Mortgage Penalties: How the same rate can cost you $7k more

Without question, mortgage penalties can end up being the most costly element of a mortgage.  Penalty calculations vary between lenders & is exactly why you need to shop around & do your due diligence (or speak to me!).

 

Fixed rate penalties are the greater of:

— 3 months’ interest  [(mortgage balance * interest rate / 12) * 3], or
— the Interest Rate Differential (IRD): this calculation compares your interest rate to the current rate for the remaining term of your mortgage.  ex: 4 years into a 5 year term, that rate would be based on the lender’s 1 year fixed rate.
**there are certain “no frills” or “low rate” products which are the greater of those 2 calculations OR 2.75% – 3% of the mortgage balance.

 

For this comparison, we’re going to look at a few examples of penalties under the following criteria:

-$400k mortgage at 2.69% 5 year fixed, 25 year amortization
-2.05% discount received off the bank’s posted rate of 4.74%
-a current 2 year posted rate of 4% when the mortgage is broken
-breaking the mortgage in year 3 with $364,871 remaining

 

Big Bank (Scotia, TD, BMO, RBC, CIBC):

$5,400

-The banks’ calculations factor in the discount you received off the posted rate when the mortgage was setup.  In this case, that discount is 2.05%, so the comparison rate is going to be 1.95% (4%-1.05%)

 

Mononline Lender (First National, Street Capital, MCAP, etc):

$2,690

-monolines do not have posted rates.  Comparing your rate to their current discounted rate makes a big difference on penalty.

 

“No Frills”or “Low Rate” product:

$10,946

-These highly restrictive, low rate, products are currently offered by a number of monolines (Canadiana, RMG, DLC) & have different names depending on the lender.  The rate is lower than their standard fixed rates, however the penalty is the greater of 3 months’ interest, IRD OR 2.75% – 3% of the balance.  You can bank on the penalty being the later of those 3 calculations.

 

 

Mortgage penalties vary, a lot.  This is easily the most overlooked feature of a mortgage & can easily end up being something people regret not looking into further.  On avg, in Canada, most borrowers break their 5 year mortgage before the 4th year.  A lot can happen, especially if this is your first purchase.

When you weigh your options, you need to compare the savings on rate to the potential difference in penalty.  On that above example, the difference between 2.74% & 2.69% is $10 / month, which is generally less than what most people would assume.  Is it worth saving $10 / month for the next 5 years but risking a penalty that could be $7k greater?

Ask the right questions.  You’ll be glad you did!

The Age of Entitlement: “Let Them Eat Cake!” —-> “Let Them Have Houses!”

*Foreword: by no means am I against affordable housing options.  I think it would be fantastic to find a way for families to live close to dt.  The point of this is that there are other options to raise a family than buying a detached home & that tradeoffs have to be made.

 

I fundamentally do not understand what this #donthave1million campaign is trying to achieve. I’m proudly biased when I say this, but Vancouver is the best city in the world. That’s why I moved here. That’s why millions of people are moving here. It’s what happens in great cities & is going to happen more & more unless humans stop reproducing. With that in mind, what exactly is the solution the #donthave1million rant is all about? If everyone deserves to own a detached single family home within the city limits, where are they supposed to go?

This argument of being entitled to own a house with a yard within a bike ride of downtown is naive. It neglects the basic laws of supply & demand, & confuses needs with wants. The price of real estate has risen in Vancouver because it’s a great city & people want to live here, just as they have for generations before, albeit at a rate not quite as rapid as today. Do you know who deserves to live in that lovely west side house, minutes walk from the beach & drive from downtown? Those who can afford to do so, those that have worked hard, saved & have enough money to pay for it. That’s life. That’s the world we live in. If that’s a hard reality to consider, then readjust your priorities & accept that, like all things in life, it’s a question of trade offs.

Want to buy a house for under $600k? Great! You have a ton of options in Metro Vancouver. Don’t want a 30+ minute commute to work? Great! Buy a condo or town home. What’s that? You don’t want to live in a condo or town home? Ok then, rent a house. Oh, I’m sorry, you want to buy a place? Ok then, figure out what’s most important to you & make a decision.

The reality is you don’t need a cool million to own a home with a Vancouver address. You need about $20k. If you feel that owning a house with a yard is your right, then stomach a longer commute to work, or join the millions of families around the world who live in condos. Trade offs – if this is your first time encountering them, then you’ve lived a very privileged life, my friend.

Let me ask you this: when you start arguing that you deserve a house with a yard in the city, where does it end? When is it enough? At what point is the line drawn where it becomes too much? Do you need a house? Do you need 2000 sq ft? Do you need a yard big enough for kids to play hide & seek in, just as you did when growing up? This is a confusion of needs & wants. It’s an argument that exposes a spoiled generation where we all get medals just for showing up.

You don’t need a million to live in Vancouver. You need to quit thinking you deserve something that millions of others would love to have.

 

How To Shop For A Mortgage (Part 4 – Mortgage Registration)

I’ve wanted to do a video on this for some time, as I keep running into clients who are coming up to the end of their mortgage term, can save money by changing banks only to realize that they can’t actually leave without it costing them money. So we’re going to talk about 2 types of mortgage registration –standard charge & collateral charge mortgages. With some banks moving exclusively to collateral charge mortgages, it’s important to understand the differences.

Standard charge mortgages are what most people are familiar with. With this, the amount of your mortgage is registered on title – no more, no less. If you’re buying a $500k place with $100k down, then only that $400k will be registered.

Now, with a standard registration, once you reach the end of your term, it’s almost like you are a free agent again. You’ll get a renewal offer from your bank & if you find a better offer elsewhere, you can move banks without having to worry about paying legal fees all over again. If you can save money leaving, leave! Easy peasy.

Now the reality here is that an awful lot of people don’t bother to shop around at renewal & they just sign the offer they get in the mail & begin a new term. Well lenders know this & count on this & this is why renewal offers are usually not very good. This is why you should always give me a call when you are 4 months from renewal to see what’s out there.

I bring up renewal b/c the differences between standard & collateral charge mortgages are most evident here. With a collateral charge mortgage, you can’t actually leave your bank unless you pay legal fees all over again. In that sense, the lender has their hooks in you a little deeper. They know it’s going to be more difficult for you to move & because of that they may not be as sharp on their renewal offer. So for borrowers who want to keep their options open at maturity & have some negotiating power with their lender, this may not be the best option.

Further to this, with a collateral charge, all of your secured debt (credit cards, lines of credit) that you have with your bank that is interconnected with your mortgage may have grave implications.  If you default on one, the banks can go after your property to pay off those accounts. They can even increase your interest rate by up to 10%. You could potentially lose your house.

So who is a collateral charge mortgage good for? The advantage of this is the bank can advance you more money after closing without involving a lawyer. Provided you aren’t exceed the amount initially registered for, if you wanted to set up or increase your line of credit, take out some equity for renovations or investments, you can do all this & save from having to pay the costs of reregistering.

The problem, is most of the banks that register in this fashion don’t give you the choice.

Know what your options are, know the pros & cons of each & make sure you’re committing to the right product.

I’m Ryan with City Wide Mortgage services, contact me to learn more of the different types of mortgages out there.

Ryan Zupan
[email protected]
604.250.6122

How To Shop For A Mortgage (Part 3 – Mortgage Penalties)

Hi Ryan Zupan here with the City Wide Mortgage services. This video is part of our series on what to look for when shopping for a mortgage & today we are going to cover mortgage penalties.

Mortgage penalties, without question, can have the largest impact on how much your mortgage is going to cost you.  They can range from very the manageable to the borderline devastating.  Some of you have probably heard horror stories or news reports of clients getting hit with penalties of $20k-$30k.  I can tell you, these stories are very much true & exactly why you need to know what kind of mortgage you are signing up for.

For this video, we are going to talk primarily about penalties on fixed rate mortgages & the reason for that is with most variable rate mortgages out there, the penalty for breaking is going to be 3 months of interest, so whatever interest you pay per month, multiply that by 3.  On the penalty side of things, this is what you want.  It’s a lower penalty that what you’ll find with different types of mortgages out there.

Now there are exceptions to that.  Right now there are a few variable products out there that have a very low rate, which is great, but they have EXTREMELY high penalties.  I’m talking a flat penalty of 3% of the mortgage balance.  So on a $400k mortgage, that’s a penalty of $12k, which is huge.  Especially when you compare that to what you are saving going with that lower rate option.

On that $400k mortgage, the difference of 0.05% on interest rate, so let’s say 2.3% compared to 2.35%, is around $10 / month, which isn’t really that much.  Is it worth risking a penalty that has the potential to be $9k or $10k higher than other options to save a mere $10 / month ?  Probably not, so, again, it is vital that you know what you are signing up for.

Now with fixed rate mortgages, the penalty is a bit more complicated.  It’s the GREATER of 3 months interest (same penalty as the variable) OR a calculation called the interest rate differential (IRD).  The IRD is a formula the lender uses which factors in how much money they will be earning when they relend your money out for the remainder of your term.

For example, if you’re 3 years into your 5 year term, the lender wants to know how much they will earn relending your money out on a 2 year term.  If the 2 year rate is higher than your interest rate, then the lender will be better off — the lender is going to make more money.  If your rate is 3% & the 2 year rate is 4%, the bank is going to be better off, so your penalty will just be 3 months interest.  On the flipside, if rates are lower – if your rate is 3% but the 2 year rate is just 2.5% — then the bank is going to lose money once you break the mortgage.  It’s these situations where the penalties can be quite high.

Now, the kicker to all this is that the IRD calculation differs from bank to bank.  Some lenders will do a straight rate comparison – if your interest rate is 3% & the 2 year rate is 4%, they compare one rate to the other.

BUT, for some institutions, it is not that simple…  some factor in discounts they gave you off of their posted rate, some base the comparison rate on the corresponding bond yield.  There are a lot of differences that can really impact what your penalty could end up being.

By no means am I trying to dissuade you from taking a fixed rate.  There are certainly advantages of going fixed & for many borrowers that’s definitely the right fit, but I do want you to be asking these questions going in.  A mortgage is more than interest rate.  Don’t just go for the lowest rate.  Know what you are signing up for.  Make sure it’s the right fit.  You will thank yourself down the road.

I’m Ryan with City Wide Mortgage Services.  Please contact me & I’d be happy to go over this in more detail with you.

Ryan Zupan
Mortgage Planner
[email protected]
604.250.6122

How to shop for a mortgage – Part 2 (Prepayment Options)

This is our first video in our series on what you need to look for when shopping for a mortgage & we’re going to talk about prepayment privileges.  repayment privileges are your tools to become mortgage free faster.  When you buy your home, you do not want to be paying it off for the next 25 or 30 years.

With every mortgage, you have the ability to make more than your required minimum monthly payment.  This goes directly to principal & can go a long way in shaving years off that mortgage & the amount of interest you will pay over the life of that mortgage.
The standard prepayment options you want to make sure you have are:

-15% Increase payment: this means increasing your monthly payment by up to 15%.
EXAMPLE: if your regular payment is $1000 / month, you could increase up to $1150 / month in year 1.  In year 2, you could increase to 15% above that.

-15% lump sum payment: this refers to putting a large deposit on your mortgage.
EXAMPLE: if you have a $200K mortgage, you could put up to $30K in lump sum payments per year.

-double up payments: on any payment date, paying up to double that amount.
EXAMPLE: $1000 / month payment.  You could pay up to $2000 as a one-off payment.

Now these options are not mutually exclusive.  You could really utilize all 3 if you wanted to & really, you should use all three.  The thing you want to watch out for, is that some lenders will offer you a “low rate” mortgage, where they give you a discounted rate, but slash your prepayment options to 5%/5%, or 10%/10%.  Don’t be fooled, it’s not necessary to sacrifice your prepayments to get a low rate.

The other thing you want to watch for is some banks will only allow you to make prepayments on the mortgage anniversary, once / year.  I can’t stress enough how much of a pain in the butt this is.  For 365 days a year you have a plan how much you’re going to put down on your mortgage.  If you end up putting too much or not enough, you have to live with that decision for the next 365 days.  It’s far more convenient to make a $1000 lump sum payment every 3 months, than it is to plan for a $4000 lump sum once per year.

So the important thing with prepayments are 15% / 15% / Double up & you want to make sure you can make those prepayments throughout the year, not just on the anniversary.

Ryan Zupan
Mortgage Planner
[email protected]
604.250.6122

How to shop for a mortgage – Part 1 (intro)

Today we’re going to talk about the most important concept to think about when coming into the mortgage transaction, and that is, mortgages are not all the same.  From one bank to the next & even within that bank, from one mortgage to the next, there are a lot of little differences that can have a huge impact on how much that mortgage is going to cost you.
It’s very similar to buying a car, you don’t just decide you want an SUV just walk to the nearest dealership & start haggling on price.  You want to do your homework, you have to shop around, look at the fine print & weigh the pros/cons of the products out there & then make your decision.  Some cars have better gas mileage or their maintenance is cheaper, or they have a higher safety rating & so on.  It’s very similar with mortgages.

All banks calculate their penalties differently.  All banks have different prepayment privileges.  Some banks make you pay for a CMHC insurance premium even if you have more than 20% down.  The list goes on.  It all boils down to how this mortgage fits into your overall financial picture & your goals with the property.

My point here is that you need to look at more than just interest rate, but a lot of ppl get so obsessed with getting the lowest possible interest rate that they forget about all the other factors that make up a good mortgage.  You NEED to see the bigger picture.

I’ll give you an example.  On a $200K mortgage, the difference between 3.09% & 2.99%, is $10 / month.  This surprises a lot of people.  $10 / month is of course important, I mean, over 5 years that’s $600 saved, but it’s not something that should cause you to sacrifice good prepayment options or go with some small financial institution that may not be in business in a few years.

When I first sit down with a client, the first thing we go over is the 3 main things you want to look at when shopping for a mortgage:

1) Prepayment privileges
2) Penalties
3) Registration

These three differences can go a long way in determining how much this mortgage is going to cost & they’re very important.

In my subsequent videos, we’ll delve into each of these topics, explain why they are important, & outline how they can be worth more than the rock bottom lowest rate.

Thanks & tune into my next video to learn about how prepayment privileges differ.

Ryan Zupan
Mortgage Planner
[email protected]
604.250.6122