Clay Jarvis
Beth Buczynski
Variable mortgage rates are cheaper now than they’ve been in years. They’re still higher than today’s lowest fixed rates, but for homeowners approaching renewal, variables grow more enticing with each Bank of Canada rate cut.
As the spread between fixed and variable rates shrinks, choosing a rate type for the next phase of your mortgage gets challenging, especially if you’re trying to limit mortgage renewal shock.
Deciding between fixed or variable is a complex decision that has as much to do with you, your needs and your finances as it does the renewal rate you negotiate. But it can be easier to make if you answer a few questions before starting the renewal process.
How much bend is in your budget?
To decide how much mortgage you can afford, lenders typically consider your gross income (total pay before taxes). Anthony Venuto, broker at Toronto-based Centum InTouch Mortgage Solutions, suggests factoring in your net income (what you actually take home each month) when choosing a rate type at renewal.
Why? Doing so can help you understand how much rate volatility you can afford.
“If [homeowners are] in the position where they’re tapped out, and the [debt service] ratios are a little higher, variable [rates] may not be a good choice in the event that things go awry,” Venuto says.
Even though variable mortgage rates are trending down, there’s no predicting where they’ll end up over the course of a three- or five-year term. If your monthly budget is stretched tight enough that a moderate increase in rates might put your finances on tilt, the reliability of a fixed rate might be the safer choice.
What else do you need from your mortgage?
Renewing in a high-rate environment can lead some homebuyers (and mortgage brokers) to become hyper-focused on the lowest rate possible.
“I think that Canadians are so obsessed with rates, and understandably so,” says Hash Aboulhosn, president of Rocket Mortgages Canada. “And I think that a lot of people in our industry have learned to just talk about rates.”
The rate’s important, but the rate type you choose should be based on your goals and needs over the next few years. If there’s change on the horizon, a variable rate might be the way to go.
If you sell your home and break your mortgage, for example, the prepayment penalties would be much lower with a variable rate than a fixed rate. And if your household expenses suddenly increase because you have a child or start caring for a relative, you can generally swap your variable rate for a fixed rate to lock in a more predictable mortgage payment.
“That’s generally how I would guide people to think about that fixed versus variable conversation — consider both the numbers and their personal situation,” Aboulhosn says.
What can you afford?
This is the question that will prevent many renewing homeowners from hopping on the variable rate bandwagon.
The Bank of Canada has sheared 50 basis points off of variables since June, but that hasn’t been enough to put them in range of today’s lowest three- and five-year fixed mortgage rates. At the time of this writing, the lowest fixed rate on the market was 4.39% for a five-year term. The lowest variable was 5.4%.
On a $500,000 uninsured mortgage, that’s a difference of over $300 a month — a gap not everyone can afford. If you decide to renew with a new lender, and are subject to a fresh round of underwriting, you might not qualify for that declining variable. That’s especially true if you have an uninsured mortgage and need to pass a stress test.
If a variable’s out of reach, it may not be the end of the world. Aboulhosn says it could be two years before you’re finally saving money on a variable versus today’s fixed rates. Taking a two- or three-year fixed rate could save you money in the short-term and set you up to renew at a possibly lower rate in a few years.
What rate type do mortgage experts prefer?
For Venuto, the choice between variable and fixed is an easy one.
“I’m a variable person. Always have been, always will be,” he says.
The appeal of variables for Venuto is the flexibility they provide. If fixed rates fall significantly during his current term, he has the option of switching his variable rate to a fixed. Choose a fixed rate when you sign your mortgage and the possibility of snagging a lower rate mid-term is off the table unless you break your contract.
“I’m paying a premium for the ability to manoeuvre my mortgage,” he says.
Aboulhosn says a variable rate would edge out a three-year fixed as his choice if he were renewing his mortgage in the next six to 12 months,
“And that’s partially because there’s a reasonable chance that I might move in the next few years,” he says. “Fixed mortgages have a hefty prepayment penalty, and that can sometimes really offset any savings that might happen with a minor difference in the interest rate.”
Whether you’re renewing, refinancing or buying a home, choosing a rate type can feel like a secondary decision. Even so, you should still approach it strategically, with one eye on your finances and one eye on your future.
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