Mortgage penalties. That's what's important, forget about the rate.
Mortgage penalties. That’s what’s important, forget about the rate.
Well, not totally as the title of this post suggests, however, potential penalty costs are something that is far too often under addressed at the time of arranging a mortgage, only for it to become a major issue down the road.
When arranging a mortgage one should never be too shortsighted and only focus on what the monthly mortgage payment will be and how to make it as small as possible (i.e. focusing on getting the lowest rate possible without concern for any of the numerous other terms, conditions, and factors of a mortgage).
Owning a home results in costs and expenses which may at times be more than one would ideally like to spend (i.e. costs of ownership). This highlights the importance of thoroughly informing oneself and doing a realistic budget of life after home ownership as one of the measures to help ensure home ownership is appropriate for oneself. As a mortgage professional we can help you with this process, however, I digress from the main topic of this post.
When the end of a closed mortgage term is not reached (e.g. sold house or need/want to refinance mid-term) a penalty is incurred for not fulfilling the original commitment. Incurring a penalty for not completing the term is standard among all financial institutions, however, they can differ in how they calculate the penalty. The amount of the penalty can also depend on the type of mortgage it is, variable vs. fixed rate.
When a variable rate mortgage term is not completed for whatever reason, the penalty is typically calculated as three months of interest. So as a rough guide you can estimate the penalty to be a bit less than 3 months worth of mortgage payments.
When a fixed rate mortgage term is not completed, the penalty is typically calculated as three months of interest or interest rate differential (IRD), whichever is greater. We know from the above we can get an estimate of what the three month interest penalty would be. However, most people are not familiar with what the IRD is or how it is calculated. The IRD is essentially the amount of lost income (interest) that the bank will miss out on with you leaving early. So, depending on the rate you currently have for your mortgage, what rates are at the time you want to break your term/contract, and the amount of time left in your term, go into determining what your IRD is, which may be more or less than 3 months of interest.
Financial institutions have made some efforts to minimize the times when a penalty is required to be charged. For instance most mortgages are “portable”. What this means is that you can move the mortgage from one property to another, provided the bank is OK with this (e.g. the bank will have to approve the property type, location, use, etc.). If the balance of the mortgage needs to be increased in the case the new property is of higher value, this can also be done but again, the bank will need to confirm that the larger balance can also be serviced appropriately.
Most mortgages are also “assumeable”. This means that new individuals can take over someone else’s mortgage along with the property in a purchase situation. The bank will need to approve the purchasers of the home for the mortgage they are taking over but again, this is another way that one can “get out of” their mortgage without incurring a penalty.
Both of the above scenarios will have administrative fees associated with them, however, the savings vs. paying a penalty will be very significant (administrative fees could be a few hundred dollars whereas penalty fees can be in the thousands and in some case, tens of thousands of dollars).
So, the message here is to speak in depth with your mortgage broker not only about your wants and needs in the short term but also your plans in life and with the property in the longer term. Through discussion it may be revealed that you would be OK with taking a product with a slightly higher rate (e.g. maybe paying a little extra each month over the “lowest cost option” ), but have the comfort of knowing you will have more flexibility and could save thousands of dollars or more in possible penalty costs over the “lowest rate” product that is more restrictive and has more uncertainty in penalty costs.
For more information on this or any other mortgage related topic, please contact me at anytime.
(604) 603-2520 | Maury@MauryLum.com | www.MauryLum.com |
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Since we’re discussing Mortgage penalties. That's what's important, forget about the rate. Maury Lum, When a broker is unable to get you an acceptable mortgage they are only allowed to charge you a fee of $1. The broker can charge for any work carried out on your behalf such as surveys.
While we’re talking about topics related to Mortgage penalties. That's what's important, forget about the rate. Maury Lum, The number 1 criteria your lender is looking at is your ability to make the new modified payment now and in the future. You need to supply the lender with proof of your income, along with a complete and accurate financial statement detailing your income and expenses to show them that if granted the modification, you will be able to afford the new, lower payment.
Couldn’t agree with you more. Of course it should be made sure also that there is a progression towards paying down and off the mortgage as well over time, however, at times a solution is needed and that should be the focus.
Typically, in Canada, when many mortgages are arranged the lender compensates the broker and the client does not directly compensate the broker. When mortgages become more complicated and cannot fit with “traditional” lenders, then brokers do need to charge the clients a fee. However, when working with a client and a mortgage is unable to be arranged for a variety of reasons, I would say that most brokers do not charge their clients a fee at this time. This is despite it may have consumed some time and resources of the broker. What would likely happen though is the broker would work with the client(s) to help them make the changes required so that they could hopefully be able to get them approved for what they need down the road.