A mortgage loan usually becomes the biggest financial transaction most of us will ever have to deal with in terms of value with a banking institution. This will tie you in for up to 30 years unless you decide to opt for a short amortization period or make additional payments to pay off the mortgage faster. When we look for a mortgage, we usually ask this question: “Am I getting the lowest rate?”, and “Can I afford the monthly payment?”.
Since a mortgage is a secured loan, your rate is typically lower than your other unsecured loans like your line of credit, credit cards, or even your home equity line of credit. Being a secured loan, the bank has the authority to foreclose your property in case of non-payment leading to your loan to be in default.
Before we plunge deeper into the world of mortgage, let us first discuss the factors to help you find the best mortgage rates in Canada, or just about anywhere else.
Factors Affecting Mortgage Rate
- Credit Score – this is the bank’s gauge for your credit-worthiness; typically, those who have a higher credit score get a lower mortgage interest rate and those who have a lower credit score get a higher mortgage interest rate, or can even be denied a mortgage loan. Having bad credit will give you difficulty in availing of credit. See my post here regarding How Bad Credit Affects you
- Down Payment – if you put in a bigger down payment, you will get a lower interest rate; this is because the lending institutions’ risk is lower when you put in a bigger down payment, compared to those with just 5% or zero down. Also, when you put in less than 20% down payment, you are most likely required to purchase mortgage insurance to help ease up on the risks taken by the mortgage provider
- Type of Loan – if you go for a closed mortgage, you will have a lower interest rate than an open mortgage. This is because your loan comes with restrictions in terms of flexibility on being able to make additional or lump-sum payments to hasten to pay it off.
- Interest Type – most often, the variable interest rate will give you a lower rate in the beginning; however, there is a risk of your rate increases tremendously when the prime rate is increased
Different Types of Mortgage
As I have mentioned, your type of mortgage will have an impact on your mortgage interest rate. There are different types of mortgages available. The most common type for a rate shopper is the closed mortgage since this has the lowest guaranteed rate but comes with the most restriction in terms of flexibility. Here are the different types with a brief description:
- OPEN Mortgage – this type of mortgage offers the most flexibility in terms of allowing the homeowner to pay off their mortgage even before the term is complete; the homeowner is not restricted to pay only a certain amount for a fixed term (usually 25 to 30 years); to get this flexibility, however, you are also affected by the fluctuations in the interest rate.
- CLOSED Mortgage – this is usually offered with a lower rate than the open mortgage; you can lock in your rate for a specified period with pre-calculated monthly or bi-weekly payment; the bank may allow you to make additional lump sum or increase your monthly payment to up to 20%
- CONVERTIBLE Mortgage – this will allow you to change from open to a closed mortgage, or change from variable to fixed mortgage; your rate will not be as low as a closed mortgage due to flexibility in locking into a closed or fixed mortgage when the prime rate goes up
- HYBRID Mortgage – this is a combination of more than one type of mortgage; part of your mortgage may have fixed rate while the rest has variable rate; there may be a line of credit included as well
- REVERSE Mortgage – this mortgage is open for over 55 years old and enable them to use and convert their equity into a monthly or a lump sum payment; once the owner decides to sell the property or upon the death of the owner, part of the proceeds of the sale will be used to fulfill the financial obligations to the lending company.
Different Types of Rate
There are a lot of different types of mortgage interest rates. The most common types of interest rates that most of us have heard of are fixed and variable. Here is a direct comparison between the two:
- Fixed-Rate – with this kind of mortgage, your mortgage rate, and the monthly payment will remain fixed for the duration of your mortgage term; this could be a 1-year, 2-years, 3-years or 5-years fixed mortgage term. This kind of mortgage interest rate offers stability in the monthly budget. You don’t have to worry about any increases in your monthly mortgage payment.
- Variable Rate – the mortgage rate is initially lower at the beginning of the term. Your mortgage rate will change in direct relation to the prime rate. If the prime rate goes down, your interest rate will be lowered. However, the risk here is if the prime rate goes up, your mortgage interest rate goes up as well. This is advisable to those who can afford to cover any possible increase in the interest rate, and on their monthly payment.
How is the interest rate calculated
There are a lot of mortgage calculators available online. When you go meet with your mortgage broker, they can calculate your monthly or bi-weekly payments for you. Here are the factors affecting your monthly mortgage payment:
- principal amount
- down payment
- interest rate
- amortization period
- payment frequency (monthly or bi-weekly, etc)
The Government of Canada website has a mortgage calculator that will simplify the calculation for you.
Ready to buy your dream home?
Before taking on the biggest financial obligation of your life, make sure to talk to your trusted mortgage broker. They are there to help you. There is a lot of information available online. Take good care of your credit score, and shop around for the best offer you can get.
If you have any questions or suggestions, please feel free to leave a comment below. I am very happy to hear from you.