Mortgage Options to Think About

The interest rate you end up paying on your mortgage will be affected by whether you choose a fixed-rate or variable-rate mortgage. With a fixed-rate mortgage, your interest rate remains the same throughout the term of the mortgage. So, if you’ve chosen a seven-year term, your interest rate won’t go up or down for that term. With a variable-rate mortgage your interest rate floats (goes up and down based on market conditions) during the term of the mortgage. If the interest rates fall, then more of your payment goes toward the principal, paying your mortgage off faster. If the interest rate increases, more of your payment goes toward the interest, slowing your principal repayment. And, if interest rates rise a lot, your lender will want to adjust your payment to reflect the increase, which may come as a surprise to your budget.

Your interest rate will also be affected by whether you choose a closed or open mortgage. Closed mortgages are typically the cheapest mortgage going in terms of the interest rate being offered at the time of borrowing.  If you want the security of fixed-payments and long-term financing, you’re going to be happiest with a closed mortgage. However, you may have to pay a penalty if you need to pay off the mortgage before the end of the mortgage term. So if you have a five-year fixed-term mortgage and you sell the home at the three-year mark, you’re on the hook for a penalty.

Open mortgages offer more flexibility and that flexibility comes with a price-tag. At the time of writing, closed mortgages were sitting at about 6.4% while open mortgages were around 8%.   Unlike a closed mortgage, you can pay off an open mortgage at any time, without penalty. It's ideal if you expect to move in the near future or if you think interest rates are going to fall.

If you’re looking for a site to compare mortgage interest rates, I like the job Fiscal Agents do for a bunch of different products. I like a lot of their calculators too.

You might also be interested in a convertible mortgage, which can be converted to another type of mortgage during its term, but you’ll pay a premium for this additional flexibility.

The decision to go short (borrow for two years or less) or go long (choose a term of three years or more) will also have an impact on your mortgage interest rate.

Sometimes interest rates are higher for a long-term (five-year) mortgage than for a short-term (one-year) mortgage. When that happens, the people in the know refer to it as a “normal yield curve.” If the reverse is true and short-term rates are higher than long-term rates, the yield curve is said to be “inverted.” And if there is very little or no difference between short- and long-term rates, then the curve is said to be “flat.”

Why is this important? Well, if the yield curve is normal, then the market is predicting that rates are going to go up over time. How big a gap between the short- and long-term rates is an indication of how much the market thinks rates will rise. In a normal yield curve environment, you might want to lock up your term for as long as possible to make sure your payments don’t rise and your budget is stable. However, if the curve is inverted, then the market is predicting rates will be coming down, and an open or variable rate mortgage may make more sense so you can take advantage of any decreases in the interest rates.

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