Q&A: Variable rate vs. fixed rate mortgages

Posted on 28. Apr, 2010 by in News

Globe personal finance columnist Rob Carrick and mortgage expert Peter Majthenyi square off on which is the better plan for your mortgage

Variable rate vs. fixed rate mortgages
(04/27/2010)
10:52
Dianne Nice:

Welcome to our chat today with The Globe’s personal finance columnist Rob Carrick and mortgage expert Peter Majthenyi of mymortgageplanner.ca

10:55
Dianne Nice:

They’ll be tackling the great mortgage debate: Fixed-rate or variable? Start submitting your questions now, and we’ll be getting underway in a few minutes.

11:01
Dianne Nice:

In case you missed it, the Saturday edition of The Globe covered this issue with a piece on the gender divide when it comes to mortgage types.

11:02
Dianne Nice:

So now, onto the questions.

11:02
[Comment From GuestGuest: ]

I am staring a 300K commercial mortgage in the face right now. Variable rate 4%, Fixed 6.8%. Seems to be a non brainer

11:05
[Comment From Peter Majthenyi AMPPeter Majthenyi AMP: ]

Commercial tends to be a little more tricky when considering interest rate – why? because in most cases the interest is tax deductible and the rate may be a mute point? While monthly obligation could be your concern? Best to as your account what is most tax efficient???

11:10
[Comment From HarveyHarvey: ]

What are the best variable rates you are seeing (ie. Prime minus .6) not worry about the rest of the details of the mortgage (only the rate)?

11:15
[Comment From Rob CarrickRob Carrick: ]

Harvey, my point of view is that the rate is about 95 per cent of it, unless you are in the minority of people who plan to make big prepayments. I hear over and over again from mortgage brokers about people with big plans to pay down their mortgages, but never actually do so. Peter, any other considerations beyond getting the best rate and maybe pre-payment privileges?

11:15
Peter Majthenyi AMP:

The rate discount alone will not save you money. On a Variable mortgage prepayment privileges, how it is compounded, and other options can significantly effect the true cost? There are 3 year variables at Prime less .75% and 5 year variables at Prime less .6% yet often borrowers do not choose them when they examine the “fine print”.

11:15
[Comment From torajobtorajob: ]

I am convinced that variable is the right rate for our mortgage, but my partner wants to be sure. We are on a 5 year variable, paying below prime. We have about 10 years left to pay on our mortgage, and try to overpay a bit each year to drive the amortization down further. My feeling is that even if rates go up over the next five years, the gains we make on principal paydown now outweigh the security of a fixed rate.

11:20
Rob Carrick:

Tora, sounds like you’re reasoned this out well, but let’s be clear about something. You cannot be “sure” about anything when it comes to financial decisions where you’re subject to financial market ups and downs. Nothing is sure right now. We may get a modest upswing in interest rates, which would make your variable-rate strategy look good. We could also get a snap back in inflation that challenges your approach as rates streak higher over the next 12 to 48 months or so. By and large, I think your analysis is sound. But the only way to buy certainty in the mortgage game is to go with a fixed rate.

11:21
Peter Majthenyi AMP:

Other then prepayment privileges, a major concern is the rate discounts at the time of conversion to a fixed term. “If” one chooses to convert to a fixed term the rates at conversion can vary lender to lender … some provide discounts while others do not. Also, stats show that we are more likely to pay our mortgage of quicker by increasing our regular scheduled payments opposed to making periodic lump sum payments directly to principle. Some mortgagees allow you to increase you payments as high as you like, while others do not.

11:22
[Comment From GuestGuest: ]

Do you think that Fixed rates have peaked, and variables rates would go up marginally (1.5-3%) given the suspect nature of the “recovery”?

11:27
Rob Carrick:

Have fixed rates peaked? No way, man. Let’s start with the fact that mortgages are priced with reference to bond yields. Right now, bond yields are rising to reflect today’s economic reality of rising growth and revival from the recession. Strong growth ahead will mean higher bond yields and, thus, higher mortgage rates. As for variable-rate mortgages, they’re priced differently. Instead of bond yields, they reference the prime rate at the major banks, which is in turn influenced by the Bank of Canada’s overnight rate. The overnight and prime rates have not yet begun to rise. When this happens, maybe in June, we could see a steady rise over a period of years that will at least amount to 1.5 to 3 per cent. My point here is that the great rising interest rate show is just getting started.

11:27
Peter Majthenyi AMP:

As the economy recovers I am expecting “controlled rate increases”. A normal economy should have normal fixed mortgage rates in the 5-6% range which is still amazing! The Feds are commited to avoiding “payment shock” for the average consumer, so I do not see rates jumping anytime in the immediate future. There is probably room for both fixed and variable to gradually increase by 2% over a few years and not a few months.

11:27
[Comment From AlimTorontoAlimToronto: ]

Good morning Rob and Peter – Just wanted some advice, the wife and I are closing on a house soon and have locked in a 3.89% 5 yr fixed rate mortgage. We are comfortable enough to make prepayments at this rate but are unsure about whether a variable rate (currently at prime minus .5) would be better seeing that we could prepay a lot more. We are concerned about how high and fast the rates could go. Thanks and have a great day

11:29
Rob Carrick:

Alim, I’ll let Peter handle the pre-payment side of this question and simply say that 3.89 per cent for five years is an outstanding rate that already looks like a brilliant deal. Two years from now, it will look even better.

11:35
[Comment From MarcMarc: ]

Rob, I agree with your comment to Alim. My variable mortgage is coming up for renewal in August, and I was hoping to lock in a fixed below 4. However, rates have jump by close to 0.75% or more in only a few weeks time. So while the fixed still looks good, it no longer looks as amazing as something below 4%

11:36
Peter Majthenyi AMP:

Alim, There is no right or wrong choice. Mathematically you likely will pay less interest going with a variable mortgage. On the other hand, we have both your tolerance and emotional aspect to consider – for the next five years how important is adding the element of payment predictability? Possibly fixed is a good place to start if this is your first home, and you’ll likely renew for a variable in the future considering fixed rates will likely be higher?

11:36
[Comment From BrockBrock: ]

Rob, you are correct that the only way to buy certainty in the mortgage game is to go with a fixed rate but keep in mind, whether fixed or variable, if you have a 5 year term, at the end of the 5 years, you have no certainty with either. So you better be prepared for possible higher rates with either. If you can afford to have a variable but pay at 5%, I think this is the best approach for safety.

11:36
[Comment From BoBo: ]

We live in Vancouver and we have a $550K mortgage on a 35yr amort. with TD. We pay accelerated biweekly which reduces our amort. to about 30yr. At 3.95%, I’m concerned about rising rates and if we could eventually renew at potential higher rates. I see that we could possibly afford a 6% rate but do lenders do stress tests when applicants apply?

11:37
[Comment From BoBo: ]

We’re on a 5yr fixed

11:38
Rob Carrick:

Marc, the sub-4% five-year fixed rate mortgage will turn out to have been the deal of a lifetime, I think. That said, we shouldn’t be fixated on arbitrary numbers like 4%. Looks from a quick survey I just did that you can still get a five-year fixed rate mortgage at 4.4 to 4.6 per cent. That’s not bad by historical standards at all.

11:41
Rob Carrick:

Brock, you raise a good point about having only five years of rate certainty. About a month or so ago, I was thinking that 10-year mortgages looked like a pretty darn good deal at just over 5 per cent. Wrote a column on this, but few seemed to agree with me. Bet I’ll be vindicated in the long run.

11:42
[Comment From BrockBrock: ]

Rob, I do think you will be vindicated on the 10 year and I agreed with you then.

11:42
[Comment From HenricHenric: ]

You’re always vindicated, Rob!

11:43
Peter Majthenyi AMP:

Bo … if you took a fixed rate then that is the actual rate TD used to determine your quailfying ratios. Your point is well taken though; you should budget that upon renewal a fixed rate should be more like 5-6%. Start planning for that now and also consider your household income maybe higher? If fixed rates will be say 6% at renewal time, you can expect variable to be about 4% – so the odds are good you’ll choose variable next time out. Finally, if absolutely necassary; TD will re-amortize your mortgage to 35 years to keep your monthly mortgage payment low!

11:45
Rob Carrick:

Bo, what I take from Peter’s answer is that there are a number of options for people who have to renew mortgages at higher rates. Yes, rates are rising. Yes, people will have to pay more in some cases. But there’s flexibility built into the system that can help take the stress off for homeowners. We can work it out, in other words.

11:45
[Comment From LukeLuke: ]

Good morning, can you clarify the overnight and prime rate. Currently the overnight is 0.25% and prime is 2.25% right? Is there always a difference between the two rates of 2%?

11:48
Peter Majthenyi AMP:

CAUTION: All of us should be careful that we are differentiating “Interest Rate” and the “Interest Paid” – there’s a BIG difference. It is important to understand what decisions we are making now to pay less interest over the life of our mortgage … in otherwords, forget the rate and focus on how much interest we will pay to own our houses out right????

11:50
Rob Carrick:

Luke, the overnight is what the Bank of Canada uses for lending between financial institutions and has zero applicability to your life other than to serve as a benchmark for the prime rate. That’s the rate the banks charge their top customers. Borrowing “at prime” is primo. Not sure if the current 2% overnight-prime differential is standard — some weird stuff happened in 2007-08 — but even if it’s not, it’s still in the ballpark. Borrowers don’t need to worry so much about where the overnight and prime rates are now — the issue is how much they rise. A rise in the overnight rate will mean an identical rise in the prime.

11:51
[Comment From MarcMarc: ]

Rob, thanks for the historical perspective. It helps a lot. How much scope is there to negotiate rates, either fixed or variable, and does this depend on the type of lender (bank, e-banks (eg ING, PC Financial) or other types of lenders

11:55
Rob Carrick:

Marc, negotiating’s pretty much unnecessary if you use a mortgage broker. They’re all about cutting through the bank B.S. over rates and simply linking borrowers with solid deals. If you’re a customer of one of the big banks, then there is always room to negoatiate. How successful you are depends on your leverage, which is to say how much business you do with the bank. Believe me, banks do not way good clients to move on account of a difference of half a percentage point on a mortgage. AS for alternative banks like ING, don’t believe there’s much wiggle room there at all.

11:58
The Globe and Mail:

Unfortunately we’ve run out of time for today – apologies to everyone who submitted questions we weren’t able to get to. Thanks to Rob and Peter for their insights. Gentlemen, any last words of advice?

12:00
Rob Carrick:

Thanks for the questions, everyone. My parting advice is to go with your gut when looking at variable-rate versus fixed rate. The potential angst of picking the wrong mortgage type is more powerful than the buzz you’ll get from picking right. And I should stop using right and wrong in cases like this. You make the decision that’s best for you. Period, end of story.

12:01
Peter Majthenyi AMP:

There’s 52 Mortgagees currently who all really really want our business, and even if the rate is the same it doesn’t mean the mortgages are alike. Typically a lenders biggest fear is an informed consumer. Mortgage Planners/Brokers are all about education where lenders are not. Planning is everything, and implementation afterwrards is a “Snap”. Again, lenders do not build an independent/individual mortgage plan for you – you’ have to do that on your own (or with the help of a broker) because the lender is just the supplier.

12:01
The Globe and Mail:

Thanks for reading, everyone – have a great day.

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