Purchasing a home, whether you are a first time home buyer or seasoned pro, is a very exciting time. However, before you are able to purchase, you must have your financing in order. When it comes to mortgages, there are two main types, variable and fixed rate mortgages. Having a good understanding of these two type will allow you to make a better decision when it comes to picking which is best for you.
In today’s aggressive real estate market, it’s good to get these financials resolved and dealt with as part of being pre-approved. This way, you’re less likely to need a financing condition or may even decide you want to pursue a bully offer.
What is a Variable Rate Mortgage?
With a variable rate mortgage, the interest rate will fluctuate throughout the term. The rate determined by the Bank of Canada’s lenders’ prime rates, which are the interest rates on loans that the banks are currently offering to their best customers (see the current prime rate here).
The variable mortgage rate is set at prime plus/minus a discount or premium. So, let’s say you’re given a mortgage rate of prime -0.5% or prime +0.2%. If the prime rate increases during the term, so does your mortgage rate, and a larger portion of your mortgage payment will be used to pay off interest while a smaller portion will go toward the principal. If the prime rate decreases, the opposite is true. Variable rate mortgages allow you to lock into a fixed rate at anytime without penalty. If prime rate starts to increase, you will be able to lock into a fixed rate for the remainder of your term. This can help secure a lower rate if prime rate drastically increases.
Some benefits of a variable rate mortgage are:
- The variable rate is usually lower than the fixed rate (often below market rate)
- They tend to be less expensive over the term of the mortgage
- An initial lower payment may help you qualify for a larger loan
What is a Fixed Rate Mortgage?
As the name suggests, fixed rate mortgages have a fixed interest rate throughout the term. Fixed-rate mortgages are determine by the Government of Canada’s bond yields at the time of purchase and doesn’t change even if the bond yields do. With fixed rate mortgages, your monthly payments do not change. Therefore, you know exactly how much of your mortgage payment will go toward interest and principal for the length of the term.
Some benefits of a fixed rate mortgage are:
- Fixed-rate mortgages are easier to understand
- Mortgage payment amount will remain the same throughout the term of the mortgage
- You have a sense of security knowing what to expect
- It’s easier to budget for your household costs
- As the principal is reduced, the interest charged will also be reduced — and more of your payment will go towards the principal.
Another thing to consider when looking at mortgage rates is what the purchase price of your home will be. There are minimum CMHC requirements for home purchases above $1 million, for below and above this threshold as well.
If you are looking for more information on variable vs fixed mortgages or CMHC guidelines, Beth and Ryan recommend contacting Justin Guest at Mortgage Mechanic.
Beth and Ryan are also always available to answer any questions you might have. Contact them here!