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Mortgage Tips - Fixed vs Variable Rates
A fixed rate does not change during the life of that term. If it is a five year term, the rate stays the same for the entire 5 years. You have the security of knowing exactly what your interest rate will be 4 years from now. Regardless of whether rates go up or down, your rate remains fixed and will not change.
Rates that are not fixed are either:
- Variable
- Adjustable
Adjustable rates are pegged to a floating rate, usually the prime rate used by the major banks. As the prime rate goes up or down, the adjustable rate does also, perhaps with a monthly or quarterly adjustment. Adjustable Rate Mortgages are also referred to as ARMs. The payment withdrawn from your account is not always the same, but you should receive updates regularly from the lender advising you of changes to your rate. Most ARMs have a built in provision or option, that you can convert this mortgage to a fixed rate mortgage, at any time, at no extra cost. Rates may be stated as prime minus 0.1% or prime minus 0.5% which in today’s market would convert to 4.15% or 3.75%. A client may have a CMHC surcharge to pay with this kind of rate.
Variable rates are also pegged to a floating rate, but the payments are fixed. The adjustmenthappens internally, dictating how much of your payment goes to principal and how much goes to interest. As the types of payments do not require the same ongoing maintenance, there is no surcharge for them from CMHC . Again, the rate may be based on prime or a particular fixed rate posted regularly by that lender. Some lenders have a capped variable rate product which gives you the best of both worlds. Even if interest rates rise sharply, you are guaranteed that they will not surpass the maximum rate set out in your mortgage.
Studies have shown time and time again, that there is an advantage to staying with an adjustable or variable rate as opposed to a fixed one. It is something that must be at least looked at by every homeowner or perspective home owner. This option has a REAL POWER because it gives you the opportunity to put twice or even three times the amount against your principal each month that prime rates remain low.
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