Mortgage Basics 101: Types & Rates

So you decided you wanted to enter the housing market as a first-time home-buyer. You know what your ideal neighbourhood is, dwelling type and even how much you are willing to spend. You have also been pre-approved for a mortgage and chosen a realtor. Basically, you have done your homework or at least you THINK. When it comes time to obtain a mortgage, it’s never one-size-fits all; rather there is a variety of options to choose from.

Mortgage Types

1. Closed Mortgage

If you want consistency with respect to rates and the length of your mortgage agreement, a closed mortgage is best for you. Interest rates are typically lower (and do not change with the length of the term). However, a closed mortgage does not offer much flexibility in paying off your mortgage down sooner with the exception of a once-a-year lump sum payment up to 20% of your entire mortgage.

  • Predictability and consistency with respect to payment amount

  • Often comes with lower interest rates

  • Limited flexibility with paying down mortgage faster

  • Cannot change interest rate during term of mortgage

2. Convertible Mortgage

Want the best of both worlds? Then consider a convertible mortgage. Convertible mortgages are flexible yet offer minimal risk. Often with a lower interest rate than an open mortgage, convertible mortgages provide the opportunity to switch to a longer-term closed mortgage without penalty.

  • Provide opportunity to take advantage of lower interest rates and switch to a closed rate without penalty

  • Offers lower interest rates than an open mortgage

3. Open Mortgage

If you are looking for flexibility with regards to paying off your mortgage, consider an open mortgage. No penalty is incurred if you decide to make lump sump payments or pay off your mortgage before the term expires; however, this flexibility comes often with a higher interest rate – which can result in higher monthly payments.

  • Maximum flexibility; no penalty for making lump sum payments or paying off your entire mortgage before the term expires

  • Higher interest rate

  • Best for: those looking to pay off their mortgage as soon as possible

Mortgage Rates

In the marketplace today, you can choose from two mortgage rates – fixed or variable (both are available for all three mortgage types – open, closed and variable). Are you comfortable with some risk in order to possibly save some money in the long run or prefer the peace of mind that comes with stability? These among other factors are important to consider before deciding between fixed or variable.

1. Fixed Rates

Mortgages with fixed rates will not experience any change or fluctuation in the amount paid towards interest and principal during the term of the mortgage as the rate is locked (with no option to change during the term of the mortgage). Essentially, fixed rates provide consistency and stability to the borrower (no surprises here).

2. Variable Rates

Linked with the current prime rate (which is subject to fluctuation), variable rates may either increase or decrease during the term of the mortgage. Your lender will either provide you with a premium rate or discount rate. A premium rate will be prime plus a set amount; alternatively, a discount rate will be prime minus a set amount. For instance, the current prime rate is 3%. If your lender provides you with a discount rate of 0.40%, your variable rate will be 2.6%, which may be lower than the current fixed rate. Due to the fluctuating nature of the prime rate, the borrower must be comfortable with some risk.

In Conclusion

Obtaining a mortgage is no doubt one of the biggest financial decisions you will make; as a result, it is important to consider all the existing factors before choosing the right one. We highlighted the existing mortgage types in the market and the unique attributes each has; depending on your goals, one mortgage type will work best for you. The same goes for mortgage rates.

Choosing the right mortgage type will further add to your peace of mind as obtaining a mortgage is perhaps the largest financial commitment you may have. For more information and advice, please contact your Mortgage Architect broker today.

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