed rate or a variable rate ... Is there different qualifications for either or, or is it all the same qualification?
Once again, the stress test depends on if you're going with conventional, non-conventional. It could, if you're putting less than 20% then no.
If you're putting less than 20% down, it doesn't matter what rate you go with. You actually qualify at the five-year bank account posted rate. That's the stress test for that.
If you're putting more than 20% down, yes, whatever the rate that you are getting for a fixed-rate, they could charge you a 2% premium as a stress test on that one.
If you're going with variable, then they go with just a straight five-year posted bank accounted rate, once again.
And, remember, if you want to know more about the mortgage stress test, hit the video above.
Floating interest rates
Now, the last question I have is, there's this question about floating interest rate. What is that have to do with anything or is that the same as a variable?
Mujtaba Syed: The floating interest rate is going to be the variable rate.
Karl Yeh: Okay.
Floating just implies to variable going up and down. If it's going to go up, it's going to come down. It's not fixed. It's going to be the exact same scenario as a variable.
Just one more question in terms of variable.
Can you actually, let's say, you have five-year variable. Three years into it, the interest rates starts continuously rising.
Is there an option to actually turn a variable rate into a fixed?
For a variable you always have that. All lenders have provisions built into a variable.
If you feel you're getting more ... If you're getting uncomfortable with the fact that prime is rising too quick, or your interest rate is rising too quick, sit down with your lender and explain to them.
And they can explain to you what the best way is to lock in to see. The only catch with that is, you could only lock into what's available at that time.
Let's say you start off three years ago, you won't be able to lock into rates three years prior to what you had, but whatever is available today.
So you could see, if the rates today make sense, and there's still going to be a lot lower than what you expect prime to go up, 100%. Sit down with your lender, lock those rates in.
But if you feel like the fixed rate today is still higher than your variable rate, maybe, once again, have that discussion with your lender to see does it make sense for me to lock in now, even though my rate is lower than the fixed.
Then you can have that discussion with them and they can tell you the pros and cons of each and decide from there.
How about a fixed rate. Could you actually turn that into variable
or you can't really do anything?
Unfortunately, when it comes down to five-year fixed rate. There's not a lot of flexibility there. You have agreed to be for a certain term. That is your rate. You have to pay that interest rate for the end of the term.
If you want to get out, then you incur what we call, exiting penalties or payout penalties, et cetera, et cetera.
They just depend on what the rate is at that time. They could be a lot.
They could be less, but it's something that's not really encouraged by the lender, or by the bank, is to break your fixed term, because it does incur cost to you.
Karl Yeh: Perfect. Do you have anything else to add?
Mujtaba Syed: No, I think I'm good.
Karl Yeh: Perfect. My question for you is,
Did you use a fixed or variable rate when you bought your previous home and why?
Let us know in the comment section below. Thank you very much for joining us and we'll catch you next time.
Let us know if you have additional mortgage or financing related questions that we can answer by submitting them in the comments section below.
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About Mujtaba Syed:
Mujtaba is an experienced mobile mortgage specialist with a demonstrated history of working in the banking industry. Skilled in Negotiation, Commercial Lending, Banking, Sales, and Credit Analysis. Strong product management professional.